School districts, cities and counties have historically provided some type of employer-paid health insurance benefit for early retirees – those retiring prior to age 65 – as a bridge from early retirement to Medicare eligibility. When these benefit promises were made so long ago, health insurance was relatively affordable and the common practice of denying insurance claims resulting from pre-existing conditions made staying on the employer plan the only real option for retirees.
But as we know now, things didn’t stay that way and health insurance rates skyrocketed. With fixed funding, fixed budgets and a pay-as-you-go philosophy, many schools, cities and counties are now facing immense unfunded liabilities.
Are Defined Contribution Retirement Plans the Answer?
Essentially, a defined contribution retirement plan is where the organization promises a specifically defined amount of money toward a specific benefit, rather than promising to provide the benefit no matter what it costs. Many public sector organizations are finding that this approach works well and is accepted by bargaining units and/or employee committees.
There are several things to consider when moving to a defined contribution approach:
- The timing of contributions. You can either provide a fixed contribution upon retirement in one lump sum or in multiple payments. The other option is to provide fixed annual contributions into an account during active employment that cannot be accessed by the employee until they retire.
- Easing the transition for employees. Public sector entities such as schools, cities and counties usually need to address long-term employees who have planned for and counted on their early retiree benefits. This can be accomplished by separating employees into three tiers: the grandfathered group, the new or recent hires and those in between.
- Encouraging retention through vesting options. A vesting schedule on the account can dramatically impact employee retention efforts. If one lump sum is disbursed at retirement, vesting usually centers around age and the length of credible service. If an annual contribution is made to active employees with access only at retirement, there may be a different type of vesting schedule that requires them to forfeit their account if they leave employment prior to being vested.
- And, finally, considering different funding options. There are essentially two options: An Employer-Sponsored 403(b) account and a Health Reimbursement Arrangement (HRA) account. Both save the employer and employee all FICA taxes, but the HRA saves all taxes. And while the 403(b) can be used on anything, the HRA is restricted to health insurance premiums and medical expenses. There are many more differences to consider.
To get started, contact your employee benefits consultant. S/he will help you determine the sustainability of your current benefit and which funding vehicle would work best for your organization.
National Insurance Services is not a law firm and no opinion, suggestion, or recommendation of the firm or its employees shall constitute legal advice. Readers are advised to consult with their own attorney for a determination of their legal rights, responsibilities and liabilities, including the interpretation of any statute or regulation, or its application to the readers’ business activities.