A writer must “know and have an ever-present consciousness that this world is a world of fools and rogues… tormented with envy, consumed with vanity; selfish, false, cruel, cursed with illusions… He should free himself of all doctrines, theories, etiquettes, politics…” —Ambrose Bierce (1842-1914?). “The nobility of the writer's occupation lies in resisting oppression, thus in accepting isolation” —Albert Camus (1913-1960). “What are you gonna do” —Bertha Brown (1895-1987).
“To [Cash Balance] or Not to [Cash Balance]” (from the United States Department of Labor)
What is a cash balance plan?
There are two general types of
pension plans — defined-benefit plans and defined-contribution plans. In
general, defined-benefit plans provide a specific benefit at retirement for
each eligible employee, while defined-contribution plans specify the amount of
contributions to be made by the employer toward an employee's retirement
account. In a defined contribution plan, the actual amount of retirement
benefits provided to an employee depends on the amount of the contributions as
well as the gains or losses of the account.
A cash balance plan is a
defined-benefit plan that defines the benefit in terms that are more
characteristic of a defined-contribution plan. In other words, a cash balance
plan defines the promised benefit in terms of a stated account balance.
How do cash balance plans work?
In a typical cash balance plan,
a participant's account is credited each year with a "pay credit"
(such as 5 percent of compensation from his or her employer) and an
"interest credit" (either a fixed rate or a variable rate that is
linked to an index such as the one-year Treasury bill rate). Increases and
decreases in the value of the plan's investments do not directly affect the
benefit amounts promised to participants. Thus, the investment risks are borne
solely by the employer.
When a participant becomes
entitled to receive benefits under a cash balance plan, the benefits that are
received are defined in terms of an account balance. For example, assume that a
participant has an account balance of $100,000 when he or she reaches age 65.
If the participant decides to retire at that time, he or she would have the
right to an annuity based on that account balance. Such an annuity might be
approximately $8500 per year for life. In many cash balance plans, however, the
participant could instead choose (with consent from his or her spouse) to take
a lump sum benefit equal to the $100,000 account balance.
If a participant receives a
lump-sum distribution, that distribution generally can be rolled over into an
IRA or to another employer's plan if that plan accepts rollovers.
The benefits in most cash
balance plans, as in most traditional defined benefit plans, are protected,
within certain limitations, by federal insurance provided through the Pension
Benefit Guaranty Corporation.
How do cash balance plans differ from traditional pension
While both traditional defined-benefit
plans and cash balance plans are required to offer payment of an employee's
benefit in the form of a series of payments for life, traditional defined-benefit
plans define an employee's benefit as a series of monthly payments for life to
begin at retirement, but cash balance plans define the benefit in terms of a
stated account balance. These accounts are often referred to as
"hypothetical accounts" because they do not reflect actual
contributions to an account or actual gains and losses allocable to the
How do cash balance plans differ from 401(k) plans?
Cash balance plans are defined-benefit
plans. In contrast, 401(k) plans are a type of defined-contribution plan. There
are four major differences between typical cash balance plans and 401(k) plans:
a.Participation - Participation in typical cash
balance plans generally does not depend on the workers contributing part of
their compensation to the plan; however, participation in a 401(k) plan does
depend, in whole or in part, on an employee choosing to make a contribution to
b.Investment Risks - The investments of cash balance
plans are managed by the employer or an investment manager appointed by the
employer. The employer bears the risks of the investments. Increases and
decreases in the value of the plan's investments do not directly affect the
benefit amounts promised to participants. By contrast, 401(k) plans often
permit participants to direct their own investments within certain categories.
Under 401(k) plans, participants bear the risks and rewards of investment
c.Life Annuities - Unlike 401(k) plans, cash balance
plans are required to offer employees the ability to receive their benefits in
the form of lifetime annuities.
d.Federal Guarantee - Since they are defined-benefit
plans, the benefits promised by cash balance plans are usually insured by a
federal agency, the Pension Benefit Guaranty Corporation (PBGC). If a defined-benefit
plan is terminated with insufficient funds to pay all promised benefits, the
PBGC has authority to assume trusteeship of the plan and to begin to pay
pension benefits up to the limits set by law. Defined-contribution plans,
including 401(k) plans, are not insured by the PBGC.
Is there a federal pension law that governs cash balance
Federal law, including the
Employee Retirement Income Security Act (ERISA), the Age Discrimination in
Employment Act (ADEA), and the Internal Revenue Code (IRC), provides certain
protections for the employee benefits of participants in private sector pension
If your employer offers a
pension plan, the law sets standards for fiduciary responsibility,
participation, vesting (the minimum time a participant must generally be
employed by the employer to earn a legal right to benefits), benefit accrual
and funding. The law also requires plans to give basic information to workers
and retirees. The IRC establishes additional tax qualification requirements,
including rules aimed at ensuring that proportionate benefits are provided to a
sufficiently broad-based employee population.
The Department of Labor, the
Equal Employment Opportunity Commission (EEOC), and the IRS/Department of the
Treasury have responsibilities in overseeing and enforcing the provisions of
the law. Generally, the Department of Labor focuses on the fiduciary
responsibilities, employee rights, and reporting and disclosure requirements
under the law, while the EEOC concentrates on the portions of the law relating
to age discriminatory employment practices. The IRS/Department of the Treasury
generally focuses on the standards set by the law for plans to qualify for tax
Are there requirements that apply if my employer converts
my current plan to a cash balance plan?
Yes, however, employers are not
required to establish pension plans for their employees because the private
pension system is voluntary. In addition, employers are allowed substantial
flexibility in deciding whether to terminate or amend their existing plans. Therefore,
employers generally may change by plan amendment their traditional pension
plans and the benefit formulas they use.
Federal law does place
restrictions on plan changes generally. For example, advance notification to
plan participants is required if, as a result of the amendment, the rate that
plan participants may earn benefits in the future is significantly reduced.
Additionally, there are other legal requirements that have to be satisfied,
including prohibitions against age discrimination. In addition, while employers
may amend their plans to cease future benefits or reduce the rate at which
future benefits are earned, they generally are prohibited from reducing the
benefits that participants have already earned. In other words, an employee generally
may not receive less than his or her accrued benefit under the plan formula at
the effective date of the amendment. For example, assume that a plan's benefit
formula provides a monthly pension at age 65 equal to 1.5 percent for each year
of service multiplied by the monthly average of a participant's highest three
years of compensation, and that the plan is amended to change the benefit
formula. If a participant has completed 10 years of service at the time of the
amendment, the participant will have the right to receive a monthly pension at
age 65 equal to 15 percent of the monthly average of the participant's highest
three years of compensation when the plan amendment is effective. This
pre-amendment benefit (including related early retirement benefits) is
protected by law and cannot be reduced.
In addition, there are
additional restrictions that apply specifically in the case of an amendment
that converts a plan formula to a cash balance plan formula. Specifically,
participants must receive the sum of the pre-amendment benefit plus benefits
under the new cash balance formula (as a result, there cannot be a "wear
away" period during which the participant does not accrue additional
benefits, as could occur if participants were merely entitled to the greater
benefit). Furthermore, all benefits under a cash balance plan (including
benefits accrued prior to a conversion) must be fully vested after 3 years of
What happens to the assets in a plan when an employer converts
its traditional defined-benefit plan formula to a Cash Balance Plan formula?
When an employer amends its plan
to convert the plan's traditional defined-benefit plan formula to a cash
balance plan formula, the plan's assets remain intact and continue to back all
of the pension benefits under the plan. Employers cannot remove funds from the
plan, unless the plan has been terminated and has assets remaining after
payment of all of the benefits under the plan.
How am I affected if I leave my job at a company that just
changed its pension plan from a traditional defined-benefit formula to a Cash
Balance Plan formula?
If you have worked long enough
to be vested under the plan, you should receive the sum of (1) the accrued
benefit under the formula in effect before the amendment, and (2) the additional
benefits (see response to question above) you earned under the plan formula in
effect after the amendment. However, you may have to wait until a retirement
age under the plan to receive your benefit.
Is my employer required to give me a choice of remaining
under the old formula rather than automatically switching me to the new cash
balance plan formula?
Neither ERISA nor the IRC
requires employers to give employees the choice of remaining in the old
formula. Employers have several options, including:
a.Providing no choice, replacing the old
formula and applying the new formula to all participants;
b.Allowing employees to remain under the
old formula, while restricting new hires to the new formula;
c.Stipulating that certain employees who
have reached a specific length of service or who have reached a certain age may
choose to stay with the old formula;
d.The law permits employers to have such
flexibility, but whatever option applies has to satisfy legal requirements.
Under each of these options,
benefits already earned by the participants, as of the effective date of the
amendment that converts the old formula to a cash balance formula, may not be
What information is my employer required to give me to
explain the new cash balance plan formula, and when should I receive this
Many employers voluntarily
provide helpful information about these conversions in advance of the change
becoming effective. Make sure you have all the information that the employer
has provided. If you are still not sure if you have enough information to
understand the plan change, you have a right to contact your plan administrator
and ask for more information or help in understanding the change and any
choices you have in conjunction with the change.
Plan administrators are
generally required to give at least 45 days advance notice of plan amendments
that significantly reduce the rate at which plan participants earn benefits in
After the plan is amended, the
plan administrator is required to provide all plan participants with a Summary
of Material Modifications to the plan or a revised Summary Plan Description.
This document will summarize the changes to your plan.
In addition, under the Age
Discrimination in Employment Act (ADEA), an employer requiring an employee to
sign a waiver of rights and claims when choosing between plans is required to
provide enough information to enable the employee to make a knowing and
voluntary decision to waive ADEA rights. In most cases, an employee must be
given at least 21 days to sign the waiver and at least 7 days to revoke the
Will the conversion of my pension plan formula have an
effect on my retiree health benefits?
Often, pension plans and health
plans are operated independently and are administered separately. However,
sometimes eligibility for retiree health benefits depends upon eligibility for
pension benefits. If you have questions about your health benefits you should
contact your health plan administrator. Be aware that, like pension plans, health
plans generally can be amended or terminated.
What should I do if I believe my benefits under the old
formula have been inappropriately reduced or that my rights have been violated?
You should immediately contact
the plan administrator and discuss your concerns. Be sure to review your
individual benefit statement or the information used to calculate your benefit
to determine if it is correct — such as employment date, length of service, and
If your concerns are not
adequately addressed, or you still have questions about your situation, you
should contact one of our offices.
In addition, employees who
believe that they have been subject to discriminatory treatment because of
their age, race, color, religion, sex, national origin, or disability may file
a charge of discrimination with the Equal Employment Opportunity Commission