IBM (IBM.N) may have just kicked off the next big trend in the world of employee retirement benefits.
Big Blue made headlines recently when it announced plans to end its 401(k) matching contribution in favor of a new benefit that walks, talks and sounds like a good old-fashioned pension. You might dimly remember them: employers contribute to the plan and manage it; when you retire, a regular check starts arriving in the mail, and it continues as long as you live.
Defined-benefit pensions are still dominant among public-sector state and municipal employers. But they have all but disappeared in the private sector as employers rushed to get them off their balance sheets over the past two decades.
IBM, often perceived as a leader in the corporate world, was one of the first large employers to announce a shift to an all-defined contribution retirement program in 2006, and the decision was a harbinger of a plunge in the number of employers offering traditional pensions.
“IBM was the huge brand name to make that move,” said John Lowell, a partner at October Three, a firm that provides consulting services to plan sponsors. “Other companies thought, ‘Well, if IBM is doing this, there must be a reason.’”
But now, IBM delivered a shock of sorts when it said last month that starting on Jan. 1, 2024, it will introduce a Retirement Benefit Account (RBA) for all of its U.S. employees. Employees can continue to contribute to their 401(k) accounts. But the match will be replaced by a contribution of 5% of pay to the RBA, along with a one-time pay increase of 1%. The pay credits will accumulate interest credits at a rate of 6% for the first three years, and will be tied to Treasury rates in the years that follow, with a floor of 3% for the first seven years.
The RBA is a defined-benefit structure known as a cash balance plan. Employees do not have individual accounts; instead, the plan “defines” a benefit it will pay from its general assets. The benefit is defined as a lump-sum amount that can be paid in retirement as an annuity calculated to equal the lifetime value of your accumulated sum.
IBM is not saying much about its motivations. A company spokesperson said: "By introducing this retirement benefit within IBM’s Personal Pension Plan, which is stable and well-funded, IBM is able to provide a benefit to employees that also helps diversify their retirement portfolios.”
IBM is not the only employer thinking about restarting a defined-benefit plan. Jonathan Price, who leads the national retirement practice at benefits consulting firm Segal, said he has fielded more calls about unfreezing or starting a new pension plan in the past year than he has in the past decade.
“In the last few decades, sponsors may have decided that there were certain risks that were just untenable for their balance sheet or for cost purposes,” he said. “But they've learned that with the right design and investment structure, the risks can be managed, much more closely.”
WHERE PENSIONS SHINE
It is too early to say if IBM’s decision signals a major move by plan sponsors back to defined-benefit plans. But the benefits of the company’s shift are clear.
All of IBM’s employees will participate in the RBA, and receive the same annual contribution. That is different from the typical defined-contribution plan, where participation is voluntary - and not all employees have the financial wherewithal to contribute enough to get the full matching contribution. By contrast, any form of universal defined-benefit plan helps combat rising wealth inequality in retirement.
A recent report by the National Institute on Retirement Security and the UC Berkeley Labor Center, for example, found that defined-benefit pensions reduce retiree poverty and near-poverty across race, sex, and educational attainment, with the largest improvement provided to Black and Latino retirees, and retirees without four-year college degrees.
The RBA also addresses the problem faced by employees in converting 401(k) balances into steady streams of retirement income. Employers and policymakers have recognized that problem, as evidenced by the U.S. Congress passing the Secure Act of 2019, which cleared the path to add insurance company annuities in defined-contribution plans.
But defined-benefit plans offer a much more efficient way to provide a guaranteed income stream. Lowell has found that plans combining defined benefit and defined contribution are anywhere from 10% to 30% less expensive than a commercial annuity option, especially for large companies that may already have a defined-benefit plan that has been frozen or closed.
Pensions also can help employers manage workforce challenges, Price notes. Pensions are an attractive benefit that can help attract talent in a competitive labor market - but their guaranteed income streams also make it easier for older workers to retire, clearing the path for younger workers to move up.
Said Price: “Some of the conversations we’re hearing about from employers are about recruitment and retention, and some are about making sure that there's the right intergenerational shift so that individuals can feel confident in their ability to retire.”
The opinions expressed here are those of the author, a columnist for Reuters.
