CAFETERIA COMPENSATION/FLEXIBLE BENEFITS/ FLEXIBLE COMPENSATION

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP90-00530R000400730007-6
• Release Decision: RIPPUB
• Original Classification: K
• Document Page Count: 25
• Document Creation Date: December 22, 2016
• Document Release Date: August 27, 2012
• Sequence Number: 7
• Publication Date: February 1, 1980
• Content Type: MISC

STAT
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DRAFT
CAFETERIA COMPENSATION/FLEXIBLE BENEFITS/
Office of Compensation Program
Compensation Group
tr4cva..~a r~.-s i on7va
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ILLEGIB
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TOPIC
INTRODUCTION
TYPES OF FLEXIBLE PROGRAMS
THE LAST TWO DECADES
1960 - 1974
1974 - 1978 The Tax Question
1974 - ETS
1974 - TRW
1978 - American Can
1978 - Harris Trust and Savings Bank
1978 - Alaska
1978 - Minneap 4 s Power and Light
S 1.,
DESIGN
STEPS IN DESIGN THROUGH IMPLEMENTATION
WHY COMPANIES ARE INTERESTED IN CAFETERIA COMPENSATION
COMMON PROBLEMS AND SOULTUIONS/ISSUES TO BE FACED
CONCLUSION
Page
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Cafeteria compensation/flexible benefits/flexible compensation--these
are names given to Programs in which individual employees have some
choices in the ways in which their total compensation is received. The
term total compensation includes pay plus benefits. Benefits include
such items as vacation, sick leave, paid holidays, pensions, life insur-
ance, health insurance, long term disability, profit sharing, savings
and thrift plans, etc.
In the last two decades, benefits have become an increasingly large
portion of the total compensation package. In many large firms, employer
expenditures on benefits amount to 30, 40, or even 50 percent of basic
pay. These are significant corporate expenditures. Under a system of
standardized benefits used by almost all companies, everyone on the
payroll is treated the same--as the "average employee." This kind of
system does not take into account that individual workers' needs differ.
Dunn and Bradstreet reports that as a result, some of the benefits in
today's standardized plans waste corporate dollars. A company can find
itself paying more each year for a benefits Dacka17 that only partly
satisfies the needs of the bulk of its employees.-
In 1975, the ASPA prize for the best personnel research was awarded to
Drs. Chapman and Ottman for their article "Employee Preference for
Various Compensation and Employee Benefit Fringes." This research
concluded that any attempt to individualize an organization's reward
system should have a positive effect on employee satisfaction. Organi-
zations which emphasize the individualizing of their compensation systems
as much as possible wit], be in a better position to attract and hold an
effective work force.
Flexible compensation can help a company spend its pay and benefits
monies more cost-effectively. Companies get more value for monies spent
in terms of greater worker satisfaction. Greater worker satisfaction
and cost-effectiveness can result in increased productivity.
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TYPES OF FLEXIBLE PROGRAMS
Hewitt Associates, a firm of independent consultants and actuaries in
compensation, employee benefits, communication and other related per-
sonnel functions, points out that flexible programs are not new. Many
existing corporate benefit programs have some degree of flexibility.
Hewitt divides flexible programs into three categories:3/
-1- The employer provides a basic benefits program that applies to all
employees. Employees can choose to buy optional coverage with
deductions from their take-home nay. The employer provides the
advantage of group purchasing power. Employees pay the full cost
of any optional coverage they select (e.g., the Federal Government's
optional life insurance program).
-2- The employer provides a supplement to the basic benefits program.
The employer and the employee share the cost of the supplement.
Employees can choose whether or not they wish to have the supplemental
benefit. (The Federal Government's regular life insurance and
health benefits programs fall into this category. The employer
pays 1/3 of the life insurance cost; the employee pays 2/3. For
health insurance the employer pays approximately 60 percent of the
unweighted average of the high 6 designated plans, but not to
exceed 75 percent of the total premium; the employee pays the
remainder.)
-3- The employer provides a core of basic benefits for all employees.
The employer also provides and pays for a supplement to the basic
benefits core. The employer offers the supplement to all employees
in the form of flexible credits. Employees choose, from a number
of options, what they want to buy with their flexible credits.
Flexible credit choices require no deductions from take-home pay.
If employees want to choose more options than their flexible credits
cover, then they can pay for the additional options by deductions
from their take-home pay. Employees always receive the value of
the employer's contribution to the supplemental benefit program.
(The programs at American Can, TRW, and ETS fall into this category.)
The third type of flexible compensation program is the newest. The remainder
of this paper is devoted to it. The paper will explore what has happened
in the past two deca4as; the basic designs of flexible compensation programs;
the steps needed to set up a program; common problems and solutions; and
why companies are interested in cafeteria compenstion plans.
The. staff papers which will follow this one will deal with whether or not
a cafeteria compensation concept is compatible with tie total compensation
comparability (TCCI concept and experimental designs that could ie pursued
BY putting the two concepts together.
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1960-1974
The idea of flexible compensation programs in which employees could
choose from among a variety of employer-paid benefits emerged in the
early 1960's. The idea fascinated experts in compensation, psychology,
economics and in the business and academic communities. They lectured;
they discussed; they wrote articles. Yet, until 1974, nothing happened
except talk and writing. Why?
We may infer, from reviewing the literature and questioning the experts
that the interacting causes of the inertia were:
- the complexities of the actual design, test and implementation of a
flexible compensation program in a corporation boggled the mind;
- the computer hardware costs were high and software knowledge advances
and applications were largely directed to the fields of science and
engineering;
- the compensation experts were busy at work structuring very basic
benefit programs where none existed before, e.g., witness the rapid
growth of benefits in this era, particularly health care;
- the lack of a strong industrial relations program; or
- the concept of flexible compensation was untried and untested; this
may have led to practical decisions to put corporate investments
elsewhere until some leaders emerged and the followers could benefit
from their experience.
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1974-1978 The Tax Ouestion
In 1974 the passage of the Employee Retirement Income Security Act (ERISA)
dealt some deadly blows to flexible compensation. ERISA's provisions and
reporting requirements were very complex. Bringing retirement programs into
compliance with ERISA was a high priority item and absorbed the time of
compensation planners. ERISA also essentially froze the implementation of
any new flexible compensation programs. ERISA allowed the continuance of
flexible benefit programs in effect in 1974, but prevented new plans by
providing that if employees had a choice between taxable and nontaxable
options, the employer contribution was required to be included in the
employee's income to the extent that the employee could have elected taxable
benefits. The purpose of the freeze was to give Congress an opportunity
to study the tax question.7/
The Revenue Act of 1978 was a major breakthrough for cafeteria compensation
plans and a very significant development for compensation planning for
the years ahead. In the area of flexible compensation, the Act provided
that:
- employer contributions under a cafeteria plan which permits employees
to elect between taxable and nontaxable benefits are excluded from
the gross income of an employee to the extent that nontaxable
benefits are elected;
- nontaxable benefits include group life insurance up to $50,000
coverage, disability benefits, accident and health benefits, and
group legal services;
- plans must be nondiscriminatory, i.e., everyone with 3 years of
service must be eligible, total benefits must be an approximately
equal percentage of pay, and health benefits available to lower
paid employees must be at the same price as for higher paid employees.
Consistent with good legislative drafting the Revenue Act of 1978 defined
cafeteria plans in law. Sec. 125(d) states:
"(d) CAFETE IA PLAN DEFINED.--For purposes of this section--
"(1) IN GENERAL.--The term 'cafeteria plan' means a
written plan under which--
"(A)all participants are employees, and
"(B)the participants may choose among two or more
benefits.
The benefits which may be chosen may be nontaxable benefits, or
cash, property, or other taxable benefits.
"~.t +Q01~#7lr t3'dt FUM ?i6Gi. . --T 44t. 'oafatvra
plan' does not include any plan which provides for deferred compensation."
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This year marked the beginning of the newest type of flexible compensation
program. The Educational Testing Service (ETS) and TRW were the first
pioneers to implement new flexible compensation plans. The compensation
world was agog.
At ETS, developmental work began at management's initiative in 1973, and
the plan became effective February 1, 1974. At that time ETS considered
itself to be trailing in benefits from where it wanted to be in the
market place. ETS was very sensitive to the diversity of its employee
groups by age and occupation and to their correspondingly differing
needs. ETS decided, therefore, to keep its existing benefits as a core
program of nonflexible benefits and to supplement it by about 5 percent
of salary. The 5 percent supplement was in flexible credits that allowed
individual employees the choice of how the flexible credits would be
spent.
The ETS core benefits fully paid for by the employer consist of:
- Pension (TIAA/CREF): 6 percent of salary
- Life Insurance: 1-1/2 times salary
- Health Insurance: Blue Cross/Blue Shield for employee only
- Vacation: 4 weeks per year after 5 years; before 5 years
dependent on salary and years at ETS
- Sick Leave: 9 days per year
- Accident and sickness plan for longer illnesses
- Long term disability plan
The options that flexible credits can be used to buy are:
- Added retirement (essentially a deferred savings plan) with the
employee contributing 3 percent and ETS matching with 3 percent.
- Added life insurance and dependent coverage
- Dependent health care; dental, annual physical
- Added vacation (uD to 2 weeks)
- Mutual funds
- Other retirement contributions
- Cash
ETS reports that they program has been good for cost containment. There
has been no adverse selection, except dental which was anticipated.
There have been few problems and no major opponents. Options selected
have been quite consistent, especially in insurance and savings plans.
Vacation options vary. Savings has been them ost popular option,
followed by vacation. Nineteen percent opted for cash when it was
offered. Mutual funds were the least attractive option.
After -5 years, is about to resurvey. Program c1,anges are planned
in response to survey findings. Flexible credits will be raised 1 per-
cent next year. The core will not be reduced- As part of the long-tern
outlook, ETS is considering vision care and group auto options.
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ETS advises that the computer system and its careful monitoring has
been the key. Communication with and education of employees has been
done well, and has not been a significant problem.4/
The current complete ETS plan is on file in the Office of Compensation
Program Development.
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ti
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In an attempt to broaden benefits in a cost effective manner, TRW began
studing the concept of flexible benefits in 1969. TRW permitted salaried
employees in the Systems and Energy components to choose among benefits
for the first time in 1974.
Prior to 1974 TRW offered employees a standard Hospital/Medical Insurance
plan for the employee and dependents and standard Life Insurance and
Accidental Death and Dismemberment Coverage.
With the advent of flexible benefits, employees were allowed to trade up
or down on their Hospital/Medical Insurance or to retain the Standard
Plan. The choice of the Standard Plan resulted in no charge to the
employee. A choice of the lower option resulted in a credit to the
employee and the higher option resulted in an employee charge.
In the insurance area there were three options:
1. An employee could retain the standard insurance package. This
option resulted in neither a charge nor a credit to the employee.
2. An employee could choose life insurance coverage only. This
option resulted in a credit to the employee.
3. The employee could choose from among the following:
a. Standard or increased life insurance;
b. Standard or increased Accidental Death and Dismemberment
coverage;
c. Survivor Income Annuity;
d. Dependent Life Insurance; and
e. Supplemental Accidental Death and Dismemberment for the employee
and dependents.
If the employees' cheices resulted in a credit, they could receive a
maximum of $2.00 a week in cash.
Analyzing TRW's plan and rearranging it in terms of core coverage
applicable to all employees and entirely paid for by the employer, we
find that the core consisted of the existing program of vacation, sick
leave, pension and paid holidays, plus:
- Life insurance: 112 times salary
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Health insurance: $250 individual and $500 per family
deductible per year Hospital care, 80 percent
of first $5000 covered expenses and 100 percent
of charges in excess of $5,000 per year. No
dental.
The optional choices included:
Life insurance: several levels of options up to a single payment of
1-1/4 times annual salary plus a survivor income
annuity 3-3/4 times annual salary, with accidental
death and dismemberment insurance 2-1/2 times
annual salary.
- Health insurance: the standard plan previously in effect; or better
overall coverage.
- Dependent life insurance: $1,500 each
- Supplemental accidental death and dismemberment
coverage: 6 plans, each with 3 variations of coverage='
The complete TRW plan is on file in the office of Program Planning and
Development.
When TRW introduced the plan, 80 percent of the employees changed their
benefits in some way.
In the period since 1974, TRW has added 4 HMO choices to the Hospital/
Medical coverage options. In 1979, TRW also added an option to buy or
sell vacation time.
TRW is currently evaluating its benefits and is looking into the addition
of 1) Prepaid Dental, 2) Group Auto, and 3) Financial Planning Services.
TRW is also considering expanding the6/flexible benefits program to
other components of its organization.-
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1978--American Can
On January 1, 19-78, American Can began a pilot program which offerred
flexible benefits to 700 salaried employees of its Consumer Tissue and
Towel Division. American Can had, from the beginning, worked closely
with the Internal Revenue Service so that its plan would be in compli-
ance with ERISA, even before the 1978 Revenue Act changes occurred.
On January 1, 1979, the plan was expanded to cover approximately 9,000
e
salaried employees. American Can plans eventually to extend its flexiV
program to the thousands of unionized workers if union leaders agree. Am
erican Can's program is "deeply rooted in the company's human resources
philosophy--a firm belief in'providing an exceptional working environment
that emphasizes individual responsibility and achievement. At the same8/
time, cost control and cost efficiencies are key long range objections.-
What American Can essentially did is:
examine its present benefits;
carve out a core that would provide employees security
in five areas: medical, life insurance, vacation, disability
income and retirement/capital accumulation; and
provide flexible credits to choose benefit options in the five areas.
The flexible credits allowed are the estimated dollar difference between
the former standardized plan and the core program. Participants in
American Can's former standardized benefit program have the opportunity
to select coverage designed to be the equivalent of their former coverage.
The flexible credits allowed depend on age, service, pay and family status.
Additional options can be purchased by employees. 'Flexible credits not
used can be allocated to the corporation's capital accumulation plan.
Medical: $200 deductible per employee; $400 per family
80% of expenses/year up to $5000; 100% of
expenses over $5000; $1 million maximum
lifetime benefit per person.
Life Insurance:_larger of $20,000 or one times salary, maxi-
mum $60,000; travel accident insurance; survivor
income; scheduled reduction of insurance after
retirement.
Vacation: ranges from 1 week for 6 months to 1 year of
service, to 5 weeks for 25 or more years'
of service.
Disability: short-term disability full pay up to 6
months; sickness and accident insurance of
7M. OT at t ue1 Waaaty -wit'' of
$4,083.33 per month; long-term disability maximum
annual benefit of $7.500; and service credit
taWard retirement.
Retirement and Capital Accumulation: 1.4% of highest
average salary, aims 1.42 of primary social
security, times years of service. Full benefit
payable at age 55 with 3D years of service.
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Optional benefits choices that may be purchased with flexible credits
and payroll deductions consist of:
Medical: One of the following: 90% of first $5,000 after deduct-
ible?~1007 of first $5000 expenses after deductible; or
100% of first $5000 and $100 individual, $200 family
deductible; or medical plan in effect before flexible
program. Other options are: vision hearing and pre-
ventive health care; dental.
Life Insurance: term insurance of one to four times
annual salary: optional survivor income of
20% or 40% of salary; accidental death and
dismemberment; 5 times annual salary; '..tee
insurance for dependents.
Vacation: one to five additional days
Disability: long term disability covering 50% of salary
up to 70,000 or 70% of salary up to $70,000.
Retirement and Capital Accumulation: Flexible credits
and payroll deductions of 1% to 10% of annual
salary may be made to the capital accumulation
fund. American Can contributes 151 to 501 for
each $1 the employee contributes through payroll
deductions.
Employees may also purchase American Can stock
through payroll deductions. American Can con-
tributes 101 to 401 for each $1 the employee con-
tributes.
Total payroll deductions toward the capital
accumulation fund and Mock purchase cannot exceed
10% of annual salary. -
A more detailed description of the American Can plan is on file in the
Office of Program Planning and Development.
Over 90% of the employees at American Can restructured their benefits
when the flexible program was offerred.10/
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A Flexible Plan That Was Not Implemented
Thomas Parfitt, Vice-President of Compensation and Benefits, Harris
Trust and Savings Bank of Chicago, shared this experience with us.
Harris Trust has about 4,000 employees. A generous pension plan (70%
of high 5 after 35 years) has been in place since the mid-1940's. A
profit-sharing plan has been in effect since 1916. The profit-sharing
plan provides for deferred income, with 10 to 14% of salary contributed
by Harris.
With a good pension'plan, Harris considered that deferred profit-sharing
was no longer the optimal solution. A flexible benefits strategy was,
therefore, developed in 1977. The idea was to allow employees to switch
money from profit-sharing to a dental plan.
Employees were surveyed about their desires for a dental plan. There
was enthusiastic response. In depth interviews were conducted with 250
employees. Employees were given up-to-date information in the form of
special reports and bulletins as planning evolved.
A 60% enrollment was needed to make the dental plan economical to run.
Preliminary surveys indicated more than 60% would join. The dental plan
was then offerred to employees contingent on 60% participation. Less
than 40% actually signed up to enroll. The plan was not implemented.
Parfitt sums up the reasons for failure:
- a hypothetical choice is different from an actual choice
involving the employee's own money;
- there was no Harris contribution to make the plan a "better
deal"; and
- the plan was too expensive.
As a result of this experiment, Harris still has profit-sharing, with
employee withdrawals permitted in line with applicable laws. Employees'
morale was raised by the experiment; they apparently appreciated the
opportunity for a choice, even if it didn't work out. Management still,
hopes for a future incremental flexible benefits program to meet changing
employee needs. The next steps may be to institute some dentajlgrovisions
as part of a multi-tiered medical plan with several options.
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-.A I- 14,~~A
lv(TUeS D
IT -
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From the experience of ETS, TRW and American Can, two basic designs for
cafeteria compensation plans emerge. In each of the basic designs there
is a core.
The core consists of basic pay plus those benefits which management
decides every worker must have. Vacation, sick leave and paid holidays
are core benefits. Corporate management may also decide that it would
reflect badly on the corporate image if workers died with no life
insurance, or had no long term disability provisions, pensions or basic
health insurance; these items would then be put into the core.
The core concept is also designed to alleviate management's concern over
the consequences of what employees select for themselves. The items in
the core are a top level management decision. Not only does the core
reflect a very basic corporate image--it also is a financial decision
as to what benefits the corporation will continue to completely fund
even if benefits costs continue to rise.
At present, all flexible programs have a core. Although it is theoreti-
cally possible to have a flexible compensation program without a core,
it will probably be many years from now before that happens. Some two-
worker families may be an example of employees one of whom would opt to
take everything in benefits. Flexible plan designers and corporations
are presently not at that point. _
One way to design a flexible program is to keep the current benefits
package as a core and add flexible choices. The flexible choices can be
new benefits or a combination of benefit enhancements over the benefits
in the core.
A second way to design a flexible program is to rearrange the benefits
package into a core plus flexible options. Design the program so that
current employees can be allowed to buy back the same benefits they had
before by using their flexible credits. Design options that are more
than previous coverage and options that are less than previous coverage
in each possible benefit area. New options can also be added if they
are desired by employees and are known actuarial risks.
A third way to design a flexible program is to start afresh. We have
not seen cases like this; however, it must be counted as a possibility.
The elements of the flexible program and the monies to be spent on it
are top management decisions for precisely the same reasons as for the
core benefits.
IN TM ftst of f rTb , tee s iea~t4 i. 4MM
should have expertise in the following o MP M ll areas: compensation,
legal, actuarial and public relations. ~~' o ' -~
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STEPS IN DESIGN THROUGH IMPLEMENTATION
The major steps we have identified in the design, test and implementation
process of setting up a flexible compensation program are listed below.
1. Brief top management on intent to explore a flexible compensation
program, startup costs, design alternatives, and obtain support for
the venture.
2. Obtain top management decision on expenditure limitations, e.g.,
same as present, present plus x %.
3. Design core coverage, including alternatives.
4. Obtain top management agreement on core.
5. Develop a timetable for action; plan to work closely with IRS
throughout the remaining steps.
6. Design possibilities flexible package(s).
7. Obtain top management support to get input from employees
8. Assemble team having skills in compensation, computer, legal,
actuarial, underwriting, administration, communications, and interpreting
the Internal Revenue Code. .
9. Develop materials to communicate with employees.
10. Train team.
11. Assemble small employee groups, selected at random, to identify
perceived employee needs.
12. Design next flexible package based on employee input, insurer's
pricing of options.
13. Design computer data base and software systems to process flexible
benefits choices.
14. Develop procedures for test of employees' flexible choices.
15. Administer test.
16. Process results by computer system.
Amemm q_stionable clw3ces.
18. Assess adverse risks chosen.
19. Design final flexible package.
20. Secure management approval foT ivepl -tation.
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21. Announce implementation.
22. Train employees.
23. Send form to employees to make choices.
24. Process forms, including computer checks for accuracy and logic.
25. Send verification form to employee for recheck and signature.
26. Begin implementation.", 10/, 12/, 13/
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COMMON PROBLEMS AND SOLUTIONS/ISSUES TO BE FACED
Cafeteria compensation plans are exciting and attractive. There are,
however, many issues that must be faced squarely before any decision
is made to move in the direction of a cafeteria plan.
First of all, there are types of organizations for which flexible programs
are probably inappropriate at present. These include organizations in
which:
- employee/employer trust does not exist; in this situation employees
would be suspicious that the real plot was to take away their benefits;
computer support is inadequate;
present benefits are so small that there is too little or no room for
any flexibility; or
- highly unionized workforces are driven by other concerns.12/
A major issue to be faced is that top management must completely support
flexible plans both by public statements and its commitment of the sub-
stantial resources needed for start-up. There is about a 2-year period
required to educate employees, develop the plan and computer programs,
do pilot studies and negotiate rate structures with insurance carriers.
Flexible programs are not instant money-savers. The potential payoffs
are in employee satisfaction and cost-effectiveness over the long haul.
Paine reports that: "Another possible objective can be sought by companies
that operate in various industries with different patterns of benefits and
costs. A flexible program permits the organization to maintain the same
core throughout all industries, to maintain either the same or different
options, and to make available numbers of flexible credits which O~re speci-
fically tailored to be competitive in costs in each industry." 10
Paine also speculates that: "Another goal may be to break the lockstep be-
tween union negotiations and salaried plan changes. In many companies,
the employer waits until the completion of negotiations with unionized
hourly workers beforQchanging salaried benefits. Flexibility provides
a structure so different from the hourly program that the company can
take what actions it wishes for salaried people without regard o the
form and timing of benefit changes for unionized employees." 1
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Sometimes, too, top management truly believes that employees are unable
to choose what is best for them. The evidence so far is, however, quite
the contrary. This evidence/comes from places where communications
have been good. The benefits program itself has to have features that
can be communicated clearly so that employees can understand the options
they have. Computer checks can also be built in to query what seem to
be unreasonable choices.
A second issue to be faced is that current tax laws place some restric-
tions on the combinations of options that can be offered. Careful
design is therefore, necessary to either avoid offering taxable options
or to make sure that employees know the tax consequences of certain
options.
A third issue is the risk of adverse selection. By this we mean the
chance that the people who are bad risks will surely opt for coverage of
their particular situation while the good risks will avoid coverage they
don't think they need and drive up the costs of life and disability
insurance and health benefits. Vision care and maternity benefits are
common examples of possible adverse selections. A combination of ways
to mitigate against adverse selection are available. These include:
- charging costs directly related to the individual employee's risk
(e.g., life insurance related to age and evidence of insurability);
putting several options together to make them more attractive to a
larger group and reduce the cost (e.g., combining vision and hearing
care) ;
including adverse selection items in the core (e.g., maternity
benefits);
making a deliberate decision to subsidize an option in which the
initial risk of adverse selection may be high (e.g., dental care);
designing the program so that employees who do not op4n initially
have to wait two years for another chance; and ?tw L;_, i.:-
- guarding against costly switches to adverse selection items by
restricting some choices to switch every 2 or 3 years.
There is some limited evidence that employees are persistent in their
choices. Once they have chosen what they want to buy, they do not
change the next year. ?or example, in dental care, once employees have
their mouths in healthy shape, tfiey are_ lately on.-maintenance.,l~liich_
costs less-, but they are persistent in opting for dental care.
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What advantages.do employers see in cafeteria compensation plans?
Generally, the motivational responses of employers fall into two broad
categories. Cafeteria compensation (as opposed to a standardized bene-
fit package):
- enables employees to make choices that meet their own individual
needs; and
- can be more cost-effective for the employer.
Meeting employee needs. No matter how generous and well-designed a
benefits package is, it cannot approach meeting the needs of every
individual employee. For example, young employees with several depend-
ents may perceive the need for a large amount of life insurance for
themselves and extensive medical coverage for themselves and their
dependents. Older employees whose children have grown and left home may
prefer to have the bulk of their benefits invested where it can enhance
the value of their retirement. A healthy single worker with no dependents
may need only minimum life insurance and health benefits and want the
remainder of benefits in a savings plan, and or more vacation time. A
cafeteria compensation plan can provide enough choices for such employees
to meet their individual needs. The experience to date indicates that
when employees are given an opportunity to tailor plans to meet their
individual needs, most make changes in their coverages 10/
In addition to the attractive image of an employer who wants to have
employee needs met, doing so offers several other advantages. Worker
satisfaction is increased. It also makes the workers aware of the
dollar value the employer is spending on their total compensation.
Workers enjoy freedom of choice and the fact that their management
thinks they are able to exercise that choise in a responsible manner.
This can lead to worker perceptions that this is a good place to work.
This kind of perception can, in turn, produce an atmosphere condusive
to productivity.
Thomas Paine, a nationally recognized expert in flexible plans, points out
that experience gathgred from testing employee preferences clearly indicates
that employee satisfaction is not directly correlated with the level of
company expenditures. Satisfaction is more likely created if employees
have a greater understanding of their benefits, if they know how much
the company is spending on them, and if they have some choice in allocating
company money to fulfill their individual needs. Paine. states that,
"There is also some evidence tint the act of involvement itself helps to
craata eip10yee Satisfaction."-
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Cost effectiveness. Well-designed flexible plans maximize the value of
employer expenditures on benefits. It is more cost-effective for the
employer to spend the same amount of money on employee benefits that
individual workers feel can meet their needs than to waste corporate
dollars oY/some benefit features that many people in the workforce do
not want.-
The employer which has a generous standardized employer-paid benefits
program may find its costs getting out of control in the near future.
Inflation has been forcing benefits costs upward. Reducing benefits is
seldom an acceptable labor/management alternative. Declining levels of
Social Security salary and wage replacement may soon put more demands on
the adequacy of the income from employers' pension plans.
Flexible benefit programs offer at least a partial answer to cost-
containment. This is because the employer is only obligated to pay any
increased costs associated with the core benefits, i.e., those management
makes a conscious decision that must apply to every employee for purposes
of the corporate image. The employer has the option as to whether or
not to increase the monies allocated to the flexible choices and by what
amount. Flexible programs also allow the employer to offer employees
more benefits choices than the corporation alone can pay; this is done
by the employees' paying some or all of the cost of the benefits they
desire. The group purchasing power is usually an advantage.
There is some hint of evidence that flexible benefits may help in con-
taining health costs. The Washington Post, on January 6, 1980, reported
on an interview with Richard Wibbelsman, Director of Salaried Benefits
and Human Resources, at American Can. The Post stated:
"Medical costs represent the key area in which flexible-
benefits plans offer long-term savings. Medical coverage
has become increasingly expensive in relation to other
benefits, Wibbelsman noted. But by pricing extra coverage
so that employers share in those increases, the company
expects that workers will opt for relatively less in
company-paid medical coverage and buy more of those benefits
that are less inflation prone."
It may be possible tbj?t flexible plans, which show employees the true
costs of what they and their employer are spending on health benefits,
will motivate employees to increase their deductible levels, spend their
flexible credits on other items, and be more conscious of the necessity
for medical costs tfiey incur because the first $lQ0 or $2Q0 come out of
their own pockets.
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The 60's and early 70's, corporations were in an expansion mentality.
Business growth--and resulting salaries and benefits growth were
assumed. 1974 marked a mild recession--the first since the 1950's. It
was in 1974 that the first operational flexible compensation programs
emerged.
Remembering that flexible compensation programs are conceived as a more
cost-effective way for a company to spend the same amount of money on
employee benefits, the timing is interesting. Since 1974, there has
been increasing emphasis in the economy on cost effectiveness and pro-
ductivity. It seems reasonable to speculate that these factors, along
with increased awareness of the differing needs of individual workers
and the favorable experience by the pioneers, are the driving reasons
behind the new flares of corporate interest in implementing flexible
compensation in the early 80's.
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Cafeteria compensation/flexible benefits/flexible compensation is an
idea that has excited and fascinated compensation people for many years.
Few companies implemented cafeteria compensation in the 1970's because
of the very hard work involved and because IRS insisted that if both
taxable and nontaxable benefits were offered, an employee would be taxed
even if he or she selected only nontaxable benefits. When the Congress
passed ERISA in 1974, it decided to freeze any future cafeteria compensa-
tion plans to allow for Congressional study of the tax treatment. The
Revenue Act of 1978 provided that employees are subject to tax only on
the taxable benefits they select. This is a major breakthrough for
compensation planning in the 1980's. The tax issue is settled. The
hard work remains ahead.
Advocates of cafeteria compensation point out that it permits individual
employees to meet their specific needs and makes employees more aware of
the value of their total compensation when they are involved in picking
their own coverage. Advocates say that cafeteria compensation is cost-
effective over the long haul and that flexibility may be a way to slow
down the growth of employer expenditures for benefits and increase
productivity in the future. There are about two dozen corporations now
contemplating moving toward cafeteria compensation.12/ The 1980's may
hold a healthy future for cafeteria compensation plans. In view of the
multi-billion dollar annual cost of Federal civilian pay and benefits,
cafeteria compensation has worthy outcomes that could be pursued by OPM
in the early 1980's.
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1. Perham, John. New Life for Flexible Compensation. Dunn's Review.
September 1978.
2. Chapman, Dr. J. F,rad and Otteman, Dr. Robert. 1975 Research Award
Winner. Employee preference for various compensation and fringe
benefit options. ASPA.
3. Hewitt Associates. Flexible Compensation and the Revenue Act of
1978. April 1979.
4. Interview with Mary Jane Klansky, Director of Benefits, ETS,
January 10, 1980.
5. TRW Employee Benefits literature supplied by James 0. Denton, Manager,
Employee Benefits, TRW.
6. Telephone Interview with James 0. Denton, January 1980.
7. Committee Report on PL 95-600.
8. Schlachtmeyer, Albert S. and Bogart, Robert B. Employee-Choise Benefits
-- Can Employee Handle It? Compensation Review, Volume II, Number 3,
Third Quarter 1979. American Management Association. New York.
9. American Can Company. Do It Your Way -- Copyright 19,7.8: 7;
10. Paine, Thomas H. Hewitt Associates. Flexibility in Compensation and
Benefits. Text of remarks to American Pension Conference, November 14,
1978.
11. Telephone Interview with Thomas Parfitt, Vice-President of Compensation
and Benefits, Harris Trust and Savings Bank, Chicago, January 28, 1980.
12. Interview with Thomas H. Paine and Susan Koralik, Partners, Hewitt
Associates, January 4, 1980.
13. Ellig, Bruce R.,and Thomsen, David J. Introducing Cafeteria Compensation
in you Company. Compensation and Benefits Analytical Strategies.
American Compensation Association.
ILLEGIB
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