C ASH B ALANCE P ENSION P LAN C ONVERSIONS
J ONATHAN B ARRY FORMAN *
A MY N IXON**
One of the hottest issues in the pension world today involves
companies replacing their traditional pension plans with cash
balance plans. A cash balance plan is a pension plan that looks
like a bank account or a 401(k) plan. The problem is that
replacing a traditional pension plan with a cash balance plan will
reduce the expected pension benefits of older workers. As a result,
older workers can see their future pensions cut—in some cases
deeply. Not surprisingly, many of these older workers have felt
cheated, and they have filed a number of lawsuits to stop these socalled cash balance conversions.
This Article considers the various legal issues that are
raised by cash balance conversions. In particular, this Article
considers whether these conversions violate the Employee
Retirement Income Security Act (ERISA) or the Age Discrimination
in Employment Act (ADEA). The Article concludes that the typical
cash balance conversion will not violate these laws. As long as the
conversion protects the already-accrued benefits of older workers,
ERISA will be satisfied. And, as long as post-conversion benefit
allocations are nondiscriminatory, ADEA should be satisfied.
* Copyright 2000. Jonathan Barry Forman. Profes sor of Law, Univer sity of
Oklahoma; B.A. 19 73, Nor thwes tern Univer sity; M.A. (Psychology) 19 75, Un ivers ity of
Iowa; J.D. 197 8, Uni versi ty of Michigan; M .A. (Economics) 1983 , George Wash ington
Uni versity. Delegate to the 1998 National Summit on Retirement Savings. The authors
wish to thank Kyle N. Brown, Jeremy F. Citro, Ron Gebhardtsbauer, Alvin D. Lurie,
Patrick J. Purcell, Bruce D. Pi ngree, Richard C. Shea, Mark J. Ugoretz, and Edward A.
Zelinsky for their helpful comments and insights.
** Attorney for The Williams Compa nies , Inc., Tulsa, Okl ahoma; B achel or of
Accountancy 1997, University of Oklahoma; J.D. 2000, University of Oklahoma.
379
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I. INTRODUCTION
One of the hottest issues in the pension world today involves companies
replacing their traditional pension plans with so-called cash balance plans.1
A cash balance plan is a defined benefit plan2 that looks like a bank account
or a 401(k) plan. 3 A cash balance plan accumulates, with interest, a
hypothetical account balance for each worker.4 The individual account
1. See, e.g., Lee A. Sheppard, The Down-Aging of Pension Plans, 82 TAX NOTES 171
(1999); Jonathan Barry Forman, Sheppard Way Off Base on Cash Balance Plans, 82 TAX
NOTES 723 (1999) (letter to the editor); Colleen T. Congel, Cash Balan ce Plans Draw
Praise, Criticism, 26 Pens. & Ben. Rep. (BNA) 656 (Mar. 1, 1999); Hope Viner Samborn,
Now You See It, Now You Don’t, 85 A.B.A. J . 34 (Nov. 1999); E llen E. Schult z, Ins and
Outs of “Cash-Balance” Plan, WALL ST . J., De c. 4, 1998 , at C1; E llen E. Schult z, Pension
Paternity: How A Single Sentence by the IRS Paved the Way to Cash Balance Plans, WALL
ST . J., De c. 28, 1999, at A1; Alvin D. Lurie, Defined-Benefit Plan Still The Best Pension,
WALL ST . J., Jan. 17, 2000, at A19 (letter to the editor); Jon Forman, Cash Balance
Pension Plans, J. REC., Sept. 8, 1999, at 5, 16 [hereinafter Cash Balance Plans]; Mary
Beth Franklin, Balancing Act, KIPLINGER’S PERS. FIN. MAG., Dec. 1999, at 122; Christine
Dugas, Pension Partisans Fight for Retirement Security; Advocates Urge Companies to
Raise Benefit Payments, USA TODAY , June 12, 2000, at 1B.
2. See infra Part II.A.1; Jonathan Barry Forman, Universal Pensions, 2 CHAPMAN L.
REV. 95, 99 (1999).
3. See I.R.C. § 401(k) (1994 & Supp. 1998). Under a 401(k) plan, a worker can
choose between receiving cash currently or deferring taxation by placing the money in an
employer-sponsored reti remen t accoun t. Consequentl y, they ar e somet imes ca lled cash or
deferred arrangements (CODAs). See, e.g., JOHN H. LANGBEIN & BRUCE A. WOLK ,
PENSIONS AND EMPLOYEE BENEFIT LAW 50-54 (3d ed. 2000).
4. See generally Carol Quick, An Overview of Cash Balance Plans, EBRI NOTES , July
1999, at 1; Patrick J. Purcell, Pension Issues: Cash-Balance Plans, CRS REP. FOR
CONGRESS (Sept. 2, 1999); Sharyn Campbell, Hybrid Retirement Plans: The Retirement
Income System Continues to Evolve, EBRI SPECIAL REPORT NO. 32/ISSUE BRIEF NO. 171,
Mar. 1996; Robert R. Mitchell, Cash Balance Pension Plans, J. PENS. BEN., Summer 1999,
at 25; David A. Pratt, Focus on . . . Cash Balance Plans, J. PENS. BEN., Spring 2000, at 34;
EMPLOYEE BENEFIT RESEARCH INSTITUTE (EBRI), FUNDAMENTALS OF EMPLOYEE BENEF IT
PROGRAMS, ch. 10 (5th ed. 1997); Dennis R. Coleman, The Cash Balance Pension Plan,
THE PENSION FORUM, Oct. 1998, at 21; Paul V. Strella, Specialized Qualified Plans —
Cash Balance, Target, Age-Weighted and Hybrids, 352-2nd Tax Mgmt. (BNA) (1994)
available in LEXIS, BNA Library, TMUS File (Apr. 27, 2000); Maureen B. Ratigan, Cash
Balance Plans: One Option in a Competitive World, J. PENS. BEN., Autumn 1999, at 4;
Larry Sher, A Workable Alternative to Defined Benefit Plans, CONTINGENCIES , Sept.-Oct.
1999, at 20; Norman H. Godwin & Kim G. Key, An Overview of Cash Balance Pension
Plans, 26 J. PENS. PLAN. & COMPLIANCE 58 (2000); Alvin D. Lurie, Cash Balance Plans
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Cash Balance Pension Plan Conversions
381
balances are determined by the plan’s benefit formula and consist of two
components: an annual cash balance credit and an interest credit.
For example, a simple cash balance plan might allocate 5% of salary to
each worker’s account each year and credit the account with 7% interest on
the balance in the account. Under such a plan, a worker who earned $30,000
in a given year would get an annual cash bala nce credit of $1500 (5% x
$30,000), plus an interest credit equal to 7% of the ba lance in her
hypothetical account as of the beginning of the year. Like bank accounts and
401(k) plans, workers find that cash balance plans are easy to understand. 5
So what’s the problem? Simply put, replacing a traditional pension plan
with a cash balance pla n will reduce the expected pension benefits of older
workers.6 Many older workers will see their future pensions cut—in some
cases deeply.7 No doubt, these older workers will feel cheated, 8 and some
Examin ed, 7 J. TAX’N EMPLOYEE BEN. 227 (2000); Stanley D. Baum, Cash Balance Plans
Address ed, 92 J. TAX’N 165 (2000).
5. See, e.g., Mitchell, supra note 4, at 28.
6. See Quick, supra note 4; Purcell, supra note 4; Alvin D. Lurie, Cash Balance
Plans: Enigma Variations, 85 TAX NOTES 503 (1999); Towers Perrin, Cash Balance Plans:
Time Out
for
Facts
(visited Sept. 8, 2000)
<http://www.towers.com/towers/publications/
mon9910.pdf> [hereinafter Time Out for Facts]; Alex T. Arcady & Francine Mellors, Cash
Balance Conversions, AICPA J. ACCT. ONLINE (Feb. 2000) (visited Aug. 26, 2000)
<http://www.aicpa.org/pubs/jofa/joaiss. htm>; Rosina B. Barker & Kevin P. O’Brien, From
the Editors—PensionCabal .com—Ruminati ons on the Cash Balance Crisis, BENEFITS L.J.,
Winter 1999, at 1, 5.
7. See, e.g., Congel, supra note 1; Sheppard, supra note 1.
8. Treasury Benefits Tax Counsel J. Mark Iwry recently summarized the problem as
follows:
Most of the recent controversy relating to the use of cash balance pension plans
has focused on conversions of traditional defined benefit plan structures into
cash balance plans. When an employer amends a defined benefit plan that has
a traditional final average pay defined benefit formula to provide for a cash
balan ce plan formula, th ere i s a very real ch ange in accrual patterns that can
adversely affect certain workers. Older workers who were nearing the peak
years of their economic accrual under the traditional plan formula will be
deprived of the opportu nity to r eali ze thos e large accruals. These workers
might quite understandably view the plan change as tantamount to a pay cut.
Hearing on Hybrid Pension Plans Before the Senate Comm. on Health, Educ., Labor and
Pens., 106th Cong., 1st Sess., (1999 ) (pr epared testimony of J. Mark Iwry, Benefits Tax
Counsel, Department of the Treasury, Washington, D.C.) (visited Aug. 26, 2000)
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attorneys for older workers argue9 that cash balance plan conversions violate
the Employee Retir ement Income Security Act (ERISA) 10 and the Age
Discrimination in Employment Act (ADEA).11
Not surpr isingly, a number of older workers have filed lawsuits to stop
these conversions,12 and they have complained to Congress,13 the Executive
Branch, 14 and the media.15 So far, however, Congress and the Executive
Branch have been decidedly laissez faire about these cash balance plan
conversions. With the economy booming, government officials don’t seem to
want to impose costly limits on the ability of corporations to restructure their
<ht tp:/ /www.senate.gov/~labor/Hearings1999/septhear/092199wt/092199wt.htm>
[hereinafter Hearing on Hybrid Pensions].
9. See, e.g., Hearing on Pension Reform Before th e Senate Com m. on Finance, 106th
Cong., 2d Sess. (1999) (prepared testimony of Robert F. Hill, Esq., Trial Attorney, Denver,
Co.) (visited Sept. 11, 2000) <http://www.senate.gov/~financew16-30.htm> [hereinafter
Hearing on Pension Reform]; see also Hearing on the Cash Balance Conundrum Before
the Senate Special Committee on Aging, 106th Cong., 2d Sess., (2000) (prepared testimony
of James A. Bruggeman, Employee of Central and South West Corporation, Tulsa,
Oklahoma; prepared test imony of Joseph Perkins, Immediate Past President, AARP,
Washington, D.C.; prepared testimony of Karen W. Ferguson, Director, The Pensions
R i g h t s C e n t e r , W a s h i n g t o n , D . C . ) ( v i s i t ed A u g. 2 6 , 2 0 0 0 )
<http://www.senate. gov/~aging/hr51.htm> [hereinafter Hearing on Cash Balance]. Video
access to the hearing is avail able at <http://www.s enate.gov/~aging/events.ht m>.
10. Employee Retirement Income Security Act (ERISA) of 1974, Pub. L. No. 93-406,
88 Stat. 829 (codified as amended in scatt ered secti ons of 26 and 29 U.S.C.) [hereinafter
ERISA]. Titles I, III, and IV of ERISA are codified as amended at 29 U.S.C. §§ 1001-1461
(1994 & Sup p. 1998). Provision s of Ti tle s I, III, and IV of ERISA are often cited to ERISA
sections. Title II of ERISA amended scattered sections of the Internal Revenue Code. See
I.R.C. §§ 1-9833 (1994 & Supp. 1998).
11. See Age Dis crimination in Employment Act (ADEA) of 1967, Pub. L. No. 90-202,
81 Stat. 602 (codified at 29 U.S.C. §§ 621-634) (1994 & Supp. 1998).
12. See, e.g., William K. Carr, Amended Tax Court Petition: Seidlitz v. Commissioner,
TAX NOTES TODAY , Aug. 27, 1999, available in WL, Doc. 1999-27983, 1999 TNT 166-9;
William H. Tobin, Cash Balance Pension Plans: Seidlitz v. Onan, J. PENS. BEN., Spring
2000, at 7.
13. See discussion of the legislative response, infra Part V.A.
14. See, e.g., IRS Tax Correspondence, 86 TAX NOTES 56 (2000).
15. See, e.g., Schultz, supra note 1; Congel, supra note 1.
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Cash Balance Pension Plan Conversions
383
pension plans.16 And, so far, the courts have been less than receptive to the
pension law and age discrimination complaints of older workers.17
All in all, the objections of older workers have done little to slow the
steady stream of cash balance plan conversions. More t han 400 mid-sized
and large companies have already shifted to cash balance plans, including at
least twenty-two of the Fortune 100 companies.18 So far, more than seven
million workers are already covered by cash balance plans.19
But is it legal? Should companies be allowed to replace their traditional
pension plans with cash balance plans? In general, the United States has
what is called a “voluntary” pension system.20 That is, the federal
government does not require employers to provide pension benefits to their
workers. If an employer chooses to provide pension benefits, however, the
Employee Retirement Income Security Act (ERISA) governs how those
benefits are to be provided. ERISA generally ensures that workers will
actually receive the pension benefits that their employers have promised
them.
Does that mean that a company has to stick with a traditional pension
plan that it designed fifty years ago? Under current law, the answer is
generally no.21 Employers are free to terminate their pension plans or amend
16. See Cash Balance Plans, supra note 1. Congress has held a few hearings on cash
balan ce plan convers ions, and it is con side ring l egisl ation that would require employers to
give their workers more information about proposed pension plan changes. The Execu tive
Branch is also supportive of disclosure legislation, and the Department of Labor, the
Internal Revenue Service, and the Equa l Employment Opportunity Commission are also
studying cash balance plans. See, e.g., Colleen T. Congel, Cash Balance Plans: Disclosure
Bill Introduced in House, Senate; Lawmakers, Agency Officials Praise Proposal, 26 Pens.
& Ben. Rep. (BNA) 2395 (Oct. 11, 1999); Colleen T. Congel, Cash Balance Plans: Sen.
Grassl ey Urges Trea sury at Hearing to Conc lude it s Cash Ba lance Rev iew, 27 Pens. &
Ben. Rep. (BNA) 1420 (June 13, 2000) [hereinafter Congel, Senator Grassl ey].
17. See, e.g., Goldman v. First Nat’l Bank, 985 F.2d 1113 (1st Cir. 1993) (affirming
the dismissal of an age discrimination suit that implicated a cash ba lance plan conversion);
but see Lyons v. Georgia Pac. Corp. Salaried Employees Retirement Plan, No. 99-10640,
2000 U.S. App. LEXIS 19180 (11th Cir. Aug. 11, 2000) (holding that, after a cash balance
conversion, the Georgia Pacific plan violated ERISA when it failed to properly compute
Lyons’ lump-sum distribution).
18. See Congel, supra note 1, at 656.
19. See id.
20. See, e.g., Daniel Eisenberg, The Big Pension Swap Accounts That Yield Benefits
Sooner are Replacing Traditional Plans, but Older Workers are Crying Foul, TIME, Apr.
19, 1999, at 36.
21. See infra Part IV.
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them—with only one major caveat: employers can never reduce the benefits
that a worker has already ear ned.22 Employers can cut future benefit
accruals, but they cannot cut the amount of pension benefits that workers
have already accrued. In short, ERISA does seem to permit employers to
amend their traditiona l pension plans and thereby convert them into cash
balance plans for future years.
Another possible limit on cash balance plan conversions can be found in
the Age Discrimination in Employment Act (ADEA). That Act generally
makes it unlawful to pay older workers less than younger workers for the
same work. But it is difficult to see how older workers can use ADEA to
overturn the typical cash balance plan conversion. No cour t has suggested
that ADEA protects an older worker’s right to backloaded benefit accruals
in the future.
All in all, older workers may feel cheated when their employers replace
traditional pension plans with cash balance plans, but current law seems to
permit these cash balance conversions. As long as an older worker’s accrued
benefit is protected, ERIS A should be satisfied. As long as future benefit
allocations are nondiscriminatory, ADEA should be satisfied. And, as long
as Fortune 500 companies want to make these changes, Congress and the
Executive Branch are unlikely to interfere in any substantive way.
The purpose of this Article is to consider the various legal issues that are
raised by these cash balance conversions.23 At the outset, Par t II of this
Article provides an overview of cash balance plans, and Part III explains
how cash balance conversions work. Next, Part IV of this Article discusses
the legality of cash balance conversions. In particular, Part IV considers
whether these conversions violate ERISA or ADEA. Finally, Part V
discusses proposed legislative and regulatory responses.
22. See I.R.C. § 411(d)(6) (1994). See also Hearing on Hybrid Pensions, supra note
8 (prepared testimony of Stuart L. Brown, Chief Counsel for the IRS, Washington, D.C.).
There are other deterrents to terminating a defined benefit plan, however. For
example, an employer that terminates an overfunded defined benefit plan and recovers the
excess assets can be liable for a nondeductible 50% excise tax on the amount of the
reversion. See I.R.C. § 4980 (1994 & Supp. 1998 ). Also, if a plan is terminated, then all
participants will vest in their accrued benefits, even if they have not yet met the plan’s
normal vesting requirements (e.g., five years of service). See id. § 411(d)(3) (1994).
23. See Edward A. Zelinsky, The Cash Balance Controversy, 19 VA. TAX REV. 683
(2000); Richard C. Shea et al., Age Discrimination in Cash Balance Plans: Another View,
19 VA. TAX REV. 763 (2000); Rosina B. Barker & Kevin P. O’Brien, Do Cash Balance
Plans Violate the ADEA?, BENEFITS L.J., Summer 2000, at 75.
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385
II. BACKGROUND ON CASH BALANCE PLANS
This Part provides an overview of pension pla ns, in general, and cash
balance plans, in particular.
A. An Overview of Private Retirement Plans
Most private retirement plans are governed by the Employee Retirement
Income Security Act (ERISA).24 These private retirement plans typically
qualify for favorable tax treatment under the Internal Revenue Code.
Basically, an employer’s contributions to a tax-qualified pension plan on
behalf of an employee are not taxable to the employee. 25 Nevertheless, the
employer is allowed a current deduction for these contributions (within
limits).26 Moreover, the pension fund’s earnings on these contributions are
tax-exempt.27 Workers pay tax only when they receive distributions of their
pension benefits,28 and, at that point, the usual rules for taxing annuities
apply. 29
Employer-sponsored retirement plans generally fall into two broad
categories based on the nature of the benefits provided: defined benefit plans
and defined contribution plans. These are discussed in tur n.
1. Defined Benefit Plans
In a defined benefit plan, an employer promises employees a specific
benefit at retirement. To provide this benefit, the employer makes payments
into a trust fund and makes withdra wals from the tr ust fund. 30 Employer
24. See Employee Retirement Income Security Act (ERISA) of 1974, Pub. L. No. 93406, 88 Stat. 829 (codified as amended in scattered sections of 26 and 29 U.S.C.). See, e.g.,
JOINT COMMITTEE ON TAXATION, 106TH CONG., 1ST SESS., OVERVIEW OF PRESENT-LAW
TAX RULES RELATING TO EMPLOYER -SPONSORED RETIREMENT PLANS (Comm. Print
JCX-16-99, Mar. 22, 1999) <http://www.house.gov/jct/x-16-99.htm>; Forman, Universal
Pensions, supra note 2, at 99-101.
25. See I.R.C. § 402 (1994 & Supp. 1998).
26. See id. §§ 404, 4972.
27. See id. § 501(a) (1994).
28. See id. § 402(a).
29. See id. § 72 (1994 & Supp. 1998).
30. See Pamela C. Scott, Qualified Defined Benefit Plans: The Essentials, in
UNDERSTANDING ERISA 1998, at 33, 36 (PLI Tax Law & Practice Course Handbook Series
No. J-421,1998), available in WL, 421 PLI/Tax 33, 36.
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contributions are based on actuarial valuations, and the employer bears all
of the investment risks and responsibilities.31 Benefits are guaranteed by the
Pension Benefit Guaranty Corporation. 32
Defined benefit plans typically provide each worker with a specific
annual retirement benefit that is tied to the worker’s average
compensation and number of years of service. For example, a
[typical “final average pay”] plan might provide that a worker’s
annual retirement benefit (B) is equal to 2% times years of service
(yos) times final average compensation (fac) (B = 2% x yos x fac).
Under this formula, a typical worker with 30 years of service would
receive [an annual] retirement benefit equal to 60% of her
preretir ement earnings (B = 60% x fac = 2% x 30 yos x fac). Final
average compensation is typically computed by averaging the
worker’s salary over the three [or five] years immediately prior to
retirement.33
“Career average pay” plans pay benefits based on compensation averaged
over a much greater number of years of service, say, thirty rather than five.34
2. Defined Contribution Plans
Under a typical defined contribution plan, the employer simply
contribu tes a specified percentage of the worker’s compensation to an
individual investment account for the worker. For example, contributions
might be set at 5% of annual compensa tion. Under such a plan, a worker
who earned $30,000 in a given year would have $1500 (5% x $30,000)
contributed to an individual investment account for her. Her benefit at
retirement would be based on all such contributions plus investment earnings
thereon. There are a variety of different types of defined contribution plans,
31. Because the employer bears the risk, the employer also keeps any investment gains
and may use the gains to reduce contributions. On the other hand, a defined benefit plan
can easily become underfunded because of a decline in value of the pension fund’s
investment portfolio or even beca use of changes in the employer’s work force (such as
increasing life expectancies).
32. See ERISA §§ 4001-4402, 29 U.S.C. §§ 1301-1461 (1994 & Supp. 1998);
EMPLOYEE BENEFIT RESEARCH INSTITUTE, supra note 4, ch. 3; JAY CONISON, EMPLOYEE
BENEFIT PLANS IN A NUTSHELL 424-54 (2d ed. 1998).
33. Forman, Universal Pensions, supra note 2, at 99.
34. See EMPLOYEE BENEFIT RESEARCH INSTITUTE (EBRI), supra note 4, at ch. 5.
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Cash Balance Pension Plan Conversions
387
including money purchase pension plans, target benefit plans, profit-sharing
plans, stock bonus plans, and employee stock ownership plans (ESOPs).
Profit-sharing and stock bonus plans may include a 401(k) feature which
allows workers to choose between receiving cash currently or deferring
taxation by placing the money in a retirement account.35 Consequently, they
are sometimes called cash or deferred arrangements (CODAs). The
maximum annual amount of elective deferrals that can be made by an
individual in 2000 is $10,500.36
3. Hybrid Plans
Alternatively, many companies rely on so-called “hybrid” retirement
plans that mix the features of both defined benefit and defined contribution
plans.37 Pertinent here, a cash balance plan is a defined benefit plan that
looks like a defined contribution plan. 38 Like other defined benefit plans,
employer contributions are based on actuarial valuations, and the employer
bears all of the investment risks and responsibilities. Like defined
contribution plans, however, cash balance plans provide workers with
individual accounts (albeit hypothetical).
Similarly, a so-called “target benefit plan” is a defined contribution plan
that looks like a defined benefit plan. A target benefit plan uses a defined
benefit formula to establish a “target” benefit for each participa nt. The
employer contributions for each participant are actuarially determined to
achieve this goal, but this “target” benefit is not guaranteed. Instead, a
worker’s ultimate retirement benefit is based on the actual balance in the
worker’s individual account.
35. See I.R.C. § 401(k) (1994 & Supp. 1998).
36. See IRS News Release No. IR-1999-80, reprinted at Pens. Plan Guide (CCH) ¶
17,034I.
37. See generally Campbell, supra note 4; Kelly Olsen & Jack VanDerhei, Defined
Contribution Plan Dominance Grows Across Sectors & Employer Sizes, While Mega
Defined Benefit Pl ans Remai n Stron g: Where We Are and Where We Are Going, EBRI
SPECIAL REPORT NO. 33—ISSUE BRIEF NO. 190, Oct. 1997, at 27-29; Peter J. Alles, What’s
on the Menu Today? Hybrid Retirement Plans, EMPLOYEE BENEFITS PRAC., 1st Quarter
2000, at 1.
38. See infra Part II.B.
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Still another approach is for an employer to offer a combina tion of
defined benefit and defined contribution plans. For example, many
companies with traditional defined benefit plans have added 401(k) plans.39
4. Traditional Defined Benefit Plans Are Backloaded
Pension benefits typically accrue differently under defined benefit and
defined contribution plans. In particular, under a traditional (i.e., final
average pay) defined benefit plan, benefit accruals increase significantly the
closer a worker gets to retirement. On the other hand, under a defined
contribution plan, benefits accrue at a constant rate (e.g., 10% of annual
compensation).
Indeed, one of the most obvious features of traditional final average pay
pensions is that they are “backloaded.” That is, they tend to
disproportionately favor older workers who have stayed with the company
for twenty-five or thirty years. The primary reason for this backloading is
that the value of benefit accruals typically increases as a percentage of pay
as workers approach retirement age.40 In fact, well over half of the value of
a worker’s pension can accrue in the last five or ten years of service. 41
5. The Implica tion of Backloading
The differing rates of benefit accrual under traditional defined benefit
plans and defined contribution plans result in different incentives that can
affect employee decisions about work and retirement.42 In particular,
39. See U.S. GENERAL ACCOUNTING OFFICE, Private Pensions — Most Employers That
Offer Pensions Use Defined Contribution Plans, available in WL GAO-RPTS, GAO/GGD97-1, at 4 (Oct. 3, 1996); Paul Yakoboski, Overview of the U.S. Employ ment-Ba sed
Retirement Income Sy stem, in THE FUTURE OF PRIVATE RETIREMENT PLANS 19 (Da llas L.
Salisbury ed. 2000).
40. See generally RICHARD A. IPPOLITO, PENSION PLANS ANDEMPLOYEE PERFORMANCE
10-17, 41-60 (1997); Jonathan Barry Forman, Public Pens ions: Choosi ng Between Defi ned
Benefit and Defined Contribution Plans, 1999 DET. C.L. REV. 187, 195-201 (1999).
41. See Harkin Would Protect Accrued Benefits in Defined Benefit Plans, TAX NOTES
TODAY , July 16, 1999, available in WL, Doc. 1999-23674, 1999 TNT 136-45 [hereinafter
Harkin].
42. See, e.g., IPPOLITO, supra note 40; RICHARD A. IPPOLITO, PENSION RESEARCH
COUN CIL , PENSIONS, ECONOMICS AND PUBLIC POLICY 133-50 (1986); J OSEPH F. QUINN ET
AL., PASSING THE TORCH : THE INFLUENCE OF ECONOMIC INCENTIVES ON WORK AND
RETIREMENT (1990); L AWRENCE THOMPSON, OLDER AND WISER: THE ECONOMICS OF
PUBLIC PENSIONS 71-83 (1998 ); ALAN L. GUSTMAN & THOMAS L. STEINMEIER, PENSION
INCENTIVES AND JOB MOBILITY (1995); Michael D. Hurd, Research on the Elderly:
2000]
Cash Balance Pension Plan Conversions
389
traditional defined benefit plans (i.e., final average pay plans) typically
penalize workers who change jobs frequently, create large financial
incentives for workers to stay on t he job at least until they are eligible for
early retirement, and push workers out of the work force once they have
reached the pla n’s normal retirement age.
For example, Table 1 shows the magnitude of this financial penalty on
the mobile worker.43 Table 1 compares the retirement benefits of four
workers. These workers all have identical thirty-year pay histories (6%
annual pay increases starting at $20,000 and ending at $108,370) and all
their employers have identical final average pay plans (1.5% times years of
service times final pay). The only difference among these workers is that the
first worker spent his entire career with one employer, while the other
workers divided their careers over two or more employers. Nevertheless, the
long-tenure worker would receive an annual benefit of $49,000 at retirement,
while the worker who holds five jobs would receive just $27,000 per year.
Economic Status, Retirement, and Consumption and Saving, 28 J. ECON. LITERATURE 565
(1990); Alan L. Gustman et al., The Role of Pensions in the Labor Market: A Survey of the
Literature, 47 INDUS. & LAB. REL. REV. 417 (1994).
43. See Michael Falivena, Pensio n Portability: No Easy Solution, PENS. &
INVESTMENTS, Feb. 5, 1990, at 15, as reprinted in LANGBEIN & WOLK , supra note 3, at 172
[hereinafter Falvivera, in LANGBEIN & WOLK ]. See also Olsen & VanDerhei, supra note
37, at 11-12.
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Table 1. Non-portability of Final Average Pay Plans 44
Total
pension
Worker
Employer
no.
Yearly
accrual
rate
Years of
service
pay
Final
Pay
1
1
1.5%
30
$108,370
$49,000
2
1
2
1.5
1.5
15
15
45,219
108,370
10,174
24,383
35,000
3
1
2
3
1.5
1.5
1.5
10
10
10
33,781
60,513
108,370
5,069
9,077
16,256
30,000
4
1
2
3
4
5
1.5
1.5
1.5
1.5
1.5
6
6
6
6
6
26,765
37,967
53,856
76,396
108,370
2,409
3,417
4,847
6,876
9,753
27,000
In short, the mobile worker covered by a final average pay plan will
suffer large benefit losses each time she changes jobs. Moreover, even
greater financial penalties can result if a worker changes jobs without
vesting. All in all, final average pay plans penalize workers who change jobs
frequently.
At the same time, however, final average pay plans create large financial
incentives for workers to stay with a firm at least until they ar e eligible for
early retir ement. This is the so-called “golden handcuffs” phenomenon.
Also, final average pay plans typically push older workers out of the
work force at normal retirement age. That’s because once a worker is eligible
to receive full retirement benefits, delaying retirement can actually be quite
costly. 45 Those who delay retirement lose current benefits, but the increase
in benefits that can result from an additional year of work rarely
44. Falivena, in LANGBEIN & WOLK , supra note 43, at 172.
45. See, e.g., Lunn v. Montgomery Ward & Co., Retirement Sec. Plan, 166 F.3d 880
(7th Cir.1999); Retiree Ben efits: Increas ed Benefit s for Ol der Retir ee Not Warra nted Under
Floor-Offset Pension, 26 Pens. & Ben. Rep. (BNA) 537 (Feb. 15, 1999).
2000]
Cash Balance Pension Plan Conversions
391
compensa tes for the benefits lost. And those who work until they drop may
leave nothing behind for their survivors.46
On the other hand, because defined contribution plans are not typically
backloaded, vested workers do not suffer benefit losses from changing jobs
or retiring too early, nor do they face financial penalties for working past the
plan’s normal retirement age. 47 Instead, mobile employees can typically roll
over their individual account accruals and accumulate large account balances
to be used for retirement.48 Indeed, this portability is one of the most
important advantages of defined contribution plans,49 especia lly for women
who typically have shorter job tenures because of greater child and dependent
care responsibilities.50
In that regard, consider two workers, Alex and Bob, working side-byside and each earning $50,000 a year. Assume further that Alex is thirty-five
years old, Bob is fifty-five, and both are covered by a final average pay
46. According to the so-called “implicit contract” theory, employers underpay their
younger workers in exchange for overpayment l ater in their ca reer s. The backloadi ng of
pension accruals encourages younger workers to stay with the company at least until early
retirement age. At the same time, however, it gives employers a reason to discourage “late”
retirement. See Bernard Casey, Incent ives and Disincentives to Early and Late Retirement:
Working Paper AWP 3 .3, 1, 18-20 (visited Sept. 11, 2000) <http://www.oecd.org./subject/
agein g> (following link AWP 3.3 Eng); David A. Wise, Living Longer, Saving Less,
Retiring Sooner, in RETIREMENT AND PUBLIC POLICY: P ROCEEDINGS OF THE SECOND
CONFERENCE OF THE NATIONAL ACADEMY OF SOCIAL INSURANCE, 209-21 (Alicia H.
Munnell ed., 1991).
47. See Joseph F. Quinn, Retirement Patterns and Bridge Jobs in the 1990s, EBRI
ISSUE BRIEF NO. 206, Feb. 1999, at 8 (1999).
48. See, e.g., I.R.C. § 402(c) (1994).
49. See, e.g., Cash Balancing Act, PLAN SPONSOR, Feb. 1999 (visited Aug. 27, 2000)
<http://www.assetpub.com/psfeb99/feature_ right.html>; Mervin M. Wilf, New Generation
of “Hybrid” Defined Benefit Plans, in ALI-ABA COURSE OF STUDY: ANNUAL FALL
PENSION LAW AND PRACTICE UPDATE (presentation at Tulane Tax Institute, Sept. 21,
1994), available in WL Q232 ALI-ABA 1S.
50. See Anna M. Rappaport, The Aging Society and Retirement Benefit Strategy,
PROFIT SHARING, July-Aug. 1997, at 8; National Economic Council Interagency Working
Group on Security, Women and Retirement Security, October 27, 1998, (visited Aug. 27,
2000) <http://www.pub.whitehouse.gov/WH/Publicat ions/html/Publi cation.html>
(following links to “G. Identify Documents Using Persistent Document Identifiers (PDI)”
t o “ 2 . V i e w D o cu m e n t b y P D I e n t e r i n g D o c u m e n t I D ”
<pdi://oma.eop.gov.us/1998/10/28/5.text.1> and pressing “Show”); Teresa Heinz et al.,
Women’s Institute for a Secure Retirement (WISER), Women and Pensions: An Overview
(visi ted Aug. 27, 20 00) <h ttp://www. wiser.he inz.or g/
pensions_overview.html>.
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defined benefit plan that provides a retirement benefit equal to 2% times final
average pay for up to thirty years of service. Because Bob is closer to
retirement age than Alex, their employer would have to contribute more to
the pension plan this year on behalf of Bob than Alex. It’s as if the employer
contributed $8000 this year for Bob’s pension (which must be fully funded
in ten years) but only $2000 for Alex’s pension (which can grow that
contribution for thirty years). That’s backloading, and the net effect is that
thirty-five-year-old Alex costs the employer just $52,000 to employ, but Bob
costs $58,000.
On the other hand, under a defined contribution plan, the employer
would contribute the same specified per centage of pay to both workers’
accounts. For example, if contributions were set at 10% of annual pay, both
Alex and Bob would see $5000 credited to their individual accounts.
Needless to say, younger workers (like Alex) see little reason to go to work
for a rust-belt company with a backloaded final average pay pension when
they can go to work for a high-tech company—like Microsoft—that will
immediately stuff money into their 401(k) accounts.
6. Cash Balance Plans Are Not Backloaded
That’s where cash balance plans come in. Like traditional pension plans,
cash balance plans are defined benefit plans, but they look like defined
contribution plans.51 Consequently, corporations stuck with traditional
pension plans can mimic defined contribution plans—and get rid of
backloading—by amending their traditional pension plans and thereby
converting them into cash balance plans.52
For example, recall that under the final a verage pay plan described
above, fifty-five-year-old Bob would see an $8000 pension benefit accrual
this year, and thirty-five-year-old Alex would see a $2000 accrual. If their
employer converts this final average pay plan into a cash balance plan, both
Bob and Alex would see $5000 annual credits added to their hypothetical
accounts.
Having worked for the company for many years, Bob may feel cheated
out of $3000. On the other hand, Alex is thrilled to see a $3000 increase in
his benefit accrual, and the employer is happy because it now finds it easier
to recruit talented, young workers.
51. See Congel, supra note 1, at 658.
52. See George F. O’Donnell & Patricia Seahill, Pension Red esign For Deregulated
Utili ties, PUB. UTIL . FORT ., Mar. 1, 1998, at 44, 47.
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Cash Balance Pension Plan Conversions
393
In short, replacing a traditional final average pay pension plan with a
cash balance pla n will reduce expected benefits for older workers and
increase benefits for younger workers, at least for those younger workers
who stay with the employer long enough to vest. Indeed, that seems to be
why so many companies have made the change. But how else should they
compete for workers with Microsoft and the other high-tech companies that
are not burdened with traditional pension plans?
7. The Shift Away From Traditional Defined Benefit Plans
Not surprisingly, in recent years, there has been a marked shift away
from traditional defined benefit plans and towards defined contribution plans
and cash balance plans.53 As of 1993, about 43% of private-sector workers
were covered by at least one pension plan. 54 Defined contribution plans
comprised 88% of these plans, up from 67% in 1975.55 Moreover, 42% of
the active participants in those priva te-sector plans had a defined
contribution plan as their primary plan, up from just 13% in 1975.56
Similarly, in 1993, 88% of private employers with only one retirement plan
sponsored only a defined contribution plan, up from 68% in 1984.57 The
number of defined benefit plans reporting to the Pension Benefit Guaranty
Corporation has also declined—from 111,000 in 1987 to just 43,000 in
1998.58 Also of note, 401(k) pla ns are the fastest growing part of the defined
53. See, e.g., Daniel Dulitzky, Incentives for Early Retirement in Private Pension and
Health Insurance Plans (Urban Inst. Retirement Project Series Paper No. 3, 1999) (visited
Aug. 27, 2000) <http://www.urban.org/retirement/briefs/3/brief_3.html>; Leslie E. Papke,
Are 401(k) Plans Replacing Other Employer-provided Pens ions? Evidenc e from Panel
Data, 34 J. HUMAN RESOURCES 346 (1999); Council of Economic Advisors, Annual Report
of the Council of Economic Advisors, in ECONOMIC REPORT OF THE PRESIDENT 7, 131, 15763 (1999); Kevin Dent & David Sloss, The Global Outlook For Defined Contribution
Versus Defined Benefit Pension Plans, BENEFITS Q., 1st Quarter 1996, at 23; Gary
Kleinman et al., An Analys is of t he Move To ward Defined Contribution Pension Plans: Are
the Rewards Commensurate with the Risks, J. PENS. PLAN. & COMPLIANCE, Fall 1999, at
61; U.S. GENERAL ACCOUNTING OFFICE, supra note 39, at 4.
54. See EMPLOYEE BENEFIT RESEARCH INSTITUTE, EBRI DATABOOK ON EMPLOYEE
BENEFITS 81 (Employee Benefit Research Institute ed., 4th ed. 1997).
55. See id.
56. See id.
57. See U.S. GENERAL ACCOUNTING OFFICE, supra note 39, at 4.
58. See Barker & O’Brien, supra note 6, at 5 ; see also Pension Benefit Guaranty
Corporation, Facts: Defined Benefit Plans (visi ted July 7, 2000) <http ://www. pbgc.gov/
dbbenfit.htm>.
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contribution world. In 1995, for example, there were 201,000 401(k) plans,
up from 17,000 in 1984, and the total number of active participants
increased from eight million to twenty-eight million over that time period.59
At the same time, the nature of defined benefit plans has been moving
away from the traditional final average pay and career average pay models.
According to a recent survey of lar ge U.S. employers that offer defined
benefit plans, the percentage utilizing a final average pay formula has
decreased from 85% to 72% over the past five years. 6 0 Similarly, the
percentage of large employers using a career average pay formula has
declined from 15% in 1995 to 9% today. 61 At the same time, utilization of
cash balance plans has increased from 6% to 16% of the large defined
benefit plans surveyed. 62 All in all, the era of the traditional defined benefit
plan is largely behind us.63
B. Cash Balance Plan Basics
For all their novelty, cash ba lance plans are technically defined benefit
plans. However, cash balance plans differ in some key ways from more
traditional defined benefit plans (like final average pay plans).
1. An Overview of Cash Balance Plans
A cash balance plan is a defined benefit plan that looks like a defined
contribution plan. 64 The plan accumulates, with interest, a hypothetical
account balance for each participant. T he individual account balances are
determined by the plan’s benefit formula and consist of two components: an
59. See Yakoboski, supra note 39, at 29.
60. See Hearing on Hybrid Pensions, supra note 8 (p repar ed testimony of Jack
VanDerhei, Temple University and Fellow Employee Benefit Research Institute,
Washington, D.C.) (visit ed Sept. 11, 2000 ) <http://www.ebri. org/testimony/T121.htm>.
61. See id.
62. See id.
63. See Edward A. Zelinsky, ERISA and the Emergence of the Defined Contribution
Society, in NYU 57TH INST . ON FED. TAX’N — EMPLOYEE BENEFITS & EXECUTIVE
COMPENSATION, §§ 6.01-.05 (Alvin D. Lurie ed., 1999) [hereinafter Zelinsky, Defined
Contribution Society]. Yakoboski, supra note 39, at 32, views the shift to individual
account-type plans as “a plus for workers.” He believes that the enhanced portability
inherent in defined contribution plans and cash ba lance plans provi des a bett er mat ch for
today’s mobile work force. See id.
64. See generally references cited supra note 4; Zelinsky, supra note 23, at 687-715.
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Cash Balance Pension Plan Conversions
395
annual cash balance credit and an interest credit.65 For example, a simple
cash balance plan might allocate 5% of salary to each participant’s cash
balance account each year, and credit the account with 7% interest on the
balance in the account.66
Cash balance account statements are issued to participants each year and
may provide benefit projections at retirement age. Cash balance statements
look like defined contribution pla n statements and are generally easier for
participants to understand than a traditional defined benefit plan formula.
Cash balance pla ns may pay out account ba lances in the form of a lump-sum
distribution or as an annuity, but some sponsor s encourage the selection of
an annuity by specifying a favorable actuarial basis to convert accounts to
annuities. Table 2 provides an example of a simple cash benefit plan.
65. See, e.g., Mitchell, supra note 4, at 28.
66. In addition to contributions based on salary, cash balance plans may use a flat
dollar amount for the credit and may integrate the pl ans wit h Socia l Se curity. The interest
credit may be at a specified rate or it may be indexed to an economic monitor such as the
CPI. See EMPLOYEE BENEFIT RESEARCH INSTITUTE (EBRI), supra note 4.
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TABLE 2. CASH BALANCE PLAN EXAMPLE 67
This example illu strates h ow an employee’s cash bala nce account grows over
five years. A new employee in this example earns $30,000 per year. Each year the
employee will earn cash balance pay credits equal to 5% of $30,000, or $1500, and
an interest credit of 7%.
For purposes of this example, assume that each year’s pay credit earns one-half
of the annual interest credit rate in that year (i.e., 3.5%), since pay credits
normally will be credited throughout the year.
The balan ce after the first year would be $1,552.50 ($1,500 + 3.5% of $1,500).
To determine the interest credit for the second year, add 7% of the balance at the
beginning of the year ($108.67) to 3.5% of the pay credit for the year ($52.50) to
arr ive at $161.17. Continuing in this manner, at the end of five years, the account
value will be $8,928.01, or almost 30% of annual pay (see table below).
Year
1
Account Value
(Beginning of Year)
$
Annual Pay Credit
Pay
(5 percent)
$ 30,000
$ 1,500
Interest Credit/a/ Account Value
(7 percent)
(End of Year)
$
52.50
$ 1.552.50
0.00
2
1,552.50
30,000
1,500
161.17
3,213.67
3
3,213.67
30,000
1,500
277.46
4,991.13
4
4,991.13
30,000
1,500
401.87
6,893.00
5
6,893.00
30,000
1,500
535.01
8,928.01
/a/ Pay credits assumed to receive one-half of the annual interest credit.
67. Lawrence T. Brennan & Dennis R. Coleman, Cash Balance Pension Plans, in THE
HANDBOOK OF EMPLOYEE BENEFITS, (Jerry S. Rosenbloom ed., 3d ed. 1992), reprinted in
Campbell, supra note 4, at 8.
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397
2. Cash Balance Plans Look Like Defined Contr ibution Plans
The key to cash balance plans is the hypothetical account balances they
provide for employees.68 However, the accounts are merely bookkeeping
devices for cash balance plans.69 The payment and interest credits of a cash
balance plan are designed to be similar to those used in defined contribution
plans.70 Employers choose these characteristics because they appeal to
younger, more mobile employees. However, cash balance plans differ in
some key ways from defined contribution plans.
Cash balance plans differ from defined contribution plans because the
plan formula defines the future benefit an employee will receive rather than
the amount of the employer’s contribution. 71 Among other things, that means
that a cash balance plan may be underfunded and employees can lose
benefits when a plan terminates.72 In contrast, defined contribution plans,
once funded, are always fully funded. Because defined contribution plans,
once funded, continue to be fully funded, an employee’s account balance is
more secure.
Also, under a cash balance plan, the employer assumes the investment
risk. The employer must make up the difference if plan assets underperfor m.
On the other hand, if investment returns are high, the employer is allowed to
keep any investment returns that the plan earns over and above the amounts
promised to employees.73
68. See Quick, supra note 4.
69. See Pamela D. Perdue, Selecting a Suitable Qualified Plan and Plan Design For
Your Clients— Moving Beyond the Tried and True, in ALI-ABA COURSE OF STUDY:
QUALIFIED PLANS, PCS, AND WELFARE BENEFITS 171, 197 (presentation at Scottsdale,
Arizona, Feb. 16, 1995), available in WL C980 ALI-ABA 171, 197.
70. See Marjorie Hoffman, Cash Balance Pension Plans [I.R.S. Not ice 96-8], Pension,
Profit-Sharing, Welfare, and Other Compensation Plans, ALI-ABA Course of Study, CA62
A.L.I.-A.B.A. 755, 757 (Mar. 20, 1996); I.R.S. Notice 96-8, 1996-1 C.B. 359.
71. See EMPLOYEE BENEFIT RESEARCH INSTITUTE (EBRI), supra note 4.
72. See id. Because cash balance plans are defined benefit plans, however, benefits are
guaranteed by the Pension Benefit Guaranty Corporation. See ERISA §§ 4001-4009, 29
U.S.C. §§ 1301-1309 (1994 & Supp . 1998); E MPLOYEE BENEFIT RESEARCH INSTITUTE
(EBRI), supra note 4, ch. 3; C ONISON, supra note 32, 424-54.
73. See Hearing on Pension Reform, supra note 9 (prepared testimony of Patrick J.
Purcell, Specialist in Social Litigation, Congressional Research Service, Washington,
D.C.). Also, Financial Accounting Standard No. 87 allows companies to report their excess
pension assets as income on their financial statements. See EMPLOYERS’ ACCOUNTING FOR
PENSIONS, Stat ement of Financial Accounting Standards No. 8 7 (Fin. Accounting Standards
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On the other hand, defined contribution plans allocate the financial risks
to employees.74 The employer’s only funding obligation is to make the initial
contribution. 75 As a result, the employer makes no guarantees concerning the
level of benefits an employee will receive. 76
Defined contribution plans can also be cumbersome in some respects.
Because contributions are kept in separate accounts and not pooled, capital
is often locked into low-risk investments.77 This result occurs because
employees often invest too conserva tively.78 In contrast, cash balance plans
offer pooling of assets and management by professionals rather than
individual employees.79 This feature, plus the individual account statements
that employees receive, are two reasons for the growth of cash balance plans.
However, the rise of cash bala nce plans can also be attributed to other
factors.80
3. Benefit Accrual Under Cash Balance Plans
As already explained, traditional defined benefit plans are backloaded. 81
Like defined contribution plans, however, cash balance plans provide for
more uniform accruals over an employee’s working career.82 They provide
Bd. 1982); Elizabeth A. White, Lawmakers Seek Accounting Rule Changes; Also Cite Age
Discrimination in Conversions, 27 Pens. & Ben. Rep. (BNA) 606 (Feb. 29, 2000); Ethan
G. Stone, Note, Must We Teach Abstinence? Pensions' Relationship Investments and the
Lessons of Fiduciary Duty, 94 COLUM. L. REV. 2222, 2230 n. 37 ( 199 4). Ba sical ly,
Financial Accounting Standard No. 87 requires companies to recognize the costs of their
defin ed ben efit p lan on an accrual basis. See Buck Study Shows Slight Increase in Rate of
Return Reported on FAS 87, 27 Pens. & Ben. Rep. (BNA) 211 (Jan. 25, 2000).
74. See Purcell, supra note 4, at 1-2.
75. See id. at 2.
76. See id.
77. See Littler Mendelson, Cash Bal ance Pension Plans Present Flexibility and
Interes ting Ch alleng es, CAL. EMPLOYMENT L. MONITOR, July 21, 1999, at 8.
78. See Norman Stein, Some Serious Questions About Cash Balance Plans: Retirement
in the Balance, CONTINGENCIES , Sept.—Oct. 1999, at 28.
79. See id.
80. See Eugene H. Veenhuis, Cash Balance Plans: The Newest Benefit Plans, in
UNDERSTANDING ERISA 1986, at 9, 14 (PLI Tax Law & Practice Course Handb ook Series,
No. J4-3585, 1986) (listing an employer’s ability to use assets of overfunded plans and
chance to reduce employee benefits with less notice as “advantages” of cash bal ance plans).
81. See supra Part II.A.4.
82. See Towers Perrin, Hot Topics, Perspective on Cash Balance Plans: Making the
Transition, (visited Nov. 7, 1999) <http ://www. towers.com/ towers/hot tops/ htcbp.htm> (on
file with Oklaho ma City Univers ity La w Review) [hereinafter Making the Transition].
2000]
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399
for larger benefit accruals than final-average-pay plans for younger workers
and smaller benefit accruals for older workers. Table 3 provides a
comparison between a cash balance plan and a traditional plan. 83 Even
though the two plans in Table 3 produce almost identical values at age sixtyfive, the cash balance plan offers a more level pattern of accrual throughout
the employee’s career.
Table 3. Cash Balance Plan v. Final-average-pay Plan: Comparison of
Accumulated Single Sum Values84
Age
Final-Average-Pay-Plan
Cash Balance Plan
30
$
200
$
900
40
$
7,200
$
19,000
50
$
42,300
$
74,700
60
$
184,800
$
212,000
65
$
323,200
$
329,000
Chart I provides a gra phic comparison between a cash balance plan and
a traditional defined benefit plan. 85 Chart I compares the contributions made
on behalf of an individual for the following two hypothetical pension plans:
(1) a simple cash balance plan with a flat 6% pay credit and an annual
interest credit of 5%, and (2) a tr aditional defined benefit plan with a benefit
at age sixty-five of 1% multiplied by the years worked and multiplied by the
final pay. Chart I shows that the cash balance plan has fairly level
contribution accruals at all ages. On the other hand, the traditional defined
benefit plan is backloaded, and there are financial penalties for staying past
retirement age. All in all, Chart I illustrates that cash balance plan
contributions are much larger tha n the accruals of the traditional defined
83. See id. See also Jerry Brockett & Kien Liew, Are You Bet ter Off Retiri ng Under A
Cash Balance Plan Or A Traditional Pension Plan? Case Study 1 & Case Study 2 (visited
July 7, 2000) <http://www.pens ionbenefits.com/article s/>.
84. Making the Transition, supra note 82.
85. See Hearing on Hybrid Pensions, supra note 8 (prepared testimony of Ron
Gebhardtsbauer, Senior Pension Fellow, American Academy of Actuaries, Washington,
D.C.) (visited Sept. 19, 2000) <http://www.actuary.org/1999.htm> (following link to
Hybrid Pension Plan Coverage: Retirement Into the 21st Century).
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benefit plan for young employees, but a re much smaller for older
employees.86
87
III. CASH BALANCE PLAN CONVERSIONS
On their face, cash balance plans seem particularly benign. The plans
favor uniform accruals for employees. However, cash balance plans have
generated a fair amount of controversy and are currently the subject of a
number of legislative proposals aimed at curtailing the perceived inequities
under the plans.88 The controversial aspects of cash balance pla ns are not a
result of the plan formulas. The pla ns receive attention beca use of negative
consequences often resulting to older employees when a traditional defined
benefit plan is converted into a cash balance plan.
86. See id.; see also Steve J. Kopp & Lawre nce Sher, A Benefit Value Comparison of
a Cash-Balance Plan with a Traditional Final Average Pay Defined Benefit Plan, THE
PENSION FORUM, Oct. 1998, at 1.
87. Hearing on Hybrid Pensions, supra note 8 (testimony of Ron Gebhardtsbauer) and
supra note 85.
88. See infra Part V.A.
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401
A. Plan Conversion Basics
Many companies favor cash balance plans because these plans are easy
to administer, an employer’s required contribution is more readily
ascertainable, and the plans benefit mobile workers.89 Other more cynical
reasons may also explain why companies convert to cash balance plans. A
conversion to a ca sh balance plan may be a way for an employer to reduce
future benefit accruals without employees noticing.90
As discussed ear lier, traditional defined benefit plans are “backloaded.”91
As a result, older employees can be very expensive to employ. 92 When an
employer decides to convert a traditional defined benefit plan to a cash
balance plan, the accrued benefits under the old plan cannot be reduced.93
However, the inter action of several factors results in older employers
receiving less benefits.
1. How a Conversion Works
In a conversion, the employer determines an employee’s accrued
benefit.94 However, this accrued benefit is usually not the opening balance
of the nominal cash balance account.95 This results from regulations allowing
employers to use two different inter est rates in calculating the accrued
benefits under the old plan and the opening balance of the new plan.96 The
employer often chooses the combination of interest rate assumptions most
favorable to it. Additionally, an employer can set the opening account
89. See Veenhuis, supra note 80, at 13.
90. See id.
91. See supra Part II.A.4-5.
92. For example, it typically costs employers more to provide pension and health
benefits for older workers than for younger workers, and salary costs and other benefits can
also be higher. See., e.g., Gary Minda, Opportunistic Downsizing of Aging Workers: The
1990s Version of Age and Pension Discrimination in Employment, 48 HASTINGS L.J. 511,
523-25 (1997).
93. See Mitchell, supra note 4, at 29.
94. See id.
95. See Congel, supra note 1, at 658.
96. See Morning Edition: Pros and Cons of Cash Balance Plans for Retirement
Savings (N.P.R. radio broadcast, Feb. 1, 1999) (for audio version, Cash Balance Retirement
Account, select “archives” for Feb. 1, 1999 at <http://www.npr.org/programs/morning>),
reprin ted in Harkin Would Protect Accrued Benefits in Defined Benefit Plans, TAX NOTES
TODAY , July 16, 1999, available in WL, Doc. 1999-34674, 1999 TNT 136-45 [hereinafter
Morning Edition].
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balance at almost any level as long as an employee who leaves can receive
a lump sum equal to the present value of her accrued benefit under the old
plan. 97
2. Benefit Accrual in Cash Balance Conversions
Replacing a traditional pension with a cash balance plan can have an
adverse impact on middle-aged workers. The mid-career worker “gets the
worst of both plans—the lower early accruals provided by the final pay plan,
along with the lower late accruals provided by the cash balance plan.”98 For
most defined benefit plans, an employee accrues most of her benefits in the
last few years of employment.99 As a result, employees accrue very little in
the first years of employment.
Cash balance plans have more uniform accruals.100 When an employer
converts from a traditional defined benefit plan to a cash balance pla n, the
employee never receives the benefit of those disproportionately large late
career accruals. While the loss of expected accruals is troublesome for
employees, they may also be hurt by not accruing more benefits for several
years. This phenomenon is known as the “wearaway.”101
3. The Wearaway
When an employer amends a pension pla n, it cannot reduce already
accr ued benefits.102 As a result, an employee who had accrued a benefit of
$1000 a month at age sixty-five before the amendment is entitled to at least
$1000 a month at age sixty-five after the amendment.103 To ensure that
employees’ accrued benefits are not reduced, employers use two methods.
Under one method, the “sum of” formula, the benefits accrued after the
97. See Hearing on Pension Reform, supra note 9 (testimony of Patrick J. Purcell) and
supra note 73.
98. Making the Transition, supra note 82. See also Hearing on Pension Reform, supra
note 9 (testimony of Patrick J. Purcell) and supra note 73, at 7.
99. See Cash Balance Plans: ERIC: Proposed Ban is Groundless, Pens. Plan Guide
(CCH) 2, No. 1278, at 2 (Aug. 2, 1999).
100. See id.
101. See, e.g., Rosina B. Barker & Kevin P. O’Brien, From the Editors: Cash Balance
Plans: Are Wear-Away Transi tions Legal Und er the ADEA?, BENEFITS L.J., Spring 2000,
at 1.
102. See I.R.C. § 41 1(d) (6) (199 4); ERISA § 204(g)(1), 29 U.S.C. § 1054(g)(1) (1994).
See infra Part IV.A.
103. See Hearing on Hybrid Pensions, supra note 8 (testimony of J. Mark Iwry).
2000]
Cash Balance Pension Plan Conversions
403
amendment are added to the benefits accrued before the amendment.104 The
other option is the “greater of” formula. Under this option, the employer
determines the benefits that would be due under the new plan and compar es
that number to the accrued benefits under the old plan.105 The employer
meets these requirements as long as the employee receives the gr eater
benefit.106
104. See id.
105. See id.
106. I.R.S. Notice 96-8, supra note 70, provides the following example:
As explained below, in order to comply with sections 411(a) and 417(e) in
calculating the amount of a single sum distribution under a cash balance plan,
the balance of the employee’s hypothetical account must be projected to normal
reti remen t age and then the employee must be paid at least the present value,
determined in accordance with section 417(e), of that projected hypothetical
account balance. If a cash balance plan provides interest credits using an
interest rate that is higher than the section 417(e) applicable interest rate,
payment of a single sum distribution equal to the hypothetical account balance
as a complete distribution of the employee’s accrued benefit may result either
in a violation of section 417(e) or a forfeiture in viol ation of section 411(a).
This is because , in such a cas e, the pr esent valu e of the employee’s accrued
benefit, determined using the section 417(e) applicable interest rate, will
generally exceed t he hypothet ical accoun t bala nce. The following example
illustrat es this potentia l problem.
Example. A cash balance plan provides for interest credits at a fixed rate
of 8% pe r annum tha t are not conditioned on continued employment, and for
annuity conversion s usin g the sect ion 417( e) appl icable interest rate and
mortality table. A fully vested employee with a hypothetical account balance
of $45,000 terminates employment at age 45 and elects an immediate single
sum distributi on. At the time of the employee’s termination, the section 417(e)
applicable interest rate is 6.5%.
The projected bala nce of the employee’s hypothetical account as of normal
retirement age is $209,743. If $209,743 is discounted to age 45 at 6.5% (the
section 417(e) applicable interest rate), the present value equals $59,524.
Accordingly, if the plan paid t he hypotheti cal accou nt balance of $45,000,
instead of $59,524, the employee would receive $14,524 less than the amount
to which the employee is entitled.
Even if a cash balance plan provides interest credits using an interest rate
that exceeds the section 417(e) applicable inte rest rat e, the pl an can sati sfy
sections 417(e) and 411(a). Such a plan would provide that the amount of any
single sum distribution is equal to the present value of the employee’s accrued
benefit determined in a manner that satisfies sections 411(a) and 417(e) even
if the amount of the single sum exceeds the employee’s hypothetical account
balance. Thus, in the example above, the plan would satisfy sections 411(a)
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If the employer sets the opening account balance at less tha n the present
value of the old pension plan, the employee will not receive any new pension
benefits until the benefit under the new plan equals the benefit the employee
has earned under the old plan. 107 The employer is also allowed to freeze its
contributions until the employee has earned under the cash balance pla n the
amount she was entitled to under the old defined benefit plan. 108 As a result,
employers may not have to pay for benefit accruals for as long as five years
after a conversion. 109 This result has been dubbed the “wearaway” (or
“benefit plateau”), and it is one of the most contentious features of cash
balance plans. Some critics contend that the wearaway results in an end-run
around the rule that a ccrued benefits cannot be reduced.110
One of the principal causes of wearaways in most cash balance
conversions is the elimination of early retir ement subsidies from the pension
plan. 111 After a conversion, the opening balance in a worker’s cash balance
account is typically based upon the worker’s normal retirement age benefit
under the old plan and does not include the value of any early retirement
subsidy that the worker may have already earned under the old plan.
Consequently, a wearaway will occur because a worker who has already
earned an early retirement subsidy prior to the conversion will have an
accr ued benefit under the old plan that is higher than the opening balance of
her cash balance account. If she were to leave the company at the time of the
conversion, she would be entitled to the full value of her accrued benefits,
including the value of any early retirement subsidy that she had accrued. If
she were to stay with the company, however, it could take years before the
and 417(e) if the employee received a single sum dist ribu tion of $59,524 (the
present value of the employee’s accrued benefit) rather than $45,000 (the
employee’s hypothetical account balance).
I.R.S. Notice 96-8, 1996-1 C.B. 359.
107. See id.
108. See id.
109. See Harkin, supra note 41.
110. See id.
111. See, e.g., Senate Hearing on Cash Balance, supra note 9 (prepared testimony of
Laurel Sweatt, Manager of Benefits, Central and South West Corporation, representing the
Association of Private Pension and Welfare Plans, Dallas, Texas), at 8.
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balance of her ca sh balance account exceeded the value of her accrued
benefit at the time of conversion.112
The extent of the wearaway can also depend on interest rates.113 If
interest rates are increasing, the present value of the old benefits is less than
under the cash balance plan. 114 As a result, an employee would suffer more
from the wearaway. With planning, a savvy employer can generate a large
wearaway. Such an employer would use a high interest ra te to determine the
opening balance. As a result, an employee who had accr ued $1000 under the
old defined benefit plan may only be entitled to $800 as his opening cash
balance account balance. 115 In that case, that employee will not earn any
more benefits until the $200 wears away. 116
112. See, e.g., Members of ABA Tax Section Say Cash Balance Plans Are Not
Discriminatory, TAX NOTES TODAY , ¶¶ 69-72 (July 6, 200 0) (LEXIS, FEDTAX Library,
TNT File, 2000 TNT 130-53) (providing a numerical example of the basic wearaway
problem) [hereinafter Members of ABA Tax Section].
113. See, e.g., Hearing on Cash Balance, supra note 9 (testimony of Laurel Sweatt) and
supra note 111, at 7; Time Out for Facts, supra note 6; The ERISA Industry Committee,
Understanding Cash Balance Plans (visited Apr. 8, 2000)
<http://eric.org/cashbalan cebrief.htm>.
114.
This is a particularly difficult issue to understand. Basically, the problem is one
of different interest rates. Section 417(e) of the Tax Code requires that a
defined benefit plan that offers a lump-sum option convert the annuity into a
lump sum using an interest rate that produces a lump sum that has a minimum
value. When you apply this law in reverse, as must be done in a cash bal ance
plan — where the benefit is defined as a lump sum — this rule forbids the plan
from converting that lump sum into an annuity that is too high. In other words,
what sets a minimum lump-sum value sets a maximum annuity amount.
Chart C [omitted] illustrates this effect. It assumes that a plan converts the
participant’s accrued benefit under the traditional plan into an initial cash
balan ce using an 8% intere st rate based on curre nt market conditions. The law,
however, requires the use of a 6% interest rate for converting an annuity to a
lump sum. As a result, the plan promises that the employee will get the greater
of the cash balance account or the value of the accrued benefit at th e time of
transition. Chart C shows how the two values grow as a 40-year-old employee
approaches retirement. The value of the frozen lump sum starts out higher. It
grows rather slowly — at the 6% rate — until it is overtaken by the cash
balan ce account, which grows with both interest and new contribution credits.
Time Out for Facts, supra note 6, at 7.
115. See id.
116. See id.
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4. Transitional Benefits
Because cash balance conversions can have an adverse impact on midcareer employees, many companies offer them transitional benefits to temper
those adverse effects.117 Indeed, one survey of about seventy-five cash
balance plans found that, in two out of three cases, employers provided
transition benefits of one type or another.118 For example, some companies
allow some or all of their employees the right to choose between the new and
old plans.119 Still other employers offer stock options or an increased
employer matching contributions in a 401(k) plan. 120 Of course, such
generous transitional provisions ca n alleviate much of the concerns about
ERISA or age discrimination violations that might otherwise arise in
connection with the conversion. 121
117. See, e.g., U.S. DEPARTMENT OF LABOR, PENSION AND WELFARE BENEFITS
ADMINISTRATION, Cash Balance Plans: Ques tions and Answers, (visited Sept. 8, 2000)
<http://www.dol.gov/dol/pwba> [hereinafter PENSION AND WELFARE BENEFITS].
118. See Making the Transition, supra note 82. See also Kyle N. Brown et al, The
Unfolding of a Predictable Surprise: A Comprehensive Analysis of the Shift from
T raditional Pensions to Hybrid Plans (vis ite d Se pt. 8, 2 0 0 0 )
<http://www.watsonwyatt.com/homepage/us/re s/cash_balance.ht m>; Elizabeth A. White,
Study Cites Pla n Conversion M otives , Says Many Em ployers Did Not Save Mon ey, 27
Pens. & Ben. Rep. ( BNA) 610 (Feb . 29, 2000) ; Robert L. Clark & Sylvester J. Schieber,
Taking the Subsidy Out of Early Retiremen t: The Story Behind t he Conve rsion to Hybrid
Pensions (May 1-2, 2000) (unpublished manuscr ipt pr epare d for the P ension R esear ch
Council Conference on Financial Innovations for Retirement Income Philadelphia,
Pennsylvania, on file with Oklaho ma City Univers ity La w Review); Robert L. Clark, & Fred
W. Munzenmaier, Impact of Replacing a Defined Benefit Pension with a Defined
Contribut ion Plan or a Cash Balance Plan (Feb. 23-24, 2000) (unpublished manuscript
prepared for Retirement 2000 : A Multi-disciplinary Symposium, Washington, DC
(February 23-24, 2000), conference sponsored by the Society of Actuaries, on file with
Oklahoma City University Law Review); Hearing on Cash Balance, supra note 9 (prepared
testimony of Sylvester L. Schieber, Dir ector of Resea rch and Information Cente r, Wat son
Wyatt Worldwide, Bethesda, Maryland).
119. See Time Out for Facts, supra note 6.
120. See Making the Transition, supra note 82.
121. See Time Out for Facts, supra note 6.
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Cash Balance Pension Plan Conversions
407
B. How Cash Balance Conversions Can Affect Employers
1. Cash Balance Conver sions Can Save Employers Money
A switch to a cash balance plan can result in significant sa vings for
employers. Indeed, some believe that a conversion can even make a pension
plan a profit center for a company. 122 An employer can save money on a
conversion in two possible ways.123 First, because future benefit accruals for
older employees will fall, the employer should be able to reduce its future
contributions to the plan. Second, an employer can promise a low rate of
return to employees and keep any actual returns above that rate.
On the other hand, the empirical evidence shows that the typical
company realizes little, if any savings, when it shifts to a cash balance
plan. 124 For example, in its study of seventy-eight large companies that had
converted their traditional pensions to cash balance or other hybrid plans,
Watson Wya tt Worldwide found average employer cost savings from such
conversions of just 1.4%.125 At the same time, however, that study found that
cash balance conversions did result in a significant redistribution of benefits
among workers, and while most workers were better off with the new hybrid
plan, the average sixty-year-old worker with thirty years of service would get
only 78% of the benefit she would have received under the original pla n.126
a. Employers Save as Benefit Accruals for Older Workers Fall
Cash bala nce plan conversions reduce future benefit accruals for older
workers, even if the plan does not create a wearaway. Because of these
reduced future accrua ls for older workers, cash balance pla ns can save
122. See Harkin, supra note 41; Arousing Suspicions, PENS. & INVESTMENTS, June 12,
2000, at 12.
123. See Purcell, supra note 4, at 6.
124. See Brown et al., supra note 118, at ii; Cash Balance Plans: Eric Urges Treasury
and Labor Departments Not to Make Legislative, Regulat ory Cha nges, Pens. & Ben. Daily
(BNA) (June 19, 2000); Letter from Mark Ugoretz, President, The ERISA Industry
Committee, to the H onor abl e Lawre nce Summer s, Secretary of the Un ited S tates Tr easur y,
and to the Honorable Alexis Herman, Secretary to the United States Depar tment of Labor
(June 15, 2000) ( visited Sept. 8, 2000) <http://www.eri c.org/testimony/061500.htm>.
125. See Brown et al., supra note 118, at ii.
126. See id. at i-ii.
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employers significant amounts on required contributions. Indeed, an overfunded pension plan can pay for its own “contributions.”127
The wearaway can compound employer savings. As discussed earlier,
employers determine the opening balance of the cash balance plan under the
new formula,128 and some employees might start with cash balance account
balances that are much less than the amount of their already accrued benefits
under the old plan. 129 As a result, the employer will not have to contribute
any more for those employees until the benefit entitlement under the new plan
exceeds the benefits accrued under the old plan. 130
These wearaways follow from the IRS guidance allowing employers to
determine use by the “greater of” formula discussed earlier.131 Under the
“greater of” method of plan amendment, the employer can freeze
contributions to the new plan until the accrued benefit due exceeds the
employee’s already accrued benefit in the old plan. 132 The employer is still
making hypothetical contributions to the plan, but the employee will not be
earning any additional benefits until the extra wears away.133 These factors
can make an underfunded pension pla n into a fully funded plan after a
conversion. 134
b. Employers Can Save If the Actual Rate of Return on Plan Assets
Exceeds the Rate of Return Promised to Employees
Employers may also have another opportunity to profit from cash
balance plans.135 An employer is allowed to promise a low rate of interest to
employees on the hypothetical account balances and keep any actual retur ns
on pension fund assets above that interest rate. 136 The employer can use the
extra returns as pay and interest credits and not have to make contributions
each year.137 However, an employer would have to make up the difference in
127.
128.
129.
130.
131.
132.
133.
134.
135.
136.
137.
See Purcell, supra note 4, at 6.
See Mendelson, supra note 77, at 8.
See id.
See id.
See Hearing on Hybrid Pensions, supra note 8.
See id.
See id.
See Harkin, supra note 41.
See Purcell, supra note 4, at 6.
See id.
See id.
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409
the event that the actual rate of return on pension fund assets was less than
the promised interest rate.138
2. Cash Balance Plan Conversions Can Affect the Composition of the
Work Force
A switch to a cash balance plan can also make companies more
attractive to certain workers. Younger employees favor the monthly
statement of benefits included in a cash balance plan. 139 The conversion from
a traditional defined benefit plan to a cash balance plan also functions to
redistribute benefit accruals in favor of younger workers.140 These factors
combine to make cash balance plans very desirable for younger workers, at
least those who vest.
In addition to being more popular with younger workers, conversion to
a cash balance plan may also provide an incentive for costly older workers
to retire. Older workers may be continuing to work pr imarily because they
want to maximize their benefits under their original ba ckloaded pension plan.
After a conversion to a cash balance plan, however, these older workers
would accrue benefits at a much lower rate than under the original plan.
Moreover, when the conversion creates a weara way, some older workers
might not accrue any new benefits for several years.141 As a result, older
workers would have less incentive to continue working and might choose to
quit earlier than if the company had retained its or iginal pension plan. 142
In fact, sometimes the only way for older workers to avoid the adverse
impact of a wearaway is to quit and receive a payment equal to the present
value of their accrued benefits under the original plan. 143 The loss of older
workers means less health insurance, life insurance, salary, and other costs
for employers. This factor combined with younger workers’ interest in
monthly statements makes cash balance plan conversion an effective tool for
planning workforce composition.
138. In addi tion, see the discussi on of Financial Accounting Standards No. 87, supra
note 73.
139. See Sheppard, supra note 1, at 171.
140. See, e.g., Brian Tumulty, Cash Balance Plans Slight Older Workers, SALT LAKE
TRIB ., May 2, 1999, at D1.
141. See Mendelson, supra note 77, at 8.
142. See Sheppard, supra note 1, at 171.
143. See Morning Edition, supra note 96.
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On the other hand, because a cash balance conversion reduces the
retirement benefits available to older workers, it may induce them to work
longer than they otherwise would have. Indeed, according to Dr. Sylvester J.
Schieber, Director of the Research and Information Center of Watson Wyatt
Worldwide, one key feature of most cash balance conversions is the
elimination of early retir ement subsidies.144 Schieber believes that employers
are eliminating these early retirement subsidies in response to tightening
labor markets and changing demographics.
3. Why Many Employers Find that a Cash Balance Plan Conversion Is the
Best Alternative
Converting a traditional defined benefit plan into a cash balance plan can
also avoid the kind of negative publicity145 and tremendous costs that could
result from terminating a traditional plan.146 Some critics believe that
companies use cash balance plans as a cheaper alternative than simply
terminating plans all together.147 This claim is bolstered by the fact that most
cash balance pla ns are instituted as conversion plans. Employers do not
usually create a pension program with a cash balance plan. 148 However,
supporters of cash balance plan conversions strongly disagree with the notion
that employers convert to a cash balance plan to avoid the costs of a plan
termination. 149
Employers may also favor cash balance plans because the funding
requirements are more level than for traditional defined benefit plans.150 This
result occurs because benefits are not defined in terms of final average
144. See Hearing on Cash Balance, supra note 9 (prepared testimony of Sylveste r L.
Scheiber) and supra note 118, at 1.
145. See, e.g., Colleen T. Congel, Cash Balance Plans: IBM Shareholders Reject
Resolution; Workers Praise Effort, Look to Next Year, 27 Pens. & Ben. Rep. (BNA) 1131
(May 2, 2000); Colleen T. Congel, Cash Balance Plans: IBM Begins Cash Balance
Conversion; Pension Rights Center Criticizes Move, 26 Pens. & Ben. Rep. (BNA) 1761
(July 12, 1999).
146. In particular, an employer that terminates an overfunded defined benefit plan and
recovers the excess assets can be liable for a nondeductible 50% excise tax on the amount
of the reversion. See I.R.C. § 4980 (1994 & Supp. 1998).
147. See Stein, supra note 78, at 29.
148. See id.
149. See Mark J. Ugoretz, Sheppard’s Attack on Cash Balance Plans: A Response, 84
TAX NOTES 465 (1999).
150. See Purcell, supra note 4, at 5.
2000]
Cash Balance Pension Plan Conversions
411
pay. 151 Instead, under a cash balance plan, funding is directly proportional
to current payroll (e.g., 5% of current pay). Consequently, cash balance
plans can avoid the increasing costs associated with backloading that occur
under final average pay plans, especially as an employer’s work force
ages.152
4. When an Employer Loses With a Cash Balance Plan Conversion
Cash balance plans do not always result in savings for employers.
Because the benefits are no longer backloaded and are designed to benefit
mobile employees, plan costs will increase if many younger employees leave
early. 153 Moreover, the complexities of cash balance plans may make them
more expensive for employers to administer.154 In general, the factors
determining whether an employer will sa ve money on a conversion from a
traditional defined benefit plan to a cash balance plan are the overall design
of the plan, whether the employer provides transition benefits, how the
workforce is composed, and the impact on other employee benefit
programs.155
Employers who convert to a cash balance plan often increase
contributions to other employee benefit plans.156 Also, employers who
initially save on decreased contributions to older employees will pay over the
long term with higher contributions on behalf of their younger employees.157
Indeed, that is one reason why cash balance plan supporters dispute claims
that employers switch to cash balance plans to save money.158 As some
supporters point out, an employer who wanted to save money could reduce
the generosity of the defined benefit pla n formula, terminate the plan
altogether, or replace it with a less expensive defined contribution plan. 159
All in all, the overall characteristics of cash balance plans make these
plans very attr active for employers. Employers have funding flexibility and
151. See id.
152. See id. at 7.
153. See Perdue, supra note 69, at 197.
154. See id.
155. See Addressing Today’s Workforce Needs, APPWP Voices Cash Balance Plans’
Ben efits To Employees and Employers (vi sited Sept. 11, 2000 )
<http://www.appwp.org/la42 399.html>.
156. See Ugoretz, supra note 149, at 465.
157. See id.
158. See The ERISA Industry Committee, supra note 113.
159. See id.
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can hire workers who favor the monthly statements of benefits and benefit
accruals that are proportional to salary. 160 As a result, with cash balance
plans, employers can enjoy the most favorable characteristics of both defined
benefit plans and defined contribution plans.
C. Employee Perspectives on Cash Balance Plans
All in all, cash balance plan conversions ca n be very beneficial for
employers, but the effect of a conversion on employees is less clear cut.
Some mid-career employees are greatly hurt by the wearaway and loss of
expected increased accruals.
1. How Employers Obtain Employee Approval for Conversions
Because the wearaway problem can have such a negative effect on
workers, it is worth consider ing why most employees do not protest the
change from a traditional defined benefit plan to a cash balance plan. For the
most part, the failure to protest results from the fact that conversions are too
complicated for most employees to understand and from the fact that
employees usually receive very little notice of proposed conversions. Also,
in many instances, an employer will offer “sweeteners” to assure employee
acceptance of the new plan. 161 These sweeteners can include higher
contributions or giving some employees the power to elect to stay under the
old plan. 162 These sweeteners can ease the transition for employees, but not
all employers offer them.
There have been some protests. The recent cash balance conversion by
IBM, for example, was the subject of extensive protests by employees (and
politicians). In particular, many older employees complained about having
to suffer from wearaways at a time when the pension had an eight million
dollar surplus and the company had record profits.163 At least one employee
suit was brought because of the conversion. 164 As a result of these
widespread protests, IBM recently agreed to give a larger number of
160. See Congel, supra note 1, at 658.
161. See Ellen Schultz & Elizabeth MacDonald, Retirement Wrinkle: Employers Win Big
With a Pension Shift; Employees Often Lose, WALL ST . J., Dec. 4, 1998, at A1.
162. See id.
163. See, e.g., sources cited supra note 145.
164. See McAuley v. Int’l Bus. Mach. Corp., 165 F.3d 1038 (6th Cir. 1999). See also
Congel, supra note 1, at 658.
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413
employees the option of staying with the original plan or moving to the
company’s new cash balance pla n.165
2. Why Some Employees Benefit from Cash Balance Plans
On the other hand, many workers may applaud a cash balance plan
conversion. In particular, younger workers typically favor cash balance plans
because of the more favorable benefit formula and because the benefits are
more portable than under traditional defined benefit plans.166 Women, too,
may prefer cash balance plans. According to one actuarial study, most
women would receive more benefits under a cash balance plan than under a
traditional plan. 167 Cash balance plans are very favorable for employees who
leave and reenter the work for ce. 168 Additionally, workers no longer have to
work until some magic date to receive increased benefits.169 As a result,
employees may be more able to leave unsatisfying jobs.170
Additionally, many wor kers prefer to have their benefits defined in terms
of accounts, albeit hypothetical accounts.171 Workers may also appreciate
their employer’s contributions more under a cash balance plan because they
receive annual notification of employer credits to their accounts.172 Besides
these benefits, many employees will actually profit from the conversion to a
cash balance plan.
IV. THE LEGAL ITY O F CASH BALANCE CONVERSIONS
Replacing a traditional pension with a cash balance plan raises a number
of complicated and unsettled legal issues under the Internal Revenue Code,
the Employee Retirement Income Security Act (ERISA) and the Age
165. See Edward P. Jones, IBM Eas es Rules on Cash Balance Plans, 85 TAX NOTES 73
(1999).
166. See Mary E. Oppenheimer, Cash Balance Plans Under Section 401(a)(4), ALI-ABA
Course of Study (Mar. 20, 1991), available in WL, C580 ALI-ABA 433, 435.
167. See Quick, supra note 4, at 7. See also Rappaport, supra note 50.
168. See The ERISA Industry Committee, supra note 113.
169. See id.
170. See id.
171. See id.
172. See Gayle Stutzman Evans, Qualified Retirement Plans: What’s Best for the Family
Business Owner?, ALI-ABA Course of Study (July 16, 1998), available in WL, SD10 ALIABA 239, 265.
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Discrimination in Employment Act (ADEA).173 These legal issues fall into
four principal categories: (1) the protection of accrued benefits; (2) the rate
of benefit accrual; (3) age discrimination; and (4) notice requirements.
A. The Protection of Accrued Benefits
The Internal Revenue Code and ERISA give employers very broad
latitude in amending plans. The Internal Revenue Code states that a plan may
not reduce “the accrued benefit of a participant.”174 The same anti-reduction
rule also appears in ERISA. 175 Under these provisions, a plan amendment is
permissible as long as a participa nt’s already accrued benefit is not
decreased. 176
In the case of a traditional defined benefit plan converted to a cash
balance plan, the employer is, in effect, freezing past benefit accruals and
adopting a new formula for future benefit accruals. As long as past benefit
accruals are not reduced, it would seem that an employer is always free to
amend its plan to reduce future benefit accruals.177 According to no less an
authority than the Chief Counsel of the IRS, an “employee’s expectation that
a benefit formula will remain in effect until the employee retires is not
protected.”178 Nor do these provisions “protect an employee’s expectation
that future compensation increases will be ta ken into account in computing
173. See, e.g., Howard Shapiro & Robert Rachal, Guest Article: Litigation Issues in
Cash
Balance
Plans
(visited
Sept.
11,
2000)
<http://www.benefitslink.com/articles/cashbalance/
shtml>; Hearing on Cash Balance, supra note 9 (statement of the ERISA Industry
Committee) (visited Sept. 7, 2000) <http://www.eric.org/testimony/060500.htm>; Ira
Cohen, Poor Guidance Caused Cash Balance Controversy, 85 TAX NOTES 1201 (1999).
174. “A plan shall be treated as not satisfying the requirements of this section if the
accrued benefit of a participant is decreased by an amendment of the plan, other than an
amendment descr ibed in section 4 12(c) (8), or sect ion 4281 of the Employee Retirement
Income Security Act of 1974.” I.R.C. § 411(d)(6)(A) (1994).
175. See ERISA § 204(g)(1), 29 U.S.C. § 1054(g)(1) (1994). “The accrued benefit of a
participant under a plan may not be decreased by an amendment of the plan, other than an
amendment described in section 1082(c)(8) or 1441 of this title.” Id.
176. These provisions “also protect[ ] associated fundamental rights, for example, the
right to receive an early retirement benefit.” Hearing on Hybrid Pensions, supra note 8
(testimony of Stuart Brown) and supra note 22.
177. See Mitchell, supra note 4, at 30.
178. Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and supra
note 22.
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415
an employee’s benefits.”179 For that matter, an employer is generally free to
terminate an existing plan and provide no future benefit accruals
whatsoever.180
In short, replacing a traditional pension plan with a cash balance plan
will not violate this anti-reduction rule as long as the new plan “protects the
benefits that participants had accr ued under the original plan at the time of
the conversion.”181 As mentioned, employers can satisfy the anti-reduction
rule by guara nteeing that each employee is assured “the greater of” the
accr ued benefits under the original plan or the benefits calculated under the
new cash balance formula.182
Moreover, this analysis is equally applicable to ca sh balance conversions
that involve a wearaway.183 Many employers set the starting account balance
of the defined benefit plan at a value less than the accrued benefits. Under
that scenario, an employer does not have to make additional contributions
until the value promised under the new plan exceeds the amount already
accr ued under the old plan. 184 Nevertheless, as long as an employer does not
reduce past benefits, it can set the rate of future benefit accrual at any level
that it wants without risk of violating the anti-reduction rule.185
In practice, however, some cash balance conversions may run afoul of
the anti-reduction rule. In particular, if a plan r elies solely on the value of a
worker’s hypothetical account to pr otect accr ued benefits, changes in the
market interest rates can create problems. For example, a cash balance plan
might violate the anti-reduction rule if the interest rate used for interest
credits is less than the plan’s interest rate used for calculating a lump sum
179. Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and supra
note 22.
180. See id.
181. Id.
182. See id.; Hearing on Hybrid Pensions, supra note 8. The employer must ensure that
all benefits accrued as of the date of conversion are protected , including such optional
forms of benefits as an early retirement option. See id. (testi mon y of Stuart Brown) and
supra note 22. See supra Part III.A.3.
183. See Hearing on Hybrid Pensions (testimony of Stuart Brown) and supra note 22.
But see Senator Tom Harkin, Harkin Letter to IRS Commissioner Rossotti, available i n
WL, 1999 TNT 135 -59. Senat or Harkin argues that the plans are using a legal fiction to
reduce accrued benefi ts. Senator Harkin believes that companies are getting around the
prohi biti on against reducing accrued benefits by denying benefits under the new plan due
to the already accrued benefits. See id.
184. See Purcell, supra note 4, at 8.
185. See id.
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distribution. 186 A similar problem could result if the original plan allowed for
subsidized early retirement and the value of that potential subsidized early
retirement was not taken into account in establishing the initial cash
balance. 187
B. Rate of Accrual Issues
The Internal Revenue Code and ERISA provide specific rules that
govern the pattern under which pension benefits must be accrued.188 In
general, these rules were enacted to prevent excessive backloading of benefit
accruals.189 The rules ensure that the benefits under a pension plan accrue at
certain minimum rates. For example, a plan that provided a pension that
accrued $1 a year for twenty-nine years and $100,000 in year thirty would
violate these anti-backloading rules.
That’s where cash balance plan conversions that involve a wearaway can
have a problem. Cash balance plans generally seek to satisfy the so-ca lled
133a% method of benefit accrual.190 Under that method, the benefit accrual
in a later year of service cannot exceed 133a% of the benefit accr ual in any
prior year of service. The IRS acknowledges that some cash balance plan
conversions can satisfy the 133a% test.191 However, the IRS is concerned
that the interplay of multiple benefit formulas, pay patterns, length of
service, age of participants, and interest rates can result in accrual patterns
that do not sa tisfy the rule.192
In particular, the IRS seems to be concerned that the period of zero
benefit accruals following a cash balance plan conversion may violate the
186. See Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and
supra note 22. Cf. Lyons v. Georgia Pac. Corp. Salaried Employee s Retirement Plan, No.
99-1 0640, 2000 U.S. App. LEXIS 19180 (11th Cir. Aug. 11, 2000) (holding that, after a
cash balance conversion, the Georgia Pacific plan violated ERISA when it failed to properly
compute Lyons’ lump-sum distribution).
187. See Time Out for Facts, supra note 6. To avoid this r isk, h owever, t he cash b alance
plan can use the “greater of” formula discussed earlier. See Hearing on Hybrid Pensions,
supra note 8 and te xt accompanying notes 10 4-06; supra Part III.A.3.
188. See I.R.C. § 411(b)(1) (1994); ERISA § 204(b)(1), 29 U.S.C. § 1054(b)(1) (1994).
189. Recall that backloading occurs when a disproportionate percentage of benefits are
earned at the end of a worker’s career. See supra Part II.A.
190. See Hearing on Hybrid Pension, supra note 8 (testimony of Stuart Brown) and
supra note 22. See also I.R.C. § 411(b)(1)(B).
191. See Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and
supra note 22.
192. See id.
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417
133a% test. The test would be violated, for example, if an employee
accr ued no benefit one year and $1000 the following year, as $1000 is
infinitely larger than $0 (and so greater than 133a times $0).
The problem is much more complicated, however, and the appropriate
conclusion depends on what is meant by the term “benefit accrual.”193 During
a wearaway period, a worker will see pay credits and interest credits added
to her account, but if she actually left the company and took a lump sum
distribution, she might not see any increase in the amount of money that she
received. Sometimes, under these circumstances the 133a% rule might be
violated. 194
In that regard, the IRS is cur rently litigating a case in the Tax Cour t in
which it has asserted that the 133a% rule was violated in a cash balance
conversion. 195 The Tax Court case involves the cash balance pla n conversion
193. See Lurie, supra note 6.
194. According to the IRS Chief Counsel, Stuart L. Brown:
[O]ne method [for measuring benefit accrual] focuses on the participant’s
hypothetical account balance for the current year and projects it forward to
normal retirement age using the interest crediting rates specified by the plan.
This hypothetical account balance at normal retirement age is then converted
to an annuity benefit, again using actuarial factors specified in the plan. The
annuity benefit as of the end of the prior year is also measur ed using the same
method. The difference in the accrued b ene fit s (shown a s an ann uity) for the
two years is the accrued benefit for the year. The accrual rate is determined by
dividing the accrued benefit for the year by the parti cipan t’s compensation for
the current year. . . . The accrued benefit and accrual rate for each year are
calculated using this method, then compared. If the accrual rate for any year
exceeds 133 1/3[% ] of that for any prior year, the plan will fail to satisfy this
method.
Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown).
195. See id.; William K. Carr, Participants Contend Pension Plan Fails to Satisfy
Accrual Rules, available in WL, Doc. 1999-4130, 1999 CTF 6-12 (origi nal petit ion of
Seidlitz v. Commissioner). See also Participants Contend Pension Plan Fails to Satisfy
Accrual Rules, 82 TAX NOTES 1011 (1999) (summarizing original petition); William K.
Carr, Amended Tax Court Petition: Seidlitz v. Commissioner, TAX NOTES TODAY , Aug. 27,
1999, available in WL, Doc. 1999-27983, 1999 TNT 166-9 (text of amended petition)
[hereinafter Amended Petition]; Colleen T. Congel, Cash Balance Plans: Firm’s
Conversion Disqualifies Plan: Court Should Lift Exempt Status, IRS Says, 26 Pens. & Ben.
Rep. (BNA) 2165 (Au g. 30, 1999) (IRS Answer to Petit ion); St uart L. Brown & Lawr ence
H. Ackerman, IRS Agrees With Plan Participa nts: Amended Plan Was Disqu alifi ed, TAX
NOTES TODAY , Aug. 27, 1999 available in WL, Doc. 1999-27984, 1999 TNT 166-10;
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by the Onan Corporation.196 Participants in the plan filed a petition in Tax
Court seeking a declaratory judgment that Onan’s cash balance plan
conversion violated the I.R.C. § 411(b)(1) benefit accrual rules a nd that the
plan should be disqualified from tax-exempt status.197 The participa nts claim
that under the plan, the 133a% accrual rule is violated for years in which
employees receive no accruals.198 In its answer, the IRS agreed with the
participants that the Onan plan violated the 133a% rule, and it further
asserted that the Onan conversion also violated other pension qualification
provisions.199
Of note, an interna l IRS memorandum that discusses when a cash
balance plan violates the qualification provisions was recently leaked to the
press.200 That memorandum from one of the IRS district directors to the
main employee benefits division discusses when a cash balance conversion
will violate the Internal Revenue Code, and commentators believe that the
letter addresses the Onan conversion. 201 News reports have been careful to
note that the memorandum addressed only one taxpa yer’s plan and may not
reflect the IRS’s view on cash balance plans in general.202 In that regard, the
Onan case concerns a rather atypical cash balance plan conversion. Features
of the Onan conversion that earned IRS disapproval include a provision
providing smaller interest credits for participants who are no longer
employees and a provision allowing benefit reduction in coordination with a
Colleen T. Congel, Cash Balance Plans: Rep. Sanders Repeats Call for Review of Cash
Balance Age Discrimination Issues, 26 Pens. & Ben. Rep. (BNA) 2179 (Sept. 6, 1999)
(discussing IRS position in case) [hereinafter Rep. Sanders Repeats Call]; Colleen T.
Congel, Cash Balance Plans: IRS Supports Participants’ Suit Over Calculation of Pension
Benefits, 26 Pens. & Ben. Rep. (BNA) 2164 (Aug. 30, 1999).
196. See Amended Petition, supra note 195.
197. See id.
198. See id.
199. See Brown & Ackerman, supra note 195.
200. See Bonner Menking, Lawmaker Urges IRS To Attack Cash Balance Pension Plans,
84 TAX NOTES 1353 (1999).
201. See Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and
supra note 22.
202. See Congel, Rep. Sanders Repeats Call, supra note 195.
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419
profit sharing pla n.203 Most cash balance plan conversions do not share these
features.
In any event, the question as to whether wearaways following a cash
balance conversion violate ERISA’s anti-backloading rule is one of the
principal issues that the IRS is studying, along with the Department of Labor
and the EEOC.204 Of note, however, wearaways occur in lots of situations,
and the IRS has never really complained.205
Moreover, it should be noted that many wearaways in cash balance
conversions are the result of the elimination of early retirement subsidies.206
In that regard, however, I.R.C. § 411(b)(1)(B)(iii) says that early retirement
benefits are to be disregarded in applying the 133a% test. Once early
retirement subsidies are taken out of the mix, it seems unlikely that many
cash balance plan conversions will fail the 133a% test.
C. Age Discrimination
Cash balance conversions might also run afoul of the age discrimination
laws.207 The Age Discrimination in Employment Act (ADEA) generally
prohibits employers from discriminating against workers over the age of
203. See Ryan J. Donmoyer, IRS Seeks To Disqualify Cash Balance Pension Plan, 84
TAX NOTES 1234, 1235 (1999); but see Onan Defends Conversion to Cash Balance Plan,
TAX NOTES TODAY (Mar. 23, 2000) (LEXIS, FEDTAX Library, TNT File, 2000 TNT 5735).
204. See, e.g., Time Out for Facts, supra note 6. See also I.R.S. News Release IR-199979, 64 Fed. Reg. 56,578 (1999), reprinted in 26 Pens. & Ben. Rep. (BNA) 2532 (Oct. 25,
1999). Especia lly notew orth y comments incl ude the followin g: Detailed Comments
Regarding Cash Balance Plans Submitted to the Internal Revenue Service in Response to
IRS News Release 1999-79 by the Association of Private Pensions and Welfare Plans
(APPWP - The Benefits Association) (Jan. 19, 2000) (visited Sept. 11, 2000)
<http://www. appwp.org/d crcbp000120. pdf> [hereinaft er APPWP]; Submission of the
ERISA Industry Committee to the Internal Revenue Service and the Department of the
Treasury on Cash Balance Plans (The ERISA In dustr y Commit tee, Jan. 19, 2000) (visited
Sept. 11, 2000) <http://www.eric.org/testimony/cashbalance.htm> [hereinafter ERISA
Industry Com mittee].
205. See Time Out for Facts, supra note 6.
206. See Hearing on Cash Balance, supra note 9 (testimony of Laurel Sweatt) and supra
note 111, at 8.
207. See generally Lurie, supra note 6; Purcell, supra note 4; Michael S. Horne, Are
Cash Balance Plans Inherently Unlawful Under the Age Discrimination in Employment
Act? (The ERISA Industry Committee, Nov. 1, 1999) (visited Sept. 11, 2000)
<http://www.eric.org/issuebriefs/93099cash. htm>; Hearing on Hybrid Pensions, supra note
8 (testimony of Lawrence Lorber, Partner, Sonnenschein, Nath and Rosenfeld).
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forty. 208 Pertinent here, I.R.C. § 411(b)(1)(H) prohibits a defined benefit plan
from ceasing accruals, or reducing the rate of benefit accruals, “because of
the attainment of any age.”209 Para llel provisions are found in ERISA210 and
in the Age Discrimination in Employment Act.211
While these statutes clearly forbid a cessation of benefit accruals or a
reduction in the rate of benefit accruals because of age, they do not
automatically prohibit benefit reductions that merely correlate with age.
Indeed, these statutes expressly state that a plan will not fail solely because
it limits the total amount of benefits that the plan provides or the total
number of years that can be used to compute benefits.212 Still other
exceptions ensure “that subsidized early retirement benefits, social security
supplements, and disability benefits do not violate the age discrimination
prohibitions, even though the value of such plan provisions to participants
may decline with age.”213
1. Does the Typical Cash Balance Plan Violate the Age Discrimination
Laws?
In a recent law review article, Professor Edward A. Zelinsky of the
Benjamin N. Cardozo School of Law of Yeshiva University concluded that,
“as a matter of law, the typical cash balance plan violates the statutory
prohibition on age-based reductions in the rate at which participants accrue
their benefits.”214 Needless to say, supporters of cash bala nce plans
208. See 29 U.S.C. § 623(a) (1994).
209. Simil arly, I.R.C. § 411(b )(2) (A) prohibi ts a define d contr ibut ion pl an from ceasing
allocations, or reducing the rate at which amounts are allocated, to a participant’s account,
“because of the attainment of any age.” I.R.C. § 411(b)(2)(A) (1994).
210. See ERISA § 204(b)(1)(H), 29 U.S.C. § 1054(b)(1)(H) (1994).
211. See 29 U.S.C. § 623(i) (1994).
212. See, e.g., ERISA § 204(b)(1)(H)(ii), 29 U.S.C. § 1054(b)(1)(H)(ii) (1994).
A plan shall not be tre ated as fai ling to meet the requirements of this
subparagraph solely because the plan imposes (without regard to age) a
limitation on the amount of benefits that the plan provide s or a limit ation on
the number of years of service or years of participation which are taken into
account for purposes of determining benefit accrual under the plan.
Id.
213. Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and supra
note 22.
214. Zelinsky, supra note 23, at 686, 733-43.
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421
disagree. 215 The dispute focuses on competing interpretations of the
applicable age discrimination provisions.216 The question is a highly technical
one that merits, at least, a basic explication.
I.R.C. § 411(b)(1)(H)(i) prohibits a defined benefit plan from reducing
the “rate of an employee’s benefit accr ual” because of the “attainment of any
age.”217 However, “the rate of an employee’s benefit accrual” is nowhere
defined.218 In that regard, however, I.R.C. § 411(a)(7) defines an employee’s
“accrued benefit” under a defined benefit plan as an annuity commencing at
normal retirement age (e.g., a n “age-65 a nnuity”), and Zelinsky believes that
this definition is applicable under I.R.C. § 411(b)(1)(H). 219 On the other
hand, supporter s of cash balance plans argue that an employee’s “benefit
accrual” under I.R.C. § 411(b)(1)(H) ca nnot mean the same thing as an
employee’s “accrued benefit” under I.R.C. § 411(a)(7).220
Consider an employer with two employees each of whom make $40,000
in the current year and have $1000 credited to their cash balance accounts.
The only difference is that one employee is age thirty-five and the other is
age fifty-five. The mathematics are not in dispute. On the one hand, because
the amounts credited to the two employees are equal, there does not appear
to be any age discrimination. On the other hand, everyone agrees that the
I.R.C. § 411(a)(7) age-65 annuities are different: as of age sixty-five, the
$1000 credited to the account of the thirty-five-year-old will buy an annuity
of $1094 per year, while, as of age sixty-five, the $1000 credited to the
account of the fifty-five-year-old will buy an annuity of just $235 per year.221
Is that age discrimination, or have both employees been treated equally?
If all we had to go on was the statutes themselves, Zelinsky’s
interpretation would seem to be the most plausible. However, because
Congress, in fact, used different terms in § 411(b)(1)(H) and § 411(a)(7), it
created an ambiguity. Consequently, there is significant reason to look
beyond the statutes to see if Congress intended to use these differ ent terms
synonymously. In that regard, the two provisions are geared towards
regulating completely different pension plan design problems. Consequently,
215. See, e.g., Shea et al., supra note 23; Barker & O’Brien, Do Cash Balance Plans
Violate the ADEA?, supra note 23.
216. See, e.g., I.R.C. § 411(b)(1)(H)(1994).
217. Id.
218. Barker & O’Brien, supra note 23, at 77.
219. See Zelinsky, supra note 23, at 733.
220. See Barker & O’Brien, supra note 23, at 79.
221. See Zelinsky, supra note 23, at 722.
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it seems tha t the better view is to interpret the terms differently and in a way
that can best effectuate the very different purposes for the two provisions.222
In short, although the matter is not free from doubt, it appears that the
normal operations of a cash balance plan should not run afoul of the
prohibition against age discrimination. 223
2. Does the Typical Cash Balance Plan Conversion with a Wearaway
Violate the Age Discrimination Laws?
By the same token, replacing a traditional pension plan with a cash
balance plan should not automatically result in a violation of the age
discrimination laws.224 Here, one of the key issue becomes whether the
cessation of benefits due to the wearaway happens because of age. The issue
is complicated by the fact that so many benefit reductions which are tied to
age-related factors, such as limits on years of service and limits on total
accruals, do not violate age discrimination rules.225
Almost the only guidance issued by the government on this issue comes
from the preamble to some IRS regulations issued in 1991 to address issues
of discrimination in favor of highly compensated employees under I.R.C. §
401(a)(4).226 Although the 1991 regulations are silent on the question of age
discrimination, the preamble says that the age discrimination rules are not
222. See Members of ABA Tax Section, supra note 112, ¶ 37.
223. In that regard, IRS Chief Counsel Stuart Brown noted that “[t]he Service has not
to date asserted that cash balance plan benefit formulas result in per se violations of the age
discr imination requirements of section 411(b)(1)(H).” Hearing on Hybrid Pensions, supra
note 8 (testimony of Stuart Brown) and supra note 22.
224. See Hugh Forcier, Understanding the Assault on Cash Balance Plans (Dec. 1999)
(visited Sept. 21, 2000) <http://www.faegre .com/article_print .asp?id=349>.
Employers argue that the “benefit accrual” is simply measured by the pay
credit. That is, under a level pay credit formula (4% of pay in the example) the
rate of “benefit accrual” is the same percent each year and, obviously, does not
decrease with age. Em ployers also note th at, i n the case of defin ed contribu tion
plans, the contribution rate determines whether there is an impermissible
decrease based on increasing age.
Id. ¶ 5.
225. See id; Purcell, supra note 4, at 12.
226. See 56 Fed. Reg. 47,524 (1991).
2000]
Cash Balance Pension Plan Conversions
423
violated just because “interest adjustments through normal retirement age are
accrued in the year of the related hypothetical allocation.”227
The IRS, along with the Department of Labor and the Equal
Employment Opportunity Commission (EEOC), are continuing to study the
question of when a cash balance conversion might violate the age
discrimination laws.228 According to IRS Chief Counsel Stuart Brown, in this
analysis, the government is “consider ing the whole range of factors that
might indicate a cash balance plan conversion has resulted in age
discrimination. For example, we will consider the impact of the wearaway
period, as it affects employees of various ages.”229 In the meantime, the IRS
has “taken action to require that all cash balance pla n conversions pending
with the Service be forwarded to the National Office for technical advice.”230
Again, although the matter is not free from doubt, it appear s that the
typical cash balance conversion should not violate the prohibition against age
discrimination.231
3. Age Discrimination Case Law
At this writing, no case has directly ruled that a conversion from a
traditional defined plan to a cash balance plan violated ADEA. The First
Circuit, however, recently considered whether the adoption of a cash balance
plan showed “age animus” on the part of an employer.232 In Goldman v.
First National Bank of Boston,233 the plaintiff maintained that he was fired
in violation of ADEA. He cited the employer’s adoption of a cash balance
plan to suppor t this claim of age animus.234 The Goldman court reasoned
227. Id. at 47,528.
The fact that interest adjustments through normal retirement age are accrued
in the year of the related hypothetical allocation will not cause a cash ba lance
plan to fail to satisfy the requirements of section 411(b)(1)(H), relating to
age-based reductions in the rate at which benefits accrue under a plan.
Id. See also Ugoretz, supra note 149, at 467; Strella, supra note 4.
228. See Hearing on Hybrid Pensions, supra note 8 (testimony of Stuart Brown) and
supra note 22.
229. Id.
230. Id.
231. See especially Shea et al., supra note 23; Barker & O’Brien, supra note 23.
232. See Goldman v. First Nat’l Bank, 985 F.2d 1113, 1120 (1st Cir. 1993).
233. Id.
234. See id. at 1119.
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that the cash bala nce plan conversion was not evidence of age animus. T he
plaintiff had cited the decreasing accruals with age and the employer’s desire
to attract younger employees as strong motivation for the cash balance
plan. 235 The court stated that these factors were insufficient to show age
discrimination unless the plaintiff could show that the benefits received under
the old plan were lowered. 236 However, the court did cite the employer’s
protections for older employees in the form of a choice between the old and
new plan. As a result, employees could argue that an employer who did not
provide such pr otections might be liable for age discrimination.
Courts have, however, addressed issues relating to pensions plans and
ADEA outside of cash balance plans. Several of these case illustrate how
courts might view ADEA claims for cash balance pla ns. For example, in one
case, the plan stated that the current value of an employee’s accrued benefit
would be deducted in determining his or her separation pay.237 Because older
employees were closer to retirement, they would receive less. Nevertheless,
the court ruled tha t the plan did not violate ADEA. 238 This case suggests that
the leveling of future benefit accruals that is characteristic of cash balance
plan conversions is not age discriminatory.
The Goldman case a nd other ADEA cases not dealing with cash balance
plans are also instr uctive because they show what an employee would have
to prove concerning a cash balance plan. An employee would have to
establish that the cash balance plan reduced benefits on the basis of age. 239
Because cash balance plans have uniform accrual rates (i.e., a pay credit
equal to 5% of salary), it will be difficult for an employee to establish a
prima facie case of age discrimination. Instead, an employee would have to
argue that the uniform accrual rates violate ADEA because they have a
disparate impact on older workers. Disparate impact is where a facially
neutral policy “fall[s] more harshly on one group.”240
All in all, it is extremely difficult to establish a prima facie case of age
discrimination when the plaintiff claims disparate impact of facially neutral
235. See id. at 1120.
236. See id.
237. See Abenante v. Fulflex, Inc., 701 F. Supp. 296, 298 (D. Ct. R.I. 1998).
238. See id. at 302. The court e ven wen t on to state that finding for the plaintiffs would
hurt older workers by making them more expensive to employ. See id.
239. See Stein v. McGraw-Hill, Inc., 782 F. Supp. 207, 210 (S.D.N.Y. 1992).
240. Hazen v. Biggins Paper Co., 507 U.S. 604, 609 (1993).
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425
rules.241 The Supreme Court has shown resistance to the use of disparate
impact analysis under ADEA, 242 and at least two circuits have refused to
apply disparate impact to ADEA claims.243 As a result, it seems likely that
an employee’s claim that a cash balance conversion violates ADEA will face
an uphill battle. 244
D. Notice Requirements
ERISA also requires that participants in a defined benefit plan receive
notice of a plan amendment at least fifteen days before its effective date. 245
The statute does not give any further guidance as to what information must
be included in the notice, and the courts have been fairly lenient in
determining whether an employer has given sufficient notice of a benefit
reduction. 246
241. See JOSEPH E. KALET , AGE DISCRIMINATION IN EMPLOYMENT LAW 87 (2d ed.
1990).
242. See Howard C. Eglit, The Age Discrimination in Employment Act at Thirty: Where
It’s Been, Where It Is Today, Where It’s Going, 31 U. RICH. L. REV. 579, 696-97 (1997)
(citing Justice Rehnquist’s dissent in Markham v. Gellar, 451 U.S. 945, 947 (1981) and
Jus tices Ken ned y, Thomas, and Rehnquist in Biggins v. Hazen Paper Co., 507 U.S. 604,
618 (1993)).
243. See Eglit, supra note 242, at 697.
244. Forcier puts it this way: “Since an older wor ker hired after the conversi on is not
impacted by the wear-away, the use of the technique is not inherently related to age.
Therefore, the opponents of cash balance plans must rely on a ‘disparate impact’ claim.”
Forcier, supra note 224, ¶ 15.
245.
A plan described in paragraph (2) may not be amended so as to provide for a
significant reduction in the rate of future benefit accrual, unless, after the
adoption of the plan amendment and not less than 15 days b efore t he effe ctive
date of the plan amendment, the plan admini stra tor provides a written notice,
sett ing for t he plan ame ndmen t and its e ffective date, to—
(A) each participant in the plan, . . .
...
(C) each employee organization representing participants in the plan.
ERISA § 204(h)(1)(A), (C), 29 U.S.C. § 1054(h)(1)(A), (C).
246. See, e.g., Scott v. Admin. Comm. of the Allstate Agents Pension Plan, 113 F.3d
1193, 1200 (11th Cir. 1997) (The court applied the test of whether an average participant
would understand that the benefit accrual formula would change after a certain date. The
court stated “[t]he summary need not explain how the indi vidual benefit of each participant
or alternate payee will be affected by the amendment.”)
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Employers vary greatly in the level of information pr ovided to employees
concerning a conversion. 2 4 7 In any event, it seems fairly certain that most
employers converting to cash balance plans can easily meet the current notice
requirements. In that regard, however, several of the legislative proposals
relating to cash balance plans center on increasing notice requirements, and
the Treasury Department has also indicated that it agrees that the current
notice requirements are insufficient.248
V. RECENT LEGISLATIVE AND REGULATORY ACTION RELATING TO CASH
BALANCE PLANS
Due to the current attention on cash balance plan conversions, Congress
and the Executive Branch have been put under considerable pressure to take
action. Moreover, there is r eason to believe that cash balance plan
conversions may be an issue in the year 2000 elections.249 This Part outlines
some of the recent legislative proposals and Executive Branch efforts.
A. Recent Legislative Efforts
Recently, a number of bills have been introduced in Congress that would
have an impact on cash balance plan conversions. Some of these proposals
would affirmatively discourage conversions, while others mer ely seek to
ensure adequate disclosure of the consequences of conversions.250 The
Executive Branch also supports legislation that would expand the disclosure
required when an employer replaces a traditional pension with a cash balance
247. See Purcell, supra note 4, at 7.
248. See Colleen T. Congel, Cash Balance Plans: Iwry Enc ourages Enhanc ed
Disclosure; Moynihan May Revise Legislation, Aide Says, 26 Pens. & Ben. Rep. (BNA)
2305 (Sept. 27, 1999).
249. See, e.g., Barker & O’Brien, supra note 101; Lawrence J. Sher, Likely Future of
Hybrid Plans, in EBRI-ERF POLICY FORUM, THE NEXT 25 YEARS OF ERISA (1999) (visited
Sept. 11, 2000) <http://www.ebri.org/decggpf/sher. pdf>.
250. See, e.g., Colleen T. Congel, Cash Balance Plans: Congressional Aides Discuss
CB Plans, Pension Provisions in Minimum Wage Bill, 26 Pens. & Ben. Rep. (BNA) 2552
(Oct. 18, 1999).
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plan. 251 In addition, there have been a number of Congressional hearings 252
and reports253 issued on the subject of cash balance conversions.
1. Legislation that Would Discourage Conversions
a. Older Workers Pension Protection Act
One of the most ardent critics of cash bala nce plan conversions has been
Senator Tom Harkin. Senator Harkin maintains that the wearaway inherent
in a conversion from a traditional defined benefit plan to a cash balance plan
violates the spirit of laws protecting against age discrimination.254 As a
result, Senator Harkin has proposed the Older Workers Pension Protection
Act of 1999.255 His bill would outlaw wearaways.256
Senator Harkin recognizes the primary objection to his plan. An
employer might be motivated to terminate pension benefits all together.257 No
law requires an employer to provide a pension plan. Additionally, many
employers choose to convert to cash balance plans because a conversion is
cheaper than fully funding a terminated pension plan. However, Harkin
maintains that employers provide pension benefits to attract employees and
his law would not affect this consideration.258 Critics of Harkin’s bill are
251. See Colleen T. Congel, Disclosure Bil l Intr oduced i n the Hous e, Senate;
Lawmakers, Agency Officials Praise Proposal, 26 Pens. & Ben. Rep. (BNA) 2395 (Oct.
11, 1999) [hereinafter Congel, Disclosure Bill].
252. See, e.g., Colleen T. Congel, Cash Balance Plans: Treasury Official Tells Senate
Labor Panel Resources Exist to Study Cash Balance Plans, 26 P ens. & Ben. Rep. (BNA)
2303 (Sept. 27, 1999) (discussing the Sept. 21, 1999 Hearing on Hybrid Pensions, supra
note 8); Rep. Robert Matsui, Cash Balance Plans: Administration, Rep. Matsui Developing
Proposal Address ing Dis closu re Issues, 26 Pens. & Ben. Rep. (BNA) 1759 (July 12, 1999)
(discussing the June 30, 1999 Hearing on Pension Reform, supra note 8); Congel, Senator
Grassl ey, supra note 16 (discussing the June 5, 1999 Hearing on Cash Balance, supra note
9).
253. See, e.g., Purcell, supra note 4.
254. See Harkin, supra note 41.
255. S. 1600, 106th Cong., 1st Sess. (1999) (previously introduced as the Older Workers
Pension Protection Act of 1999, S. 1300, 106th Cong., 1st Sess. (1999)).
256. See id.
257. See id.
258. See id.
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unconvinced and claim that older workers would be hurt more by termination
of pension plans than by conversions to cash balance plans.259
Harkin’s bill would amend the anti-reduction rule in I.R.C. § 411(d)(6)
and ERISA § 204(g). The bill would make it impermissible for a plan
amendment to reduce accrued benefits if the accrued benefit after the plan
amendment is less than the sum of the old benefits and new benefits added
every year under the new plan. 260 This rule would, in effect, mean that the old
traditional defined benefit is frozen and future accruals would be added at the
cash balance plan accrual rate. As a result, the wearaway would be
eliminated. Harkin’s or iginal proposal contained a tax penalty. However, he
removed that portion of the proposed bill when he reintroduced the bill.261
Senator Harkin also managed to get the Senate to pa ss a non-binding
resolution expressing the “sense of the Senate” that something needs to be
done to protect long service workers from the adverse consequences of cash
balance conversions.262
b. Representative Sanders’ Plan
259. See ERIC Legislative Bulletin, July 29, 1999 (visited Sept. 11, 2000)
<http://www.eric.org/issu ebriefs/harki namd.htm>.
260. See S. 1300, 106th Cong., 1st Sess. (1999).
For purposes of subparagraph (A), a pl an ame ndmen t adopted by a large
defined benefit plan shall be tr eated as reducing accrue d benefits of a
participant if, under the terms of the plan after the adoption of the amendment,
the accrued benefit of the participant may at any time be less than the sum of ‘(I) the participant’s accrued benefit for years of servi ce befor e the effecti ve
date of the amendment, de termined under the terms of the plan as in effect
immediately before the effective date, plus
‘(II) the participant’s accrued benefit determined under the formula
applicable to benefit a ccrual s unde r the curre nt pl an as applied t o years of
service after such effective date.
Id. § 2(a)(i).
261. See Colleen T. Congel & Mark Felsenthal, Tax Legislation: Outlook for Pension
Reform Uncertain; Clinton Indicates Willingness to Negotiate, 26 Pens. & Ben. Rep.
(BNA) 2216 (Sept. 13, 1999); S. 1600, 106th Cong., 1st Sess. (1999).
262. See Cash Balan ce Plans: Senate App roves No n-bin ding Res oluti on on Work er
Protections During Conversions, 27 Pens. & Ben. Rep. (BNA) 1005 (Apr. 18, 2000).
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Representative Bernard Sa nders a nd Senator Paul Wellstone also
introduced legislation that would prohibit wearaways.263 Their legislation
would go further and impose a 50% excise tax on any surplus in the pension
fund at the time of the conversion. 264 This tax would only apply if the
employer did not offer all vested employees the choice between the old
pension plan and the new cash balance pla n.265 If this bill were enacted,
employers would have a very strong incentive to provide generous
transitional benefits for their older employees.
2. Legislation that Would Require More Disclosure
Tax legislation passed by Congress in 1999, but vetoed by President
Clinton, would have required additional disclosure by defined benefit plans
that were amended to reduce future benefit accruals.266 This legislation was
based upon a number of bills introduced earlier in 1999.
a. Pension Right to Know Act
For example, Senator Daniel Patrick Moynihan introduced the Pension
Right to Know Act.267 That legislation would require employers to generate
individual statements comparing benefits under the old plan and the new cash
balance plan. 268 Critics of the bill complain that it would require employers
to predict how much employees would make in the future and would
consequently be expensive and burdensome to administer.269 However, the
plan would not affect the overall legality of the conversions. As a result, the
age discrimination debate would continue. Senator Moynihan later backed
The Pension Reduction Disclosure Act of 1999.270
263. See H.R. 2902, 106th Cong., 1st Sess. (1999); S. 1640, 106th Cong., 1st Sess.
(1999).
264. See Colleen T. Congel, Cash Balance Plans: Rep. Sanders Drafti ng Bill to Targ et
Employers Converting to Cash Balance Plans, 26 Pens. & Ben. Rep. ( BNA) 2107 (Aug.
23, 1999).
265. See id.
266. See APPWP, supra note 204, at 33.
267. S. 659, 106th Cong., 1st Sess. (1999); see also H.R. 1176, 106th Cong., 1st Sess.
(1999).
268. See Quick, supra note 4, at 6.
269. See id.; ERIC Legislat ive Bulletin, July 28, 1999 (visited Sept. 11, 2000)
<http://www.eric.org/issu ebriefs/moynihganamnedm.htm>.
270. See Congel, Disclosure Bill, supra note 251, at 2395.
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b. The Pension Reduction Disclosure Act of 1999
The Pension Reduction Disclosure Act of 1999271 was introduced in
response to the main objections to the Pension Right to Know Act. This bill
would require employers to provide notice only to adversely affected
employees.272 This bill was introduced by Senators Moynihan and Jeffor ds
in the Senate, and Representatives Matsui and Weller introduced the bill in
the House. 273
Labor Department officials examining cash balance plans have also
focused on disclosure requirements.274 As a result, the Secretary of Labor
endorsed the Pension Reduction Disclosure Act.275 The Pension Reduction
Disclosure Act was also endorsed by President Clinton, 276 and it was
incorporated into proposed legislation giving small business owners a tax
break. 277 That legisla tion was passed by Congress, but vetoed by the
President (for other reasons).278
c. The Comprehensive Retirement Security and Pension Reform Act
Representatives Ben Cardin and Rob Portman’s Comprehensive
Retirement Security and Pension Reform Act279 also requir ed comparison of
benefits under the old and new cash balance plan. However, their bill would
not require individualized statements.280 As a result, their bill would not be
as burdensome on employers, but it would be less informative for employees.
B. Executive Branch Efforts
271. S. 1708, 106th Cong., 1st Sess. (1999); H.R. 3047, 106th Cong., 1st Sess. (1999).
272. See S. 1708, 106th Cong., 1st Sess (1999); H.R. 3047, 106th Cong., 1st Sess.
(1999).
273. See Congel, Disclosure Bill, supra note 251, at 2395.
274. See Colleen T. Congel & Elizabeth A. White, Agencies Studying Cash Balance
Discl osure; DOL Official Recommends Clarifying Waivers, 26 Pens. & Ben. Rep. (BNA)
1572 (June 14, 1999).
275. See, Congel, Disclosure Bill, supra note 251, at 2395.
276. See id.
277. See S. 1867 § 114, 106th Cong., 1st Sess. (1999).
278. See APPWP, supra note 204, at 33.
279. H.R. 1102, 106th Cong., 1st Sess. (1999). The bill would require plan sponsors to
provide participants with a summary or copy of the plan amendment itself thirty days before
the amendment is to be made.
280. See Congel & White, supra note 274.
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As discussed ear lier, the Clinton Administration endorsed the Pension
Reduction Disclosure Act.281 According to President Clinton, “[t]his
legislation would ensure that all Americans have the necessary information
to plan for retirement. It would provide workers with meaningful and timely
notice of plan changes and clearly demonstrate the impact of those changes
now and in the future.”282 Executive Branch agencies are also in the process
of developing a comprehensive set of legislative principles on cash balance
pension plans.283
1. Internal Revenue Service (IRS)
The IRS is responsible for administering the tax qualification rules that
govern pension plans.284 In particular, the IRS promulgates regulations and
issues determination letters tha t relate to pension plans, in general, and cash
balance plans, in par ticular. Recently, the IRS directed its employees to refer
all open determination or exa mination cases involving cash balance plan
conversions to the national office for technical advice. 285 The IRS recently
requested comments on cash balance pla ns, in general, and conversions, in
particular.286
281. See Congel, Disclosure Bill, supra note 251, at 2395.
282. Id.
283. See, e.g., Vineeta Anand, Consensus Needed: Long Wait for Clinton Administration
Letter; First, Everyone Must Agree on Cash Balance Position, PENSION & INVESTMENTS,
June 12, 2000, at 2.
284. See I.R.C. §§ 401-440 (1994 & Supp. 1998).
285. See, e.g., Colleen T. Congel, Cash Balance Plans: IRS Instructs EP Personnel to
Identify, Refer All Conversion Cases for Technical Advice, 26 Pens. & Ben. Rep. (BNA)
2251 (Sept. 20, 1999); Colleen T. Congel, Cash Balance Plans: Officials Discuss Status
of Plan Reques ts, Commitment to Review Co nversi on Issues, 27 Pens. & Ben. Rep. (BNA)
1006 (Apr. 1 8, 2000); see also Elizabeth A. White, Plan Determination Letters from IRS
Field Include Cash Balance Caveat, Official Says, 27 Pens. & Ben. Rep. (BNA) 656 (Mar.
7, 2000).
286. See I.R.S. News Release IR-1999-79, supra note 204. See also Colleen T. Congel,
Cash Balance Plans: IRS Receives More Than 400 Letters on CB Plan Conversions,
Debate Contin ues, 27 Pens. & Ben. Rep. (BNA) 203 (Jan. 25, 2000) ; Bonner Menking,
Cash Balance Plans: The Administrative Approach Begins, 85 TAX NOTES 414 (1999);
ERISA Indust ry Commi ttee, supra note 204; APPWP, supra note 204; Cash Balance Plan
Conversions Don’t Violate Discrimination Laws, Attorneys Argue, TAX NOTES TODAY ,
Feb. 24, 2000, available in LEXIS, FEDTAX Library, TNT File, 2000 TNT 37-63 ; AARP
Urges Review of Cash Balance Plan Age Discri minati on Issues, TAX NOTES TODAY , Mar.
23, 2000, available in LEXIS, FEDTAX Library, TNT Fi le, 2000 TNT 57-34; AARP
Focuses on Cash B alance Benefit A ccrual Issues, TAX NOTES TODAY , Apr. 27, 2000,
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2. Department of Labor
a. The Pension and Welfare Benefits Administration (PWBA)
The PWBA administers and enforces the fiduciary, reporting and
disclosure provisions of Title I of the Employee Retirement Income Security
Act of 1974 (ERISA).287 Along with the IRS and the EEOC, the Department
of Labor was asked to examine cash balance plans by Representative
Sanders.288 The PWBA has endorsed the disclosure requirements in the
Pension Reduction Disclosur e Act,289 and the PWBA has indicated an
interest in reviewing whether actuaries have been involved in cash balance
plan conversion “schemes designed to mislead or confuse workers.”290 The
PWBA has also recently published guidance about cash balance
conversions.291
b. The ERISA Advisory Council
The ERISA Advisory Council provides advice and recommendations to
the Secretary of Labor regarding the Secretary’s functions under ERISA. 292
Among its recent projects, the ERISA Advisory Council studied hybrid
pension plans, in general, and cash balance plans, in particular.293 The
available in LEXIS, FEDTAX Library, TNT Fi le, 2000 TNT 82-51; Mill er & Chevali er
Says Demographics Drive Cash Balance Conversions, TAX NOTES TODAY , Mar. 9, 2000,
available in LEXIS, FEDTAX Library, TNT File, 20 00 TNT 47-52; Consultants See No
Problem with “Wearaway” Caused by Cash Balance Conversions, TAX NOTES TODAY ,
Mar. 9, 2000, available in LEXIS, FEDTAX Library, TNT File, 2000 TNT 47-53.
287. See ERISA §§ 101-111, 29 U.S.C. §§ 1021-1031 (1994 & Supp. 1998).
288. See Colleen T. Congel, Cash Balance Plans: Lawmakers Ask Agenc ies to Review
Age Discrimination Under Plan Conversions, 26 Pens. & Ben. Rep. (BNA) 2056 (Aug. 16,
1999).
289. See Congel, Disclosure Bill, supra note 251, at 2395.
290. Colleen T. Congel, Cash Balance Plans: DOL to Examine Actuaries’ Actions in
Cash Balance Conversions, 26 Pens. & Ben. Rep. (BNA) 2551 (Nov. 1, 1999). See Colleen
T. Congel, Cash Balance Plans: Labor Department to Examine Employers’ Actions in Plan
Conversions, 26 Pens. & Ben. Rep. (BNA) 2879 (Dec. 13, 1999); Colleen T. Congel, Cash
Balance Plans: Labor Department Official Gives Update of Plan Conversion Controversy,
27 Pens. & Ben. Rep. (BNA) 892 (Apr. 4, 2000).
291. See PENSION AND WELFARE BENEFITS, supra note 117.
292. See ERISA § 512, 29 U.S.C. § 1142 (1994).
293. See Colleen T. Congel, Advisory Cou ncil: Hybrid Plan Grou p Defers Taking a
Positi on on Lega l Issu es, 26 Pens. & Ben. Rep. (BNA) 2555 (Nov. 1, 1999).
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Council had a number of hearings on cash balance plans,294 and it recently
completed its report for the Secretary of Labor.295 The report endorses
defined benefit plans, supports increased disclosure, and recognizes that cash
balance conversions sometimes harm workers.296 The group was unable to
reach agreement on the legal issues surrounding cash balance plan
conversions.297
3. Pension Benefit Guaranty Corporation (PBGC)
The PBGC is responsible for administering the insurance program that
guarantees benefits provided under defined benefit plans covered by
ERISA.298 Consequently, the PBGC is interested in the shift from traditional
defined benefit plans to defined contribution plans and cash balance plans.299
Among other things, the PBGC is looking at the question of how to value
cash balance plans upon plan termination. 300
4. Equal Employment Opportunity Commission (EEOC)
The EEOC is principally responsible for the Administration’s policy
with respect to age discrimination. Along with the IRS, and the Department
294. See, e.g., Congel & White, supra note 274; Stein, supra note 78.
295. See Colleen T. Congel & Elizabeth A. White, Advisory Counci l: Coun cil Approves
Cash Balance Report; DOL to Post Cash Balance Plan Answers, 26 Pens. & Ben. Rep.
(BNA) 2631 (Nov. 15, 1999); Congel, supra note 293; U. S. Department of Labor Advisory
Council on Employee Welfare and Pension Benefit Plans, Report/Recommendations of the
Working Group on Studying the Trend in the Defined Benefit Market to Hybrid Plans,
November 10, 1999 (visited Sept. 12, 2000) <http://www.dol.gov/dol/pwba/public/adcoun/
cbalinfo.htm>.
296. See supra note 295.
297. See id.
298. See ERISA §§ 4001-4009, 29 U.S.C. §§ 1301-1309 (1994 & Supp. 1998).
299. See, e.g., Remarks by David M. Strauss, Executive Director, Pension Benefit
Guaranty Corporation, at the Cash Balance Pension Plans Conference, San Francisco,
California, May 7, 1999 (visited Sept. 1 2, 2000) <http://www.pbgc.gov/newsroom/
speeches_test/ CASHBAL3.htm>; David M. Strauss, There’s No Need to Retire Traditional
Pensions, CONTINGENCIES , Sept.-Oct. 1999, at 34.
300. See Colleen T. Congel, Cash Balance Plans: PBGC Likely Will Seek Feedback On
Valuing Terminating Cash Balance Plans, 26 Pens. & Ben. Rep. (BNA) 2551 (Nov. 1,
1999); see also Title IV Aspects of Cash Balance Plans With Vari able Ind ices, 65 Fe d. Reg.
41,610 (2000).
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of Labor, it is studying the age discrimination questions raised by cash
balance plan conversions.301
VI. CONCLUSION
In most cases, it appears that replacing a traditional pension plan with
a cash balance plan is perfectly legal. No doubt, there are abuse situations,
but it seems unlikely that a routine cash balance conversion will run afoul of
current laws. Indeed, even most conversions that result in a wearaway should
pass muster.
Nevertheless, retirement income security is an important goal, and
Congress might want to take action to ensure that all Americans have
adequate retirement incomes.302 But not much would be accomplished by an
outright ban on cash balance conversions, in general, or wearaways, in
particular. The era of traditional defined benefit plans is largely behind us
now.303 The time has come for us to accept and embrace defined contribution
plans and their cash balance plan cousins.304
301. See, e.g., Colleen T. Congel, Cash Balance Plans: EEOC Director Repeats Promise
to Review Cash Balanc e Age Discrimination Complaints, 26 P ens. & Ben. Rep. (BNA)
2252 (Sept. 20, 1999); Colleen T. Congel, Cash Balance Plans: EEOC Head Says Age Bias
Issue in Plan Conversions a Top Regulatory Priority, 27 Pens . & Ben. Re p. (BNA) 6 (Jan.
4, 2000); Colleen T. Congel, Cash Balance Plans: EEOC Director Offers Preliminary Data
on Cash Balance Age Discrimination Review, 27 Pens. & Ben. Rep. (BNA) 1333 (May 30,
2000).
302. See generally Forman, Universal Pensions, supra note 2.
303. See Zelinsky, Defined Contribution Society, supra note 63.
304. See, e.g., Jonathan Barry Forman, How Federal Pension Laws Influence Individual
Work and Retirement Decisions, __ TAX LAW. __ (forthcoming 2000) (on file with
Oklahoma City Un iversi ty Law Revi ew); Jonathan Barry Forman, Making Federal Pension
Policy Work, __ N. AM . ACTUARIAL J. __ (for thcoming 2001 ) (on file with Oklahoma City
Univers ity La w Review).