Retirement Heist: how companies plunder and profit from the nest eggs of American workers

Helping employers hang on to pension assets had been a Kwasha Lipton specialty for years. In the early 1980s, Kwasha Lipton helped companies like Great Atlantic & Pacific Tea Co. kill their pension plans to capture the surpluses. Pension raiding became more difficult as Congress began implementing excise taxes on the surplus assets taken from the plans, so Kwasha devised the cash-balance plan as a new way for employers to capture the surplus.

Changing to a cash-balance pension plan was a way to boost surplus because it reduced the growth rate of employees’ pensions, and thus their total pensions. Unlike a traditional pension plan that multiplies salary by years of service, producing rapid growth at the end of a career, a cash-balance plan grows as though it were a savings account. Every year, the pension grows at a flat rate, such as 4 percent of pay a year. At a benefits conference in 1984, a Kwasha Lipton partner stated that converting to this formula would “immediately reduce pension costs about 25 percent to 40 percent.”

Bank of America was the first company to test-drive the new pension plan, in 1985. The bank was cash-strapped because of soured Latin American loans and didn’t want to have to contribute to its pension plan. The pension change saved the company $75 million.

The bank’s employees didn’t complain when their pension growth slowed, because they didn’t notice. “One feature which might come in handy is that it is difficult for employees to compare prior pension benefit formulas to the account balance approach,” wrote Robert S. Byrne, a Kwasha Lipton partner, in a letter to a client in 1989.

The cuts were difficult for employees to detect because they didn’t understand how pensions are calculated, let alone these newfangled versions, which appeared deceptively simple.

In reality, cash-balance plans are complex. When companies convert their traditional pensions to cash-balance plans, they essentially freeze the old pension, ending its growth. They then convert the frozen pension to a lump sum, which they call the “opening account balance.” The lump-sum amount (i.e., the “balance”) doesn’t grow each year by multiplying years and pay, both of which would be growing, and thus generating the leveraged growth seen in a traditional pension. Instead, the pension “balance” grows by a flat percentage of an employee’s pay each year, say, 4 percent. Voilà: no more leveraged growth.

Ironically, employers were able to capitalize on the growing popularity of 401(k)s by presenting cash-balance plans as merely 401(k)-style pensions. Cigna told employees that the new cash-balance plan was like a 401(k), only better, because the company made all the contributions and departing employees could cash out their accounts or roll the money into IRAs. Employees didn’t realize that there was no actual “account” receiving actual employer “contributions” or “interest”—just a frozen pension, and a new pension that had a formula producing very low growth, with no leverage. The pension plan was still one big pool of assets, and the only thing that was changing was the formula used to determine how much each employee would get.

In other words, after a company changed to a cash-balance plan, most employees were no better off than if they had changed jobs or been laid off (which would have stopped their old pension from growing) and now had only a 401(k) at their new job, growing at only 4 percent a year.

But it was even worse than that at Cigna and other companies: Older workers weren’t even getting the annual increase. That’s because at many companies the “opening account balance” was worth less than the value of the lump sum. For example, if at the time of the pension change someone had earned the equivalent of a $300,000 payout, the opening account balance might be only $250,000. Consequently, it could take years for the pay credits to build the “balance” back up to where it had been when the pension change was made. As a result, following the change to a cash-balance plan, the pensions of older workers were frozen—in some cases for the rest of their careers. Employees didn’t notice because the amounts on their “account statements” always appeared to be growing.

In the pension world, this period of zero pension growth is called “wear-away,” because a person has to wear away his old benefit before his benefit begins growing again. Creating a wear-away is an employer’s way of saying, “We should have had this less generous pension all along, and if we had, your pension would be smaller. Bottom line: You’ve been overpaid and won’t get any pension until you’ve worked off the debt.”