Proposed Rule Threatens to Shrink Older Workers' Pensions
By: Source: AARP Bulletin Today Date Posted: 2003-02-01 11:41:00-05:00
Millions of midlife workers vested in corporate pension plans could find their retirement income diminished if a proposed shift in federal policy goes through.
New rules proposed by the U.S. Treasury Department would give a green light to companies that want to convert their traditional pension plans into so-called "cash balance" plans. Unless strong opposition emerges, the rule change could be effective as early as April.
"That would be bad news for mid- or late-career workers," says Karen Friedman, an official with the Pension Rights Center, a nonprofit advocacy group in Washington.
She points out that when employers switch to such plans, older workers often see their expected retirement benefits shrivel dramatically—sometimes by as much as 50 percent.
Treasury Department officials sponsoring the rule change disagree. They say the switch from traditional to cash balance pensions can be done in a way that's fair to all age groups.
LONGEVITY VS. JOB HOPPING
Controversial as cash balance plans may be, they resemble traditional pensions in important ways. They are both funded and managed by employers, requiring no investment decisions by employees.
But benefits accrue differently under the two types of plans. Traditional plans provide less in the early years but reward longevity with a big spike in benefits near the end of long-term workers' careers.
Cash balance plans are more generous to workers who stay for the required vesting period (usually five years) but not their entire careers. Job hoppers can roll their assets into an IRA or another employer's plan when changing jobs.
Cash balance plans provide more modest benefits than traditional plans but at a steadier rate of growth. They take away the spike.
If implemented abruptly, such a change can undermine the planning of those nearing retirement. "[Just as] the worker comes close to getting the golden ring, the rules of the game are changed," observes Gary Burtless, a senior fellow at the Brookings Institution, a nonpartisan think tank in Washington. "Yep, and it is a very bitter experience."
So bitter that thousands of midlife workers protested in the late 1990s when companies such as IBM, Bell Atlantic (now Verizon) and AT&T started replacing their traditional pensions with cash balance plans. Employees at those and other companies filed class action lawsuits against their employers charging age discrimination.
A few firms, such as IBM, later revised their plans to give some older workers the option of switching to the cash balance plan or remaining in the traditional plan.
PROBING AGE DISCRIMINATION
But protests continued. Hundreds of workers facing reduced pensions charged age bias in complaints filed with the Equal Employment Opportunity Commission. During the Clinton administration, the Internal Revenue Service quit approving cash balance plans to look into charges that such plans violated federal laws, including the law barring age discrimination in employment. Should the Treasury's new rules become final, the moratorium will end.
The change is overdue, says James Klein, president of the Washington-based American Benefits Council, which represents employers. "Companies that have established [cash balance] plans should be applauded, not criticized," he says, for funding a kind of plan "that makes sense for the realities of [today's mobile] work force."
One reason employers may prefer cash balance plans is that they cost less than traditional plans. The switch may be especially appealing now, because in this economy some companies with traditional plans are having a hard time keeping them sufficiently funded to meet long-term obligations.
"We don't have the authority to stop companies from amending their plans," William F. Sweetnam Jr., benefits tax counsel at the Treasury, tells the AARP Bulletin. "What we say is, if you do amend your plan, you have to do it in a way that is fair to all employees." He says the new rules instruct employers to follow certain age-neutral guidelines.
But the proposed regulations are flawed, contends David Certner, AARP director of federal affairs. "They don't go far enough toward protecting older workers who made career decisions years ago based on the promise of certain retirement benefits in later life."
What's more, adds pension advocate Friedman, the rule change could open the floodgates to firms switching to cash balance plans.
"Our fear," she says, "is if these proposed regulations go through, there could be a stampede of companies doing these conversions in a way that effectively robs older workers of benefits."
THE RISKS OF CONVERSION
How a long-term employee can be disadvantaged by a cash balance conversion is illustrated by the case of Kathi Cooper, 52, the lead plaintiff in the 1999 IBM suit. Cooper, an accountant at IBM for 24 years, claims to have lost hundreds of thousands of dollars in retirement income due to its pension conversion.
Cooper attributes a large part of her loss to something called "wear-away," an aspect of cash balance conversions that experts say the proposed rules would not prohibit.
"Wear-away" is a process—sometimes lasting years—during which an older worker caught in a cash balance conversion accrues no new pension credits while the worker's balance in the new plan catches up with what he or she already earned in the old. That wear-away process, critics say, can erode a worker's expected pension dramatically.
The new rules aren't final yet. That won't happen until a public comment period ends and a public hearing takes place. [See Express Your Views.]
But it may be an uphill battle to persuade the Treasury to change the rules to help older workers, says Ron Gebhardtsbauer, senior pension fellow at the American Academy of Actuaries. Federal pension laws protect benefits earned to date but not projected benefits, he says, nor workers' expectations.
GETTING CONGRESS TO ACT
Congress could strengthen pension laws to provide "a soft landing for older workers" in cash balance conversions, says J. Mark Iwry, who served as the benefits tax counsel at the Treasury Department from 1995 to 2001.
Some companies, such as Kodak, have voluntarily mitigated adverse effects for older workers by giving them a choice between the old and new plans. Other companies, such as IBM and Wells Fargo, have grandfathered some older workers into the traditional plan, depending on their age and length of service.
Congress could require companies to provide older workers with various options, Iwry suggests.
Sen. Tom Harkin, D-Iowa, and Rep. Bernard Sanders, I-Vt., have vowed to push bills that would require firms converting to cash balance plans to give workers vested in the company's traditional plan a choice between staying in the old plan or switching to the new one.
POINT AND COUNTERPOINT
Senate Minority Leader Tom Daschle of South Dakota introduced a bill including such a provision (S. 9) in January. But strong opposition is expected from employers.
Much is at stake, pension advocates say. "The trend is apparent," says AARP legislative representative Frank Toohey. "Firms starting new plans are going to choose cash balance, and companies will continue to shift from traditional to cash balance plans. Our primary concern," he says, "is to protect older workers as their firms make the switch."
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