Employers happy with post-retirement offerings – too bad costs are jumping

Survey finds strong support for objectives of post-retirement benefits. But problems include accounting changes, health-care cost increases and longevity
By Bob McKay
|Canadian HR Reporter|Last Updated: 08/30/2004

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combination of external forces has forced many employers to re-think post-retirement benefits. In fact, the cost of providing such benefits, both now and in the future, has moved the topic to the forefront of the imperative human resources issues some organizations must tackle.

In December, Hewitt Associates conducted its “Trends in Canadian Retirement Programs” survey. This survey invited plan sponsors to provide input on the design, financing, experience, communication and administration of retirement programs, including post-retirement benefit plans. It was clear from the responses received that post-retirement benefits — who’s providing what and how they’re doing it — are a major concern of many Canadian plan sponsors.

For purposes of the survey, “post-retirement benefits” were defined as medical, dental and life insurance coverage. Of the 174 plan sponsors that responded, 54 per cent currently provide post-retirement benefits to newly-hired employees when they retire. Employers were asked to list the top three reasons for doing so.

The primary reason, ranked as one of the top three objectives by 65 per cent of respondents, is to provide a competitive total compensation package. In second place is the goal of enabling employees to transition out of the workforce (50 per cent), followed by rewarding longer service employees (35 per cent). (See sidebar for other objectives.)

We also wanted to know how well respondents felt post-retirement benefit programs enabled them to meet these objectives. Organizations were asked to rate each of their three reasons in terms of success. With respect to the top three objectives (competitive total compensation package, transitioning out of the workforce and reward for longer service) at least 90 per cent of employers in each case indicated that post-retirement benefits were either “somewhat” or “very” successful in meeting goals. They were less convinced that retiree benefit programs were effective as a means to attract employees and share in the success of the organization. (Sixty per cent or less of employers in each case ranked post-retirement benefits as “somewhat” or “very” successful.)

With such persuasive reasons for providing post-retirement benefits and satisfaction with their success, why are some organizations wondering whether they should continue to do so? What forces are impacting post-retirement benefit programs? One is certainly the increased cost of medical benefits. Medical inflation has surpassed the general inflation rate for some time, primarily for the following reasons:

•increases in the costs of prescription drugs, medical supplies and services;

•new treatments that replace older, less expensive ones;

•decreases in the amount paid by provincial health plans;

•increases in the number of claims, as medical treatments are used more often; and

•the decreasing impact of deductibles as they are eroded by inflation and higher average claim levels.

Double-digit health-care inflation is not expected to end any time soon. In fact, the situation may worsen as governments at all levels attempt to reduce, or at least slow, the rising costs of health care. As governments shift more costs from public to private plans, employer plan costs will continue to increase.

Medical breakthroughs, together with rising social expectations about care and cure, guarantee that health-care spending for all age groups will continue to grow faster than the economy in most developed countries. This cost trend is particularly explosive for retiree health plans, given that the elderly are more likely to need and use health-care services than younger people.

Increased longevity also has an impact on plan sponsors’ ability to provide post-retirement benefits. Canadians aged 65 and older currently make up about 13 per cent of the population. Statistics Canada estimates that, in 25 years’ time, this figure will grow to 21 per cent. This tremendous growth in Canada’s elderly population will have a significant impact on the cost of health care.

Compounding the challenge is rising global life expectancy, which has increased since the Second World War from around age 45 to age 63 and is expected to continue to rise. Some analysts believe that an average life expectancy of 100 years is attainable within the next few decades, thanks to medical research and healthier lifestyles.

In addition, the fact that people are retiring earlier also has an impact on post-retirement benefit plans. Employers can expect to be providing these benefits to retirees for a longer period of time due to lengthier retirements.

Over and above medical costs and social trends, changes to Canadian Institute of Chartered Accountants accounting rules have made post-retirement benefit plans less attractive for plan sponsors. As of Jan. 1, 2000, section 3461 requires the accrual of non-pension benefits in financial statements. As a result, providing these benefits can have a significant impact on the earnings of many organizations.

Providing post-retirement benefits is becoming a very costly proposition for plan sponsors. In fact, when the survey respondents that didn’t offer benefits to retirees were asked why, the overwhelming reason was the rapidly rising cost of health care.

However, if plan sponsors truly believe post-retirement benefit programs help provide a competitive total compensation package, any changes need to be considered in the context of total compensation. Perhaps in order to continue to fund post-retirement benefits, plan sponsors can consider “taking away” benefits in another area that doesn’t have the same value to employees. Other possibilities include educating employees and retirees to be better health-care consumers and to take steps to take care of their own health.

Plan sponsor perceptions of the value of post-retirement benefits to employees suggest such programs are not likely to go by the wayside any time soon. However, the struggle to finance benefits for retirees suggests that current employees should likely expect either reduced coverage or to be contributing to the cost by the time they get to retirement age.

Bob McKay is an actuary and senior benefits and pension consultant in Hewitt Associates’ Toronto office. He may be contacted at (416) 225-5001, bob.mckay@hewitt.com.

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