Study: Cash Balance Plans Aren't Great Cost Savers

April 7, 2003 ( - While critics of the controversial cash balance plans often center on potential employer cost savings, a consultant says most companies moving to such programs didn't reap much of a financial reward if any at all.

The Watson Wyatt study found that the majority of employers (55%) experienced a minimal effect on costs or actually saw costs increase during hybrid plan conversions, while less than half (45%) realized cost savings.  Even then, those savings weren’t much to trumpet about; the average was 1.4% after factoring in enhancements that some employers made simultaneously to their 401(k) plans, Watson Wyatt said.

“Critics try to paint all conversions to cash balance plans as attempts by companies to cut costs at the expense of workers, but the facts simply do not support these assertions,” said Sylvester Schieber, Watson Wyatt vice president of research in a statement.

In fact, according to Watson Wyatt’s 2000 research, the typical company realizes little, if any, net cost savings when it shifts from a traditional pension to a cash balance or other hybrid plan design. When employer costs remain neutral, almost 80% of participants do better under the hybrid plan formula, Watson Wyatt said.

The study found that when companies reduced costs in the conversion it was largely due to the prospective elimination of subsidies for early retirement, which typically augment benefits at around age 55.  The effect on normal retirement benefits was much more muted.

Plan Design versus Plan Costs

It is important to separate the distinct issues of pension plan type and the amount of cost savings, according to Eric Lofgren, Watson Wyatt global director of benefits consulting. “With traditional pension plans, more than three-quarters of benefits can go to only 10% of workers and, naturally enough, that 10% would like to keep them. But how is that fairer than newer designs that seek to distribute benefits more democratically among workers?” asked Lofgren in a statement. “No one type of pension plan is inherently more costly than another, and the oft stated equation that cash balance plans reduce benefits by 20% to 50% is proved false by our research. An employer can just as easily design a rich cash balance plan or a stingy traditional pension.”

The Watson Wyatt survey also found that most responding companies provided for the older employees – most often portrayed as the victims of cash balance conversions. The vast majority of plan sponsors studied (88%) included transition benefits to minimize the effect of the transition for these longer tenured employees.  In nearly two-thirds of the cases analyzed, workers age 50 with 25 years of service would have received an equivalent or higher benefit at 55 after the transition than if they retired at age 55 under the prior plan. Nearly another third would have had some benefit reduction but were at least partially protected by a transition benefit.

The Watson Wyatt study was based on an analysis and financial modeling of the benefit provisions in 78 hybrid plans, representing approximately one-fifth of such plans in existence in 2000. The study also included an opinion survey of 79 employers that had made the shift to a hybrid plan to provide additional perspective on motivations for adopting   one of these plans.   
Copies of the research report, The Unfolding of a Predictable Surprise: A Comprehensive Analysis of the Shift from Traditional Pensions to Hybrid Plans, can be downloaded from Watson Wyatt’s web site at .

Separately, there was word from the US Department of Treasury and the Internal Revenue Service that they were withdrawing because of public protests proposed regulations on how employers can prove a cash balance plan is not discriminatory (See Regulators Pull Back Some Cash Balance Conversion Rules ).

According to an announcement by both agencies, comments from the public showed that the proposed 401(a)(4) rules would make it difficult – if not impossible – for plan sponsors converting from a traditional pension plan to a cash balance plan to give participants aid to help ease the changeover.