Wake-Up Call on Cash-Balance Pensions
Rosenblatt, Robert A., Aging Today
Thirty years on the job, a gift certificate, a farewell party from fellow workers-and the solid monthly pension check you have anticipated for years. Wake up! That was your father's reality, if he was lucky enough to work for a major corporation-but your retirement may ride a much riskier financial roller coaster.
In December, the U.S. Treasury Department lifted its freeze on cash-balance pension programs, clearing the way for companies to adopt this retirement-planning tool. In cash-balance plans, employers set aside a percentage of an employee's salary and guarantee a steady interestrate return on the contributions. Such plans are often a boon for younger workers, allowing them to build up retirement accounts more quickly and giving them money they can take with them as they move from job to job. That may be a good thing in an era when fewer employers are likely to make a lifetime commitment to a single worker.
The downside is that cash-balance pensions can wreak havoc with the security of older workers, people in their 50s or older. A company's switch to this new kind of pension can cut substantially into the monthly check that older workers will get when they retire. The differences can be significant, as much as a 25% or greater reduction in the final pension, compared with the amount a worker had been expecting.
More than 20 million people work in the United States for companies offering traditional defined-benefit pensions, the kind that offer a monthly retirement check linked to a person's salary during the last few years of work-the peak of one's earnings at the firm-and to the length of time at the company. These are the people potentially at risk with cashbalance pensions.
Changing to a cash-balance program is equivalent to "a pension pay cut for older. workers unless they get adequate transition protection," according to J. Mark Iwry, who served as tax counsel at the Treasury Department during the Clinton Administration.
The risk comes in the rules that a company establishes when it switches to a cash-balance program. Customary pensions are heavily back-loaded, which means a significant portion of the benefits accumulate during the employee's last decade at work. This situation can change under a cash-balance plan, with the build-up drastically slowing for workers over the ages of 45 or 50. The result is a much smaller pension than their earlier expectations-based on the company's promises-led them to anticipate.
The calculations and rules are so complicated that it takes an accountant or an actuary to grasp their intricacies fully. That is why there was no protest during the19801os and most of the 1990s when hundreds of companies made the switch from customary to cas-balance pensions. The first complaints came in 1999 from IBM employees, who had the curiosity and the computer skills to figure out that their company was making changes that could cost workers hundreds of thousands of dollars in lost retirement income. IBM workers held rallies, lobbied members of Congress and blitzed the press with their issue. The company altered its plan; many workers were given additional protections and allowed to stay under the terms of the old pension program. The Treasury Department, through the Internal Revenue Service (IRS), which regulates the tax benefits of pension plans, put a moratorium on any new plans. Most corporations stopped initiating cash-balance plans, and the few that went ahead did so without assurance that the IRS would eventually sanctify the company's pensions as tax deductible.
Now that this frieze in Washington has ended, many companies may now consider switching to the cash-balance programs. Reductions in pension checks to older workers simply save money for the firm. In recent years, corporate managers have seen pension programs become a drain rather than a boon to profits. During the stock market surge of the 1980s and 1990s, corporate pension plans enjoyed the bonanza of ever-rising balances. …