Policy Synthesis: 2 - Europe PMC

Pew Memorial Trust Policy Synthesis: 2 Postretirement Health Benefits Jonathan C. Dopkeen One-fourth of all those over 65 have some form of employer-provided retirement medical benefits. For these retirees and dependents, having this medical coverage may mean the difference between retirement security and ruin; but for employers, providing it could mean serious financial strain or even a threat to survival. The unfunded liability for retirement medical coverage has been variously projectedfrom $100 billion to nearly $2 trillion. Continuing corporate concerns over the costs of health care, and recent changes in federal policies regarding Medicare and the taxation of employee benefit funds, threaten to alter the system of postretirement health benefits substantially and perhaps irrevocably for many. Employers are beingforced to reassess their retiree commitments. Some corporations have undertaken to modify and even eliminate postretirement medical coverage for those over 65. These changes will affect not only the corporations involved and their retirees, but also the national and state governments to whom retirees may turn for additional assistance in meeting their health care needs. The purpose of this synthesis is to explain the issue of postretirement health benefits (PRHBs)for both public and private sector policymakers who will be most involved with this issue over the next fiveyears. The analysis identifies the issues involved, considers the dimensions of the problem, and attempts to assess the implications for the future.

This research, funded by the Pew Memorial Trust and commissioned by the Foundation for Health Services Research, was conducted while the author was a Pew Doctoral Fellow at Boston University. Address correspondence and requests for reprints to Jonathan C. Dopkeen, Health Policy Institute, Boston University, 53 Bay State Road, Boston, MA 02215.

796

HSR: Health Services Research 21:6 (February 1987)

WHAT ARE PRHBS? DEFINITION

Postretirement Health Benefits (PRHBs) are health care benefits provided to retirees through an employer's group health plan, and are a major component of general retirement welfare benefits (which also include employer-provided life insurance). The benefits partially or fully cover costs that are not paid by Medicare. The costs of providing this coverage are usually not calculated separately but are bundled with the group experience. PRHBs should not be confused with individual private medical policies that supplement Medicare ("medigap insurance"). Each addresses expenses not covered by Medicare, but employer-provided coverage is an earned benefit and is commonly more extensive than individual policies available in the private insurance market. PRHBs vary widely among different firms and geographic regions of the country. Major areas of variation include (1) eligibility, (2) scope of benefits, and (3) payment. ELIGIBILITY

Eligibility for PRHBs varies with age and length of service time with an employer. For many, it closely follows eligibility for early retirement. In all cases, entitlement requires actual retirement from the firm, meeting all technical preconditions. PRHBs are generally available to the retiree's spouse or qualified dependents. Vesting is the point at which an employee has earned a partial benefit, as in the typical case of eligibility to receive some pension or annuity. With PRHBs, however, an individual does not vest and cannot receive a partial PRHB. The individual qualifies only for a full benefit at retirement. With very limited exception, PRHBs are not portable, which means that an employee cannot leave one firm and take credited service time toward eligibility for PRHBs to another employer. SCOPE OF BENEFITS

The actual health care benefit will vary widely among employers, but in virtually all cases it is structured as a defined benefit. A defined benefit means that the coverage is defined as actual services rather than by dollars. For example, the benefit may provide X days of hospitalization

Postretirement Health Benefits

797

instead of $Y of coverage. However, lifetime dollar limits or maximum annual out-of-pocket expenses might be specified. Although there are several types of plans, all are essentially Medicare wrap-around plans, which means that the coverage is designed to supplement Medicare payments. Medicare, in effect, is the first payer; the wrap-around benefit covers some portion of costs which are left over after Medicare has paid. Part B services (physician and ambulatory services) under Medicare may or may not be included as a benefit, although the calculation of benefits may assume the beneficiary has Part B coverage. Because these benefits are an extension of preretirement group coverage, they do not cover long-term care needs, beyond limited skilled nursing or home health services after hospitalization. PAYMENT

Payment for this insurance varies. The employer may entirely subsidize the cost (pay the full premium). Alternatively, the employer may require the retiree or dependents either (1) to contribute to the premium, or (2) to pay deductibles or copayments, or (3) to pay some combination of these costs. As providers of PRHBs, employers may pay for the costs ("fund the expenses") as they are incurred (pay-as-you-go), or by setting aside funds in advance (prefunding). The individual plan can stipulate reimbursement of either the medical provider or the beneficiary. WHY ARE PRHBs AN ISSUE TODAY?

Eight factors contribute to making PRHBs a complex and formidable issue for both public and private policymakers. These are summarized below and described more fully in Appendix A: The Federal Shift Toward Privatization of Health Costs Since Medicare began paying benefits in 1966, overall health costs have increased from $43 billion to nearly $400 billion. The costs of Medicare itself are going up even faster: since 1981, the government has adopted a cost-containment strategy of restricting coverage and increasing deductibles, thereby shifting more of the costs for the elderly back onto individuals and employers. The Rethinking of Federal Taxation and Expenditure Policy Tax incentives have been an important factor in the development of employee benefits in the United States. Since World War II, health

798


insurance premiums have been treated as an exclusion for both individuals and corporations, which has provided an incentive to each to increase coverage. The tax revenue lost as a result of current law, $25 billion in 1984, is in effect a subsidy to employers providing health care. The need to generate additional revenue to cover the increasing deficit led the administration to reduce the tax-favorability of funding PRHBs under the Deficit Reduction Act of 1984 (DEFRA). This action removed the primary potential vehicle through which PRHBs could be adequately prefunded. The government has created a paradox by simultaneously seeking privatization of health costs while reducing the incentives to employers to provide health care.

The Increasing Numbers of People Covered by PRHBs At least 6.3 million elderly (24 percent) were receiving PRHBs in 1983.1 Trends to early retirement, aging in the population, and increases in life expectancy are accelerating the numbers of retirees in coming years.2 In 1983, an additional 2.6 million early retirees and dependents, all from private sector employment and under the age of 65, had already acquired PRHBs.3

Hardening of the Financial Liability Associated with PRHBs Less than 2 percent of corporations prefund their retiree health plans, in contrast to pension plans which are prefunded. The aggregate unfunded liability at a minimum exceeds $100 billion and is accumulating at $5 billion per year.4 By anyone's measure, these are significant costs.

Corporate attempts to eliminate, reduce, or alter PRHBs have been legally challenged. The courts have generally upheld the rights of qualified retirees to PRHBs that were promised by the corporation. Furthermore, the Financial Accounting Standards Board (FASB), responsible for standards of accounting practice, has required that, as of 1984, firms identify the current costs of PRHBs in a footnote to the annual report. The FASB may in the future institute a requirement that organizations identify the liability formally on the balance sheets.

Uncertainty in Projecting Future Expenditures Inflation in the costs of medical care, dynamic shifts in patterns of utilization of health services, and the extent of future cost-shifting by Medicare are relatively unpredictable for the future. Although


799

increases in the costs of hospitalization are slowing, the movement toward outpatient services might add to PRHB costs (because PRHBs commonly cover these services when Medicare does not). A greater number of older elderly, and the effects and expense of new technologies, will also influence health care inflation. In addition to external factors, retirement medical expenses have generally not been separated from those of active employees, making projections even more difficult. All of this means that actuarial projections of the future expenditures for PRHBs are very uncertain and can vary widely.

The High Frequency of Corporate Mergers and Acquisitions Because of deregulation, and changing tax and investment policies at the federal level, mergers, acquisitions, and divestitures have increased in frequency in recent years. PRHBs have emerged as an issue in these proceedings because the costs are usually not disclosed separately but rather are aggregated with the health plan costs of all employees. The potential or real PRHB liabilities of firms are masked, making their real values unknown to stockholders, investors, and possible buyers. While PRHBs are rarely a priority item during the early negotiations of an acquisition, they have proved to be "deal-breakers."5

Changing Employment Trends The movement ofjobs away from the smokestack and heavy manufacturing sector and toward services, the increasing movement of workers from contracted industries into other employment, and the growth of women in the work force will alter the pattern of entitlement to PRHBs. Growth industries such as services, retail, and non-industrials have historically provided fewer PRHBs. Women have traditionally vested in pensions in lower proportions because of interruptions to careers or reliance upon the benefits of their spouses. Also, employment opportunities for women have expanded in those sectors which offer fewer PRHBs. For these same reasons, increasing numbers of women in the work force may reduce the proportion of retirees who meet the longevity and service requirements for PRHBs. Potential Impacts for States as Providers of the Benefit and Insurers of Last Resort On top of their own escalating health insurance expenditures for retired civil servants,6 states could feel the negative effects of PRHBs through increases in uncompensated medical care, unemployment

800


expenses, and possibly additional Medicaid eligibles. These are potential consequences if former employers become unable to meet their obligations to current retirees because of unmanageable expense or business failure, or if future retirees should lose the benefit. The states most likely to experience these secondary effects are those with heavier concentrations of those older and smokestack industries which currently are feeling the burden of PRHBs most acutely. PRHBs might also affect the Medicaid expenditures of any state should the nature of PRHBs change from the current service benefit, possibly altering the income or assets tests for Medicaid eligibility.7 SUMMARY

Corporations recognize the financial jeopardy. Some have sought to break their postretirement health commitments, either by modifying or even eliminating their plans. Others have simply added PRHBs to their reasons for relocation outside the United States, where labor is less expensive and benefits are fewer. In Congress there is discussion of amending the Employment Retirement Income Security Act (ERISA) to extend to PRHBs the same security it affords pensions, through minimum standards and funding requirements. As with pensions, the financing of liability for PRHBs is of major importance. Emerging case law is establishing the rights of retirees, but this does not preclude (and may even encourage) eliminating the benefits for future retirees. Since the Deficit Reduction Act of 1984 (DEFRA), and with the other developments outlined, there have been virtually no additions or expansions in corporate retiree health coverage. This paralysis is widely perceived in the benefits industry and by employers. These trends will continue to generate public and private pressure on the survival of PRHBs (Figure 1). They will influence directly and also serve to politicize the debate over the future of postretirement health benefits.

WHY DID PRHBS DEVELOP? In 1941, the Federal Tax Code recognized employee benefits, providing an incentive for corporations and workers to invest more heavily in pensions and health insurance. While the wage and price freeze limited pay increases during the war years, growth in benefits was unconstrained, adding impetus to the expansion of benefits of all kinds. In the years subsequent to the war, tax incentives were expanded under


801

Figure 1: Pressures on Postretirement Health Benefits

RQ

edren~~~~~~~~~~~~~~~Ted veuon

&

NY _IPRHBsconsd

t cquiswon. )

Fub SH

< now

*w or Eln*vft

Underfundingand finansof be

i

Po_ oondal

e rveprged vidEvidegnron generous beeft and Ito puseehne us beneft emlye =opna opru nacdcmpensa Pro f

during the 1960s and early 1970s. Following the failure of the Studebaker Corporation and the collapse of its pensions, ERISA was enacted in 1974. ERISA was intended to protect the retiree by establishing minimum standards of participation, vesting, funding, and termination for pensions. ERISA was to guarantee the existence of secure pension benefits, when offered by a firm, by mandating that they be prefunded. While welfare benefits (which principally included health benefits but also life insurance) were recognized by ERISA, neither provision nor prefunding was required. Despite increased regulation, there were virtually no reductions -only expansion -in the tax code promoting employee benefits, including welfare benefits, until 1981. Health insurance for the elderly was generally unavailable as a commercial product before 1965. In 1965, Medicare entitled people over 65 to hospital insurance (Part A) and supplemental medical coverage (Part B). The dual goals of the federal program were (1) to enable access to medical services for the elderly and (2) to subsidize personal medical expenses of the elderly. Because not all costs were covered by Medicare, corporations as well as individual elderly began to supplement Medicare benefits with coverage for uncovered services. Unions such as the United Auto

802


Workers first pressed successfully for employer supplemental coverage. Corporate coverage paid for the Medicare copayments and deductibles, included limited services such as optical, and gradually extended to pharmaceuticals as well as to supplemental physician coverage. The belief at the time was that these services were relatively inexpensive. In 1966, there were fewer retirees than now, and physician services cost only one-third of what they had become by 1984. As many employers began to provide and expand retiree health coverage, they frequently specified in their plan documents a qualification reserving the right to terminate PRHBs should the firm's financial position weaken. This reflected the dual perceptions (1) that while the increased costs were marginal at the time, they might rise in the future; and (2) that the benefit was outside the permanent benefit plan. Confident that Medicare was permanent and that welfare benefits were conditional upon the firm's prosperity (and therefore were terminable), the benefit expanded in prevalence even through a period of unprecedented inflation in health costs. A complicating issue has been the expanded use of early retirement as corporations have been attempting to reshape their work forces more quickly. Increasing productivity and technology have contributed to reducing jobs in the industrial sector. Past recessions stimulated employers to reduce their work forces by offering incentives to early retirement. These incentives were made more attractive by improved private pension plans and the offering of medical coverage through to Medicare eligibility at age 65. The average retirement age has dropped well below 65; a 1984 survey of Fortune 500 firms found the mean retirement age to be 58.3 years.8 While early retirement is growing in desirability for healthy workers, ill health is the major reason for early retirement among people who would have remained in the labor force.9 Early retirement programs tend to produce multiple problems. All other things being equal: -They increase the ratio of retirees to active employees. For employers who pay most or the full cost of PRHBs, the expense is carried by a smaller productive employee base. -They add additional overhead costs to the employer (that is, higher premiums, more administration, and higher fixed costs). -They diminish the tax revenues which support the Medicare and Social Security trust funds.


803

Collectively, the additional effects of early retirement increase the real costs of retiree health care beyond those directly tied to future medical utilization.

WHAT ARE THE CHARACTERISTICS OF

PRHBS? HOW DO PRHB PLANS DIFFER?

There are three general types of postretirement medical plan for retirees over 65. All are designed to relate to (or "wrap around") Medicare coverage:

-Medicare Carve-out. This plan pays what the active plan would pay for those under 65, minus the Medicare benefit. This plan may require the same copayments and deductibles from retirees as from active employees.'0 -Medicare Supplement. Payment is made for defined services not covered by Medicare. The plan may impose coinsurance and deductibles. The coverage may include services such as eyeglasses, prescription drugs, routine checkups, and surgical procedures not covered by Medicare." -Coordination of Benefit. This plan pays the difference between what Medicare pays and the actual cost of the services, up to what the plan would pay without Medicare. If the plan benefit and Medicare reimbursement together exceed the total charges, the plan pays only the difference between charges and Medicare payments. The effect of this plan is to reimburse the beneficiary up to as much as 100 percent of the cost.'2 Variations of these three general plans also occur. Regardless of structure, most plans provide coverage for spouses, and many cover qualified dependents also." Carve-out plans tend to be the least expensive to the firm. 14 This is because the retiree pays part of the costs of care through copayments and deductibles. Studies on the prevalence of plan types demonstrate variation by both geographic region and by employer size. Carve-out and supplemental plans are the most common, accounting for approximately 90 percent of the plans.'5 Carve-outs are more prevalent (50 percent) than supplemental plans (40 percent). In one national survey of Fortune 500 firms, carve-out plans were nearly three times as preva-

804


lent as supplemental plans (62 percent to 23 percent). 16 In New England, another survey found supplemental plans in one-half of the firms offering coverage (49 percent), while carve-out plans were offered by a third (34 percent).'7 This distribution suggests that, while regional variation occurs, firms providing PRHBs have already recognized that the plan's designed relationship to Medicare does affect costs, and that most plans are already designed not to meet the full costs left uncovered by Medicare. WHO IS ELIGIBLE?

Not all employees in firms providing PRHBs will become eligible for retirement medical coverage. PRHBs apply to employees who both (1) have become eligible (vested) for benefits of the retirement plan (if there is one); and (2) have retired from the firm. Long-term employees who leave (or who are terminated) prior to retirement do not receive these medical benefits, even if they are vested in the pension plan. Entitlement to PRHBs commonly follows eligibility for early retirement, which generally requires the completion of 10-15 years of service as well as attainment of a specific age, usually 55 or 60.18 However, not all evidence points to general eligibility as being this stringent. Some research suggests that a substantial number of large firms grant retiree medical coverage to all retirees regardless of service requirements.'9 Figure 2 presents results from a survey of 250 large organizations (1,000 + employees), which profiles this issue. The data on eligibility for PRHBs in Figure 2 are not generalizable to firms smaller than 1,000 + employees. Seemingly, PRHBs are fairly accessible given that as many as 80 percent or more of the employees retiring at 65 in larger organizations are eligible for retiree medical coverage with no more than five years of service. Quite apart from the issues being addressed in this synthesis, these figures also suggest another potential problem. If the costs of retiree medical coverage become prohibitive, the policy implications for the hiring of older workers seeking employment could be adverse. Conversely, it could be argued that employers who offer PRHBs as inducements to retirement are already indisposed to hire older workers.2' Comparable data are not available for smaller and medium-sized firms. While it is taken for granted that entitlement to PRHBs generally follows pension vesting, it is not clear that this is absolutely true, nor is it yet clear that a firm offering retiree health benefits will always have a pension plan.


805

Figure 2: Service Requirements for Retiree Medical Coverage (Results from One Survey of 250 Large Organizations)

Service Requirement No Requirements

5 Years or Less

D%

01, 1zzzl0 4 4 _

10%

43% -

10 Years

l5X55X5fl10%

12%

More than 10 Years Varies by Age at Retirement

No Retiree Medical

RA%

1 8 0%

V

Early retirement Normal retirement

6%

Source: Adapted from Towers Perrin Forster & Crosby Survey, 1984.20

HOW MUCH DO PRHBs COST THE RETIREE?

Approximately 95 percent of the firms offering PRHBs make spouse or qualified-dependent coverage available.22 The employer may require that the retiree contribute by paying a premium for the medical coverage for either him or herself,or for the dependents. While there is likely to be some variation by size and industry, a little more than half of the employers providing PRHBs require no contribution from the post-65 retiree. With minor variation, surveys indicate that approximately half (54 percent) of the providers require no premium to be paid by the retiree for his/her own coverage.23 For the spouse's coverage, no contribution is required by 42 percent of the companies.24The distribution of the premium costs required by large firms are presented in Figure 3. In addition to the firms providing PRHBs with no contribution, another 29 percent of the firms providing PRHBs required contributions of less than $24 monthly for the retiree alone. Nearly as many (27 percent) required corresponding contributions for the spouse, threequarters (76 percent) of which were less than $16 monthly. There are no data available on the distribution of plans that specifically cover spouse and not dependents. Only 3.5 percent of the firms providing the coverage required either the retiree or the spouse to pay the plan's "full cost."26 Usually coverage for the dependent is contingent on age and residency requirements. Thus, of the retirees covered by PRHBs in

806


Figure 3: Monthly Retiree Contributions for Post-65 Coverage Premium

Perwen

No Contribution Under $8.00

Z

12%

$16.01-24.00

5.8% 5.8%

$24.01-32.00

5.8% 2.3% 235% 3.5%

$40.01-48.00

I-

Retiree only Retiree and spouse

51.1%

$48.01 -150.00

3.5% 1.2% 5.1%

"Full Cost"

23.5%

Vanes by Opton, Other

46.5%

M7g

*8.001 6.00

$32.01-40.00

I-io-n V"

X3.5% 5.8Yo j5.3%

Source: Adapted from data provided by Hewitt, 1984-5 Suwy of 762 firms.25

larger firms, approximately 80 percent as individuals and 70 percent with dependents either pay nothing or premiums of no more than $24 monthly. HOW MUCH DOES IT COST THE EMPLOYER?

The costs of PRHBs were once considered to be immaterial, but no longer. More recently they have been climbing along with the total health insurance bill for corporations. The direct costs (on a pay-asyou-go basis) of PRHBs, provided by private sector employers, were estimated to be $3.9 billion in 1983 and $4.6 billion in 1985.27 From 1960 to 1981, the national expenditure by employers for health care rose slowly, as a percentage of total payroll, from 1.3 percent to 3.8 percent. Over 1982 and 1983, it jumped to 4.6 percent of payroll, with employer contributions totaling $76.5 billion that year. This acceleration is attributed in part to the recession from 1980-1982,


807

in which early retirement was encouraged.28 Those increases are reflective of all employers, and therefore understate the increased costs of firms providing PRHBs. One estimate of the direct expense of private sector employers for PRHBs in 1985 is $4.6 billion.29 Firms providing postretirement benefits (principally medical coverage but also life insurance) can commonly experience annual costs on an accrual basis for those benefits alone that run from 2.5 percent up to and even exceeding 5 percent of payroll.30 The costs of providing retirement medical benefits are substantial. An employer's typical cost per retiree under 65 is estimated to be $2,000 annually, and the cost for a retiree over 65 to be $500.31 The costs of PRHBs are higher for early retirees than for those who are 65 or older and eligible for Medicare. These estimates are approximate, but correspond to other findings.32 Even with PRHBs, the individual retiree's out-of-pocket expenditures may remain substantial. Figure 4 illustrates the growth in the personal health care expenditure for those over 65 from 1978 to 1984. The average cost of an individual's health care increased from $2,026 in 197833 to $4,202 in 1984.34 Observing that Medicare paid approxiFigure 4: Growth in Average Over-65 Health Expense

1978

1981

1984

Sources: Adapted from Zigler, M.J.37; and Cafferatta, G.L.38

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mately 48.8 percent35 of the cost ($2,051), the remaining $2,151 was necessarily paid by the individual, by employer-provided or individual insurance, or in combination.36

MYTHS AND REALITIES ABOUT PRHBS WHAT IS THE DISTRIBUTION OF PRHBs?

Who is providing PRHBs, and who is receiving them? The perception widely held by the Congress, departments of the federal government, and benefits consulting firms is that the benefit is provided by the larger corporations. It is a benefit believed to be most prevalent in the older, smokestack industries, such as steel, coal, and automotive, which have been heavily and aggressively unionized. Typically, these industries would be expected to have higher ratios of retired to active employees, not only because of an industry's maturity but also because of the introduction of labor-saving technologies enabling work force reductions. Accordingly, the belief persists that the younger manufacturers (for example, high technology) and service-oriented industries (banking, insurance, finance, sales, and so on) have much lower prevalences, due in part to less unionization, more turnover, and lower pay. Closer analysis demonstrates that while prevailing perceptions of the providers and recipients are not incorrect, they miss critical aspects. To look at the depth and extent of the benefit, consider first the national employment structure depicted in Figure 5. The data summarized in Figure 5 are the best available on which to project the distribution of PRHBs, although they lack precision because "establishments" are not defined as "firms." These data are adequate for the purpose of analyzing various dimensions of PRHBs. The effects on the subsequent analysis will be indicated (see Appendix C.).39 Using Figure 5 to represent the national employment structure, the nation's largest employers (establishments with 1,000 employees and up) constitute 0.1 percent of all employers, although they employ some 14 percent of the work force. In fact, some 57.1 percent of the work force is employed by only 5 percent of the nation's firms (establishments with 50 employees or more).

Postretirement Health Benefits Figure 5:

National Work Force by Employer Size, 1982 (Expressed as Percentage of Workers and Establishments)

53.7

Total employment Li 74,297,252 E Total establishments

* p

809

- 4,633,960

20.5 16.2

12.5 10.9 8.9

14.0

14A 12.3

839.1

6.73 1.5

0.

I to 4 5 to 9 I0 to 20 to 50 to I00 to 250 to 500 to 1,000 or 99 249 499 999 more 49 19

Employment Size Class Source: Adapted from U.S. Department of Commerce, County Business Patterns, 1982, Figure 2.

Myth Number 1: PRHBs Are a Problem of the Nation's Largest Employers

PRHBs are a problem for other employers as well. It is true that 95 percent of the largest corporations and 86 percent of those over 1,000 employees provide the benefits. It is apparently also true, however, that many of the nation's medium and relatively smaller employers provide the benefit (although with lower frequency). Myth Number 2: Few Smaller Firms Offer PRHBs The depth of the benefit in the employment structure becomes important. Depth is measured by the percentage of the firms within each size category which provide PRHBs. Figure 6 demonstrates progressively increasing prevalence rates by size of firm. While it is true that the largest firms are most likely to offer PRHBs, there are a great many

810


Figure 6: Prevalence Rates by Size of Firm

Size

No. of Empy 60-99

Small Small-Medium

Medium-Large Large Very Large

100-499 500-999 1,000-4,999 5,000-9999 10,000+

Larger

1,000+

Medium

(coflpeed)

Pcn e Pridin PRHBs 42% 46% B2

!A lo

77%

VAZIZOU 50151

..a. -~~~~~~~~ I t2 39% I

I_-

94% I

1..

Source: Dopkeen40

firms of smaller size contributing substantially to the extent of PRHB coverage. more

Myth Number 3: Not Many Current Workers Will Become Entitled to PRHBs Figure 7 depicts the percentage of active employees working in firms that currently offer PRHBs. The federal government has estimated that 12 million current employees might take advantage of the benefit - approximately 16 percent of the work force.42 However, the data in Figure 6 indicate that approximately 25 million current employees may be working in firms where they could retire with the benefit -34 percent of the workforce.43 The reason for the difference between the two projections is that the federal estimate included only employees over 40 years of age, who were believed to be less mobile and inclined to stay with a continuous employer. Therefore, while many more people are working today in firms where they could eventually become eligible, approximately half of them will probably lose their PRHBs by the time they retire. This would be true if the current structure and provision of the benefit were not altered.


811

Figure 7: Estimated Distribution of Work Force in Firms Providing and Not Providing PRHBs (in Firms with Active Employees of 50 or More)

Work Force in Firms of 50+

Providing PRHBs

-/ 1-

Not Providing PRHBs

3100

249

Z4S" Source: Dopkeen.4'

Myth Number 4: PRHBs Are Provided Mostly by the Older Smokestack Industries Which Are Heavily Unionized Another view of the distribution of PRHBs is the prevalence by sector or industry. Here again the belief differs from reality. The rates of providing PRHBs are presented in Figure 8. These rates show that other sectors offer the PRHBs as generously as do industrials. It is also significant that the prevalence among the sales and services sectors is lower than in the other sectors. These are the current growth sectors in national employment, and fewer new jobs will be covered. Although unions encouraged the development of PRHBs, a high level of unionization is no longer a determinant of whether or not larger firms offer PRHBs. In a survey of 133 Fortune 500 companies,

812


Figure 8: PRHBs Provided by Employment Sector

Percentag Providing PRHBs

Industry' Finan./Bank/lnsur./Trust

82.8 82.7

Communicat./Transp./U1i1. Sales (Retail & Whole.) Industrials 7 Services Sample Average Pralencee

58.3 7

. 47.8

3

*See Appendix D for industries within category definitions. Source: Dopkeen"4 95 percent offered PRHBs; firms with lower levels of unionization were a greater proportion of the benefit's providers (Table 1). The benefit appears to be widely established among nonunion as well as union firms, although comparable data for smaller firms are not available. The extensiveness of PRHBs offered by other sectors does not change the likelihood that the largest of the mature industrials have both the highest prevalence and financial vulnerability on the issue. These prevalence rates are calculated without regard either to size of firm or to maturity of the various industries within the category "industrials". (see Appendix D). The distinguishing problem for the smokestack industries (for example, automobile or steel) is not the prevalence, but the extremely high ratios of retirees to active employees. Accordingly, firms which offer PRHBs but do not have high ratios of retirees to active employees are distinguished by the opportunity to address their future vulnerability. The conclusions from this analysis are: - The availability of PRHBs extends deep into the national employment structure, and is not confined to the largest corporations, the older smokestack industries, or to heavily unionized

firms. -When PRHBs are provided, the number of employees covered in smaller firms (50-250 employees) is as large as the number of


813

employees covered in the largest firms (1,000 + employees). See Figure 7.46 -The distribution of PRHBs across industries and the number of employees potentially eligible indicates that the issue of PRHBs is much larger and more extensive than heretofore realized. -In terms of potential policy change, the employees who could become eligible for PRHBs are as important as the relatively small cohort of current retirees who already have PRHBs. Looking at future retirees provides a basis for discussions on altering the benefit's structure or eligibility, or on which to consider issues such as portability.47 -To date, the firms offering testimony to Congress on issues such as tax policy and prefunding represent only the largest corporations. They may not represent adequately the range of firms which can anticipate increasing liability. Myth Number 5: Like Pensions, PRHBs Are Tied to Salaries PRHBs are not tied to salaries. The relative dollar value of PRHBs versus pensions is a critical aspect in understanding PRHBs. Once vested, the value of PRHBs to a retiree is independent of years of service and salary. A retiree of shorter service will receive a reduced pension benefit, but will receive generally the same retirement medical

Table 1: Providers of PRHBs by Level of Unionization in a Survey of Fortune 500 Corporations

(N

=

126) Percent of Work Force Unionized 0% 50% Total

Percent

of

Sampk 29% 33 17 21 100% Source: Washington Business Group on Health, 1985.45

814


coverage as either a retiree of longer service or of substantially higher salary. Thus, the relative value of PRHBs to pensions is greater for employees (1) of lower salary levels and (2) of shorter service (which affects the pension formula); and (3) for early retirees. If inflation in medical care costs continues to exceed inflation in salaries and wages, then the relative value of PRHBs will be even greater.48 Table 2 illustrates examples of the relative value of pensions and retiree medical coverage. As a service benefit, PRHBs index automatically (increase with health care inflation) in contrast to pension benefits in which the present value of a fixed payment declines. This actuarial valuation of the PRHBs projects what the claims cost would be, discounting for interest and mortality, but adjusting upward each year for health care inflation, greater utilization associated with increased age, and costshifting by Medicare.50 Myth Number 6: The Firms Truly Vulnerable on PRHBs Are the Old Firms with Lots of Retirees As long as corporations paid the costs of PRHBs as they were incurred out of earnings, this statement was accurate. Vulnerability has been a function of the ratio of retirees to active employees; a high ratio indicates higher costs likely to be borne by active employees. If firms were required to prefund, however, the number of financially vulnerable firms would probably increase dramatically. The issue of prefunding was discussed earlier from the point of the "hardening liability" (see also Appendix A.4). What does prefunding mean in terms of current and future expenses for individual firms? Table 2: Relative Value of PRHBs Compared to Pension Benefits at Ages 65 and 55 Annual

Actuarial Present Value Retirement at Age 55

Retirement at Age 65

Salary at Retirement $100,000 50,000

Pension

Health Care

$390,000 177,000 72,000

$32,000 32,000 32,000

Pension Ratio 8% $162,000 18 73,000

Health Care

$55,000 55,000 55,000

44 30,000 55,000 91 15,700 32,000 35,700 15,000 Source: Zigler, M. J. Tillinghast, Nelson and Warren, 1985.49

25,000

Ratio 34% 75 183 367


815

CURRENT EXPENSE

In November 1984, the Financial Accounting Standards Board (FASB), responsible for standards of accounting practice, issued Statement Number 81 with its interim guidelines for the accounting treatment of postretirement health and welfare benefits. It required firms that provide PRHBs to footnote the following information on their financial statements:

-Descriptions of the benefits provided and the employee groups covered -The methods of accounting and the funding policies for the benefits -The costs of the benefits for the period of the financial statement.5" Review of financial statements for 1984 (issued in 1985) is providing an opportunity to view the relative magnitude of the current expense. Some large employers showed substantial increases in the costs of retirement medical benefits over a two- and, in some cases, three-year period (1982-1984). In an early review of 100 large companies, conducted by FASB, 78 firms provided cost information, and 68 could be compared. Figure 9 presents the distribution of postemployment benefits costs as a percentage of pension costs for the 68 firms for which the ratio could be developed. Eleven firms (16.2 percent) indicated the costs of postemployment benefits (primarily health, but including life insurance) to be in excess of one-half of their pension costs. Four firms within the sample reported postemployment benefits that exceeded their pension costs by ratios that ranged from 1.08 to 2.13.53 FASB is expected to continue the study, to promulgate rules that require recognition of the postemployment benefits as a real and technical liability to be reflected on the financial statement, and perhaps also to prefund the benefits over the working lives of employees. What will that do to the future expense? FUTURE EXPENSE

A federal study estimates that prefunding the current private employer liability would have increased employer costs in 1985 from $4.6 billion to $10.8 billion.5 Actuaries and benefits experts have reported extraordinary potential impacts on employer expenses if prefunding is either required or elected. The National Association of Accountants has estimated that the annual expense of a firm providing PRHBs could

816


Figure 9:

Distribution of the Costs of Postemployment Benefits as a Percentage of Pension Costs for 68 Large Employers

24

22

E 20

J

h.12

h

3

*

3

4

Is~~~~~2

9% 9.01 19.01 29.01 39.01 49.01 59.01 -199% -29% -39% 349% -59% -69%

99%+ ove

Percentage of Pension Expense *Postemployment Benefits are principally PRHBs, but much lower costs of life insurance are included in these numbers. Source: FASBW2 increase from 4 to 50 times. Actuaries analyzing corporate liabilities are reporting possible increases by factors of 30 to 50 times the current expense.55 The projections of the costs are variable, due to the unknowns of medical inflation, new technologies, changes in utilization rates, and the extent of Medicare cost-shifting. The two examples in Table 3 illustrate the impact for two companies, relatively young and with few retirees. In these two cases, the actuarially projected annual expense for PRHBs would be 20 times greater than the current annual expense. For each, the new cost reflects accruing the projected costs of the active employees as well as those of the retirees from this point forward. Table 4 displays the immediate impact of prefunding PRHBs for these two firms by distributing the increased costs per active employee in terms of (1) days, at current wages, necessary to pay for the benefit; (2) the percent of work-year lost, a productivity measure; and (3) the additional cost per hour of work. The range of added cost of between 10 and 14 cents per hour appears inexpensive. This cost is only for the first year, however, and does not address any existing liabilities, which are small for these two firms. By contrast, another company found that prefunding a modest


817

Table 3: Examples of Prefunding in Two Companies Company Description Active Employees Retirees: Under 65 65 and up Annual retiree claims

Example A * Relatively Young, High- Technology 2,000 20 10 10

Example Bt Relatively Young, Manufacturing 5,000 80 40 40

average:

Under 65 $1,500 65 and up $500 Current (pay-as-you-go) Average cost/retiree $1,000 Current PRHB expense $20,000 Annual cost of PRHB $10 per active Prefunding (accrual) Future PRHB expense $400,000 New annual cost of $200 PRHB per active Change in annual cost of PRHB per active + $190 Factor increase in 20 annual expense Sources: *Zigler, M. J. Tillinghast, Nelson and Warren. tRappaport, A. Mercer-Meidinger.56

$1,000 $500 $750 $60,000

$12

$1,200,000 $240 +

$228 20

Table 4: Impact on Direct Labor Costs of Prefunding PRHBs in Year 1 (Funding Only from the Present on)

Company A

Increased Cost per Active Employee $190.00

Company B

$228.00

Salary $15,000 25,000 35,000 $15,000 25,000 35,000

Source: Dopkeen, adapted from Table 3.58

Days to Pay for Benefit 3.091 1.854 1.325 3.709 2.225 1.589

Percent of Work Year 1.3% 0.8 0.5 1.5 0.9 0.7

Additional Cost per hr. of Prefunding PRHBs $0.10-$0.114

$0.117-$0.133


818

PRHB of $20 thousand would add 40 cents to its current hourly benefit expense of $1.75.59 ARE THERE ALTERNATIVE WAYS OF PREFUNDING PRHBs?

Several methods can be used to prefund the liability. They include: accrualfunding (as with pensions, funding the expense over the working life of the employee) and termninal funding (incurring the expense at the point of retirement). Accrual funding is otherwise known as level actuarialfunding. Variations or combinations of accrual and terminal funding, as well as other distinct methods of funding, can be developed.60 Each method of funding implies a different impact in each of the following areas: -The relative total cost of the funding method, and when it is incurred -The relative security provided to retirees' benefits. In theory, the earlier a benefit is funded, the more secure it is for the retiree. Figure 10 indicates the projected flow of relative dollars by the

Figure 10: Comparison of Cost Trends of Various Cost Methods for Postretirement Medical Coverage (as a Percent of Payroll)

Pay As You Go

iff

Terminal Funding

|

/

*

I/// li; Year Source: AT&T, 1985.62

Level Actuarial Cost Method


819

different funding methods. The current method of paying expenses, the "pay-as-you-go" method, maximizes the impact of future costs as well as the benefit's insecurity.6' The deferred expense will be highest when incurred, and will have no offsetting funds reserved, making the commitment tenuous. While in the long term prefunding would be in the interest of both employers and retirees, the increases in short-term expenses might well discourage an employer from continuing the benefit. In fact, prefunding enhances retiree security in the event of bankruptcy. Earlier funding enhances the adequacy of the funding for the benefit which, in theory, should be fully funded at retirement. For employees who will not retire from that firm, prefunding over the period of employment is technically hollow without vesting rules that ensure a partial and portable benefit. ADVANTAGES AND DISADVANTAGES OF PREFUNDING

The advantages are similar to the benefits achieved in prefunding

pensions. 63 Advantages:

- Cash requirements are distributed more appropri-

ately between generations of shareholders. - It is possible to reduce or eliminate an unfunded liability from the financial statements (if the Financial Accounting Standards Board (FASB) requires entry on the financial statement). - Prefunding increases retiree security relative to an unfunded benefit, which makes future retirees dependent on the firm's willingness and capability to sustain the benefit's expense.

Disadvantages: -Firms may have more profitable ways of spending the capital that would otherwise prefund PRHBs. -The existence of a trust established for PRHBs might diminish the employer's legal ability to withdraw or modify those benefits.64 -Since DEFRA (1984), PRHBs no longer enjoy the significant tax incentives to prefunding that still apply to pensions.

820


WHAT ABOUT NOT PREFUNDING?

Regardless of the outcome of FASB's ruling, it is clear that the costs of PRHBs are real. But there is a difference between simply accounting for the expected costs of PRHBs (expesing) and prefunding the benefit. While the liability could be "expensed" without prefunding, it is more likely that employers would prefund the benefit if FASB were to rule PRHBs a technical liability (on the balance sheets). Prefunding would be preferable to carrying large unfunded liabilities on the balance sheet, which would weaken the financial position of the firm.65 On the other hand, an employer not able to afford full prefunding might elect to terminate PRHBs to future retirees or seek ways to reduce the benefit, rather than incur a growing unfunded liability. These issues make the problem of how to handle funding of PRHBs extraordinarily difficult for public policymakers.

WHAT ARE THE ISSUES? WHAT SHOULD BE DONE ABOUT PRHBs?

A series of policy issues regarding PRHBs must be addressed by public and corporate policymakers. The first is the most fundamental: 1. Should There Be PRHBs? This question recognizes the federal tax subsidization of employerprovided health coverage as well as the debate over the merits of expanding health insurance. Substantial arguments exist for both elimination and continuation of PRHBs. Principal arguments for elimination of the benefit include: -Equitability. Everybody pays taxes that subsidization PRHBs, but not everybody has entitlement. Those over 65 without PRHBs may pyivately purchase (with after-tax income) insurance policies that supplement Medicare. Approximately 70 percent of Medicare beneficiaries have purchased one or more such

policies." -Restraint on services. It may not be appropriate or desirable to expand health insurance to cover more health care costs. Having individuals pay a greater portion of their health care costs may have the salutary effect of minimizing unnecessary use of services. 67


821

Arguments supporting continuation of PRHBs include: - Quality of coverage. As extensions of the preretirement coverage, PRHBs provide fuller coverage than individual medigap policies.68 In 1977, PRHBs paid nearly one-fourth (23 percent) of the covered retiree's total health expense, as opposed to oneeighth (12 percent) paid by private policies.69 An estimate of the proportion paid by private policies in 1984 was essentially unchanged.70 -Access. Higher individual expenses may, for some, present barriers to necessary services, even in the presence of private policies. In spite of the Baucus Amendment to the Social Security Act in 1980, which set minimum standards for private Medicare supplement policies, problems and gaps persist.7' -Structure. These benefits are part of the earned compensation of current and future retirees. They are recognized by ERISA as welfare benefits, and they are part of the developed national fabric of health insurance. If it is determined that PRHBs should continue, the remaining issues concern how PRHBs could be provided. 2.

How Extensive Should the Tax Incentives Be for PRHBs?

The principal vehicle for promoting or discouraging the benefit's perpetuation would be change in its tax favorability. Through 1986, the corporate contribution to health benefits was tax-deductible at the rate of 46 percent. This tax favorabilityhas provided an incentive to provide PRHBs. On July 1, 1987, the rate will drop to 34 percent.72 It is not known at what point reduced tax favorability would lead employers to abandon the commitment to PRHBs. In order to reduce PRHBs, one class of option would be to cut the tax-favorability rate to anywhere between 34 percent and 0 percent (elimination) across the board. If the objective were to stimulate PRHBs and to increase the security offered to retirees, an alternative class of option would utilize a graduated tax favorability designed to give a higher deduction for greater proportions of the liability being prefunded. The same considerations might also influence policies regarding the addition or withdrawal of full or partial tax exclusions on the earnings from accumulations from possible prefunding. The overwhelming factor in the selection of a rate (and possibly

822


driving a policy on PRHBs) will probably be the budget deficit, and the consequent revenues lost to the government. 3. Should PRHBs Be a Cash Benefit or a Service Benefit? PRHBs could take a variety of forms. At present, PRHBs represent a "service benefit," where the actual medical services to be provided to the retiree are specified (as in the group health plan for active employees). An alternative approach would be to provide a "cash benefit" that would provide a predetermined dollar amount into an account annually that would be used only to acquire medical services (or insurance) after retirement. The contrasting features of each are detailed in Figure 11. The principal advantage of the cash benefit approach is the certainty provided to the employer, because the liability to the employer per retiree is fixed at a specific level. Adjustment of the payment could

Figure 11: Comparison of Service versus Cash Benefits for PRHBs

Service Benefit Disadvantages Advantages Employer Retirees get high quality coverage as a continuation of active plan.

Redree

Retirees maintain preretirement level of health-care benefits.

Costs unpredictable. Costs rising ahead of inflation. No control over Medicare reductions. Addresses only services defined in active plan, and no long-term care needs.

Advantages Employer Retiree

Cash Benefit Disadvantags

Achieves predictability over costs. Gains discretion over indexing of health care inflation. Cash benefit would permit vesting and portability. Could be used for services or purchase of insurance beyond scope of active plan, such as long-term care benefits.

No control over retiree's purchase of appropriate services.

May yield insufficient funds to maintain preretirement level of benefits.

May not purchase appropriate services or insurance instrument.

May not optimally manage account. May loee discretion over future income.


823

be made over time to reflect changes in utilization. The specificity of a cash benefit could permit vesting and portability.73 The disadvantages of cash benefits are greatest for the retiree. First, a cash benefit may not yield sufficient funds to maintain the preretirement level and type of health benefits, because the amount predetermined may not reflect increases in costs, and may not be routinely indexed.74 It is possible that the retiree may poorly manage the account or purchase inappropriate services. Yet another concern is that an employer might use funds for the retirement medical account that would previously have been applied to indexing the pension. Thus, a lower-income pensioner might have a pension benefit converted into a less discretionary health benefit, when there might not be enough disposable income.75 Each approach has advantages and disadvantages. The service benefit increases the financial risks for the employer, while the cash benefit could disadvantage the future retiree. Were the cash benefit adequately set, however, it could offer future retirees more flexibility in purchasing services, and potentially it could cover more people. 4.

Should PRHBs Be Prefunded?

The discussion of prefunding assumes that the funds would be treated in a manner similar to pension funds, which are not easily reversible to the employer. For employers, the burden of prefunding could fall disproportionately on those with greater current liabilities. It is possible, however, to prefund fully or partially, or to continue not to prefund at all. Within these choices, it may be reasonable to consider prefunding some of the current or future liability. The criteria for this decision are primarily affordability, the firm's alternative demands for capital, and the relative concern for the security of PRHBs. The advantages and disadvantages of prefunding for employers have been described in the section on PRHB myths and realities. The issues for public policymakers are somewhat different. The main objective of prefunding would be to increase the security of PRHBs, once promised, as it does with pensions. This recognizes that the requirement may discourage employers from continuing the benefit. One rationale not to prefund would be to sustain the current voluntary distribution of PRHBs, all other factors held constant. While the promise would be less secure, more current and future retirees might be covered. PRHBs may be honored for greater numbers of

824


beneficiaries than might otherwise be covered were prefunding required. Alternatively, a decision to require prefunding with the elimination of tax favorability would discourage provision of PRHBs in the future. This would safeguard the commitment, while simultaneously suppressing the expansion of retiree health insurance. 5. Considerations in the Funding of PRHBs If a decision is made to prefund in some measure, dollars for prefunding must come out of existing funds, be generated from a new financial mechanism, or combine the two. Existing resources may include either ready reserves or funds currently in other uses. One interesting alternative, for instance, might be to use the excess funds from defined pension benefit plans.76 Reversions of excess funds to the employer are currently prohibited; they technically belong to the pensioners. Since the current liability for PRHBs relates to the same pensioners and dependents, however, the application could be appropriate. No research is currently available that would determine how much of the prefunding costs of PRHBs might be met through these means. New funds must come from one of three sources: (1) profits (earnings per share); (2) salaries, wages, and fringes; or (3) employee contributions. The likelihood of the funds coming from profits and earnings per share will vary with the profitability of the firm and the commitment to retiree health. To date, the benefit has been provided, and although it was paid out of corporate earnings, it has not competed directly for dollars that would otherwise go to wages and other fringe benefits. In the future, PRHBs may be competitive with increased salaries, wages, and existing benefits to current employees, who will also likely face higher PRHB contributions (premiums) as retirees. 6. Should Minimum Standards Be Imposed on PRHBs? Minimum standards for PRHBs might parallel the standards imposed by ERISA for pensions. Such standards could cover participation, benefit accrual, vesting, and funding. ERISA qualifies only pensions that meet all standards. While the imposition of minimum standards could improve the beneficiary's security, the standards might also cause some employers to withdraw. No research has been done that would test the potential impacts of even a range of minimum standards. In particular, employer response could not be tested without first specifying the tax implications involved. Mandatory prefunding, as a standard, might subject some


825

employers to unacceptable future risks, because the projections of retirement medical costs for service benefits vary so widely. The uncertainty might be mitigated by the selection of a cash-benefit approach. Voluntary prefunding will do less than mandated prefunding to assure a firm's provision of the benefit in the future, but the discretion to defer some or all of the financing, maintaining the pay-as-you-go method, might entice employers to continue providing the benefit." Minimum standards for vesting are related to the decision to prefund. With PRHBs unfunded, the secure rights of qualified current retirees to PRHBs are still open to question due to a recent court decision.78 Current employees have no secured access to PRHBs without vesting rules, such as those that exist for pensions. 7. If PRHBs Are Subject to Imposed Minimum Standards, Should Their Provision Be Guaranteed?

The extension of minimum standards to postretirement medical benefits could require the development of a Pension Benefit Guarantee Corporation (PBGC) for welfare benefits. The PBGC ensures a guaranteed pension payout in the event of a plan termination, charging premiums to employers sponsoring qualified pension plans. Creation of such a reinsurance capacity would imply a federal commitment to PRHBs as there is for pensions. Although the costs of such a program could be reduced by using the existing PBGC, the premiums would add to the costs of PRHBs for employers and the government. SUMMARY

Ideally, a complete federal policy should address all of these issues. The options are summarized in Table 5. In the absence of complementary federal policy directions regarding Medicare cost-shifting and the financing and tax treatment of PRHBs, an inconsistent and conflicting policy will evolve. Employers will determine policy by acting preemptively, altering the structure and value of the benefit, requiring greater if not full contributions from retirees, and reducing or eliminating PRHBs. The legal history to date, the reports of firms that have undertaken plan changes or scheduled increased contributions by future retirees, and the positioning of the benefits industry as reflected in its literature and practice are evidence of this trend. As illustrated in Table 6, a number of powerful actors are likely to be involved in this debate, each with divergent interests and conflicting views on the major issues. This political dynamic further complicates

826


Table 5: Matrix of Policy Alternatives Source of Funds

Type of Benefit Service Benefit

Prefunding All

Type of Funds Existing

P

Cash

Partial

New

t

Benefit*

Earnings/ Share

None

Mixed

Employee Contrib.

i o n

None

TaxFavorable Current 34%

Reserves

Minimum Standards All

(max.)t Modify < 34%

Some

0%

None

s

Mixed *Alternative options of cash benefits.79 tFormerly 46 percent under tax laws through 1986.

Table 6: Interests of Participants

Participant .4?

Interest Employer Focus: * Minimize adverse employer impacts * Increase employer certainty * Minimize costs * Control projected liabilities * Encourage greater prevalence * Provide (or promote) portability Employee Focus: * Maintain pre-retirement benefits * Increase certainty for employees * Guarantee availability of PRHBs * Maximize retiree income security Federal Focus: * Reduce Federal exposure * Minimize tax expenditure * Maximize tax revenue * Promote privatization of health

* *

a a

*

a

a U U U U ?

m u. * *

?

*

?

?

a a *

a

a

*

*

a U

a *

a

?

a

*

?

a

? a

*

*

?

*

U

a

*

a*a a*U

*

a*U

a

*

a

a


827

the issues and suggests great uncertainty about the most likely outcome.

CONSTRAINING FACTORS FOR THE FUTURE The future of PRHBs will be turbulent and uncertain. The forces of industry, budget reductions, the courts, and inexorable demographics will contribute to this tumult. The decisions that must be made in the future lie in questions of kind of retiree medical system we want, and the amount we are the willing to pay. Should it be private or public? If it is private, will the employer or the individual be responsible? How much will the federal government be willing to pay in foregone tax revenue to promote a private system of elderly care? In addressing these issues, the Employee Benefits Research Institute (EBRI) has advised: "Possible long-term reductions in public spending enabled by private coverage should be weighed carefully against the near-term cost of aggressive tax policy to encourage private health insurance coverage among retirees

NO80

One major question that will be answered, directly or indirectly, is whether or not the tax policy that inadvertently stimulated PRHBs should be dismantled. The federal government has the option of either withdrawing its support of PRHBs or committing to it. If it commits, it will likely focus on a redesigned benefit that can be standardized, in order to reduce variability in the minimum benefits an employer may provide. Treasury's inclination to select a cash benefit reflects the easier applicability of minimum standards to that benefit approach.8" The extensiveness of a benefit to be adopted is inextricably tied to the expense of an acceptable tax incentive (viewed by the government as a subsidy, and by the employer as favorability). While the cash benefit would address the needs of the employer, who may respond by providing the cash benefit, anything other than service benefits may not meet the needs of beneficiaries. While the legal security of PRHBs for current retirees remains unclear, the actual receipt of PRHBs is still subject to the former employers' abilities to meet the unfunded obligations. Future retirees are fully at risk. Technically, retiree medical coverage is the provision of health insurance; in fact, it is more akin to income. As the probability of incurring medical expenses increases with age, the value of this insurance in relation to the fixed income and assets of most older

828


people also increases. When high cost or chronic illnesses are considered, PRHBs can surpass pensions for "income support."82 Thus, benefits represent substantial income when needed to pay for health services. Once retiree medical coverage is recognized as an income issue, two questions arise: (1) Who is it for? and (2) What is being offered? Currently, PRHBs are offered for the long-term employee who retires. The employee who leaves before retirement loses the benefit. Portability is one method of widening access to the benefit; more people would gain the benefit and use it. The resulting increased expense would be weighed against the cost of development of greater private reserves for retiree health care.83 Women in particular would benefit from portability; the loss of PRHBs among women is particularly acute since they commonly have shorter periods of service than men, frequently not vesting at all in available pension plans.84 Politically, it is unknown whether or not portability for PRHBs could be addressed before it is for pensions. What is being offered? PRHBs are currently extensions of the active group plan, complete with maternity and other services which will not be used by an aging population. A real value to beneficiaries could result from a customization of retirement medical coverage that addresses consumer options, possibly some long-term care, or a blend of acute- and extended-care benefits not provided by Medicare. The possibility of a cash benefit could open PRHBs to this flexibility. Research on PRHBs and their significance is in its early stages. Appendixes B and C review the research on which this synthesis has drawn. More and extensive research is needed to understand more fully who is, and who could be, providing and receiving these benefits, as well as the extent of the value of PRHBs. Under what conditions could PRHBs be improved or disappear? In this context, research on private supplemental insurance is important. The comparative costs and benefits of PRHBs versus individually purchased Medicare supplements are unexplored. These private "medigap" policies were the subject of intense scrutiny until minimum standards were imposed in 1980, with the Baucus Amendment to the Social Security Act. While they are perceived to be less comprehensive than PRHBs, comparisons of adequacy and efficiency have not been researched subsequent to the Baucus Amendment (1980).85 This research is important, because these plans have a wide distribution in the over-65 population and are not tax-subsidized as are PRHBs." The effectiveness of recent attempts to manage retirement medical utilization through HMOs and other managed care approaches is


829

unresearched. As corporations seek out ways to manage this liability, there is as yet little information on the success of these approaches. There is concern that HMOs used for supplemental insurance might be increasing costs to corporations and beneficiaries. The potential relationships of PRHBs to state expenditures, hypothesized here, require research. The relationship to Medicaid could become complex if a cash benefit for retirement health evolves, principally because it could become an income asset under Medicaid. This synthesis has attempted to identify critical issues involved in postretirement health benefits, and distill for policymakers the dimensions of a new problem in the financing of health care for the elderly. One of the most salient issues is its political nature. What we do about PRHBs touches on the fundamental question of the nature and extent of the welfare state. Likely as not, the debate that will ensue will be as much over issues of political ideology as over financial calculation. This alone argues for greater efforts by public and corporate decision makers to understand and separate the issues involved.

APPENDIX A CRITICAL CONTRIBUTING FACTORS

Eight factors, previously outlined in pages 797-800, make PRHBs a complex and formidable issue for private and public policymakers: 1. Privatization of Health Costs. In 1965, the federal government took on substantial expense in financing health care for the elderly. In 1986, it is trying to shift this responsibility back through privatization. The reasons for this relate both to cost and philosophy. Since Medicare began in 1966, the overall health expenditures in the United States increased from $43 billion to $387.4 billion.87 Hospital care has increased three times faster than the price of consumer goods. Physician services, too, have increased ahead of regular inflation.8 From 1977-1984, the per capita costs of health care for the elderly increased to nearly 2.6 times the average per capita costs for the population.89 Three-quarters (74.8 percent) of the Medicare expense goes to hospital costs, while in 1984, Medicare paid for half (48.8 percent) of the personal health expenditure of the elderly. The growth of Medicare expenditures has led to the principal federal goal of cost-containment. Curbing the federal component of health care inflation and costshifting have become strategies of the Health Care Financing Adminis-

830


tration (HCFA). The prospective payment system is an effort to control hospital costs. Cost-shifting, on the other hand, requires accessing the resources of the private sector, either of the individual or the employer. Three ways to replace federal funds with private resources are:

-Restricting coverage (fewer benefits and capping payments to reduce outlays) - Increasing deductibles (the beneficiary pays a greater share and may seek fewer services as a result) -Privatization of costs (shifting part of the cost burden from the public to the private sector).90 Effective January 1, 1986, Medicare increased the deductibles for Part A by 23 percent (to $492), and in 1985, for Part B from 25 percent to 35 percent of the cost. It has capped hospital payments and is considering capping payments to physicians, which may further impede access for beneficiaries. If those beneficiaries receive PRHBs, most of the increased costs will be paid by a corporation. Medicare became the second payer for workers between the ages of 65 and 69 (making employer insurance primary) in 1982 (TEFRA), and became second payer for active employees of any age over 65 in 1985 (COBRA). These actions reflect a fundamental shift away from government being responsible for the welfare of individuals. Corporations anticipate further cost-shifting, both through the use of increased deductibles and through expansion of Medicare's status as second payer.91 2. Rethinking Tax Policy. Another way to access private resources is through reduction of the "tax expenditure," the cost of the federal subsidy to employers and employees through tax-favorability for health care expenditures. Tax-favorability means the favored treatment certain expenditures (or earnings) receive as deductions against (or exclusions from) business taxes. This favorability is an incentive to provide benefits to a defined population. The foregone taxes are the tax expenditure or subsidy. The federal government can use tax policy as a means to influence health care expenditures -and perhaps the overall availability of types of care - as it did in enabling the utilization of HMOs for Medicare beneficiaries (TEFRA, 1982). The Treasury Department in 1985 proposed taxation of individual employee benefits, of which a major one is health insurance. Although the proposal failed, tax-favorability for health insurance; and, therefore, subsidization of individual and corporate health benefits, includ-


831

ing PRHBs, remains an important issue. Those receiving PRHBs, for example, are being subsidized by those who may purchase less adequate insurance privately with after-tax income-or those who have none at all. Treasury's position is that 46 cents of each corporate dollar spent on health care has been subsidized by the federal government.92 (Under tax reform, the rate in 1987 will drop to 34 percent). In the context of the push for deficit reduction and revenue enhancement, Treasury limited the tax-favorability of the Voluntary Employee Benefit Association (§501 [c]9, or VEBA) in DEFRA (1984). The VEBA provided the employer the opportunity to fund welfare benefits on a tax-favorable basis that provided both deduction of the annual contribution and exclusion of the interest earned on the funds from the unrelated business income tax. The alternative vehicle (the "401[h]") is inadequate and also has significant disincentives. (§401[h] of the Tax Code limits PRHBs to the status of incidental benefits). 3. Increasing Numbers of Retirees. In 1983, an estimated 4.3 million retirees, spouses, and qualified dependents over 65 had privatesector retirement medical coverage; another 2 million enjoyed similar coverage from public employers.93 This means that more than one in four elderly were covered. Another estimate found 23 percent covered.94 When the profiles of many retirement medical plans are reviewed, it is apparent that these numbers might constitute a range of the base, and not the complete beneficiary profile. Many plans provide for dependents who are neither spouse nor elderly. Three trends are contributing to accelerating numbers of retirees and are resulting in greater PRHB expenses: -Early retirement: More people are electing to retire early, requiring the provision of more PRHBs earlier and for a longer period, and for which Medicare will not pay until age 65. Additionally, health reasons frequently precipitate decisions to retire early, a situation which portends even greater corporate expense before and after Medicare eligibility. -Growth in the aging population: In 1980, there were nearly 25 million people in the United States over 65, accounting for 11.2 percent of the population. In 2030, there will be 55 million people over 65, constituting 18.3 percent of the population.95 As the population ages, greater numbers of people will have become eligible for PRHBs, all other factors held constant. -Increases in life expectancy: Medical technology has added marginally to years of life past the age of 65; an individual today

832


can expect 17 additional years after 65 versus nearly 14 in 1950. Medical technology, however, has dramatically prolonged the expected survival of persons with serious or chronic illnesses who would not have survived to 55, 65, or later. While these people have survived, it is not necessarily as "cured" but with significant additional and ongoing medical expense. The success in bringing these people into the labor force has raised the numbers of retirees with greater illness-related complications and higher PRHB expenses. 4. Hardening of the "Liability." Financing PRHBs looms large as a growing problem for businesses offering the benefit. Unlike pensions, fewer than 2 percent of the corporations currently prefund their retiree health plans. All others have opted to "pay-as-you-go" on an "unfunded" liability that substantially exceeds $100 billion and is accumulating at $5 billion per year." Furthermore, the Financial Accounting Standards Board (FASB), responsible for standards of accounting practice, has required that, as of 1984, firms identify the costs of PRHBs; FASB may be moving toward a requirement that corporations recognize formally the liability on the books. While this could encourage prefunding, Treasury Department actions discourage prefunding. FASB's action recognizes the growing legal basis to the "permanent" nature of the commitment to PRHBs for retirees who are already vested. The courts have demonstrated substantial regard for the rights of retirees. While the trail of legal precedent was first based in contract law, employers today are concerned that standards of vesting for PRHBs are being based in common law.97 This would mean that a common standard would prevail, regardless of what an employer specifically agreed to or promised. Two of the cases on retirement health benefits are significant in what they have produced. Eardman vs. Bethkhem Steel (1985) and Hansen vs. White Farm Equipment Co. (1984) are the common reference points.98 In the Bethlehem case, involving nonunion retirees and the corporation's attempt to change the retiree health plan, a district court ruled that the employer did not clearly retain the right to modify or eliminate the PRHBs of retirees, and that the benefits were therefore nonterminable.9 The central issue was the corporation's failure to communicate clearly that the benefits were not guaranteed. The court ruled narrowly on the clarity-of-communications question. Constrained, Bethlehem Steel eventually settled the case, obtaining the plan modifications initially sought but, in return, establishing a permanent retiree health plan.


833

The White Farm case left a broader impact. The White Farm Equipment Company had terminated its retiree health plan. A bankruptcy court had already decided in favor of White Farm, requiring retirees to pay the full cost to continue group coverage. The decision was reversed on appeal. Again, the reason involved ambiguity in the plan language reserving the company's right to modify or cancel the plan. However, the decision broadly asserted that congressional intent in ". . . ERISA does not sanction unilateral termination of welfare benefit plans."100°101 Like Bethlehem, the White Farm decision departed from contract law and defined the rights of retirees to nonpension benefits under common law.'02 These decisions were consistent with earlier rulings.'03 Hansen vs. White Farm, however, has again been reversed. The sixth circuit court ruled that welfare benefits do not automatically vest upon retirement, and that the employer does have the right to terminate the benefits pending the specificity of the promise and its communication. The lower court is to reexamine these issues. Corporations and the benefits industry are encouraged by the decision, believing that appropriate plan documentation and communication may yet preserve the ability to manage PRHBs.104 Yet, currently on appeal in the sixth district court might be the most restrictive precedent yet. In Robert L. Musto et al. vs. American General Corporation et al., the named corporation acquired another corporation and then sought consolidation of the benefit plans. In spite of enhancements to the plan, the retirees sued under ERISA. The suit was over amendments to a welfare plan, not its termination. The decision in favor of the retirees was based on the benefit's having assumed vested status without regard to clear disqualifications in the corporate plan documents. 105 The case is currently being appealed with extensive employer interest. In the light of substantial efforts by employers to bring health care costs under control, Musto vs. American General may portend a major new precedent.'0 All of this means that employers have very limited options in abolishing or amending PRHBs for current retirees. This places added pressure on PRHBs for future retirees, over which the employer still has clear choice. 5. Uncertainty of Cost Projections of PRHBs. Actuarial projections of the expected costs of PRHBs are extremely difficult to make. Accurate projections would require reasonable certainty of: - The numbers of retirees (and dependents) expected -Expected longevity

834


-Inflation in the cost of medical care - Changes in patterns of utilization of health services -The extent of future cost-shifting by Medicare. While it would seem that the number of insured and their longevity could be projected with reliability, many firms cannot separate the costs of retiree health care from the costs of active employees, and many do not know the precise number of insureds including dependents. Medical inflation is unpredictable due to changes in medical technology and the observed spiraling increases in health costs. The impact of changing utilization patterns is also unknown. The number and duration of hospitalizations are falling, with corresponding increases in utilization of outpatient services. These services are covered less by Medicare and in greater proportion by individuals or their private insurance. Finally, there is great uncertainty about how far Medicare will go in restricting services and in cost-shifting to individuals and employers. 6. Mergers and Acquisitions. The last decade in business has been an era of mergers, acquisitions, and divestitures. Since only 2 percent of the firms offering PRHBs prefund the benefit, most of these large transactions involve companies which do not prefund. Until recent years, when the numbers of retirees, medical utilization, and inflation have all increased, the costs have been generally masked and viewed as insignificant. Although paying the expense annually would be reflected in current earnings, the real liability over time is unknown. The FASB's interest in the accounting regulations reflects the fact that investors and corporations would choose to know the real value of a company in an era of takeovers. Whether the prospective takeover is friendly or hostile, PRHBs pose difficult problems: -What is the company's real value if the retirees receive PRHBs? - How do the two corporations arrange the continuity of PRHBs? -Are the current retirees of the sold subsidiary the responsibility of the former or new parent corporation? - If the retirees are transferred in the transaction and the new firm has a different level of benefits, which plan prevails? 7. Changing Employment Patterns: Three employment trends will affect PRHBs. The first is that jobs are growing in the service and nonindustrial sectors, and moving away from the industrial and manufacturing sectors. Service, sales, and the nonindustrial sectors tradi-


835

tionally have had lower pension coverage and also have reflected a lower prevalence of PRHBs. From 1979 to 1983, defined pensionbenefit coverage, which PRHBs generally follow, dropped 4 percent, probably due to jobs lost in the 1980-1982 recession.107 The second is that many American workers will have to change employers to follow new jobs. This suggests that many workers will lose rights to retirement medical benefits with an employer, perhaps repeatedly, and that they may move to a position where they will be less likely to find the benefit provided. Addressing this problem raises the issue of portability. The third trend is the growing number of women in the labor force. Women in the 1970s accounted for two-thirds of the growth in the labor force, and this imbalance is predicted to continue through the 1990s.'08 Women may become entitled to PRHBs increasingly as retirees and less as spouses. Women have higher life expectancies than men, and may incur over time higher demand and different needs for medical utilization. This includes a greater need for long-term care (although long-term care is not covered currently by PRHBs). 8. Impacts on States. Beyond the direct liability of states as providers of PRHBs, the extent to which PRHBs might impact state-level finances is unknown. In the industrial states with heavy concentrations of smokestack industries, the benefit contributes disproportionately to costs in industries struggling to compete with foreign manufacturers. To the extent that PRHBs contribute to increasing overhead, closing plants, or bankrupting companies, the state will incur some of the difference for retirees with lost medical coverage or employees without jobs and health insurance. It will be felt in Medicaid, uncompensated care, unemployment expense, and lost jobs. To the extent that increased costs of the benefit, or changes in tax, regulatory, or funding policies make the benefit prohibitively expensive, firms providing PRHBs, which are only marginally secure financially, could be hurt. Regardless of their industrial composition, states with high levels of retirees, now or in the future, would confront the problem of needed supplemental medical financing if PRHB coverage constricts. Should PRHBs develop as a cash benefit they could relate to Medicaid as a cash asset with possible use for long-term care.

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APPENDIX B SOURCES OF POLICY INFORMATION AND RESEARCH

This appendix describes the sources and limitations of the information and research on PRHBs. As a developing issue, the available research on a direct basis is limited. The debate to date has been shaped largely by knowledgeable insiders who are working with the emerging dynamics. Much of what is written is reportorial and limited to the periodicals of the benefits industry. However, the available literature and research does fall into five categories: -Practitioner-based literature and research - Policy-based research - Congressional testimony - Legal research - Survey research. 1. Practitioner-based Literature and Research. Three pieces from within the benefits industry contribute descriptively and substantively to the policy process. These are by Anna Rappaport (MercerMeidinger, 1985), Martin Zigler (Tillinghast, 1985), and the very indepth analyses of financial and accounting issues from the Financial Executive Research Foundation (FERF, 1984) conducted collaboratively by Hewitt Associates and Coopers and Lybrand. 2. Policy-based Research. Policy-oriented research has several sources currently, which include the federal government and private research organizations. A Treasury Department study required by DEFRA (1984) is pending. A Department of Labor study, requested by congressional committee and released in May 1986, addresses issues of current liability, prefunding, and the effect of change in the marginal tax rate. On the private side, additional work is anticipated shortly from the Employee Benefits Research Institute. These efforts have already contributed data to the subsequent political literature which resulted from testimony before congressional committees (see item 3). Of this formal testimony, the strongest technical and policy content comes from Chollet (1984) and Chollet and Friedland (1985). The latter was published subsequently by the Employee Benefits Research Institute. Interim research by Labor and the Treasury was offered by Treasury officials. Other research is being conducted by the Financial Accounting Standards Board which has a quasi-regulatory, independent role. This


837

research into the accounting issues, consisting of interim products within longer-term efforts, is policy relevant because of its focus and, like Treasury, its actions will continue to have a profound influence on development of the issue. 3. Congressional Testimony. Congressional testimony has elicited actuarial, survey, and anecdotal research and estimates from the benefits industry, corporations, researchers (EBRI), and Treasury officials. Recognizing to this point the absence of formal policy and health services research, much of the informal literature is soft, incomplete methodologically, and reflective of political perspective. However, it remains valuable to the policy process. This literature was offered in two separate hearings; in the interim between, the knowledge base and scope grew considerably. The hearings were held by (1) the U.S. House of Representatives Committee on Education and Labor, Labor/ Management Subcommittee, September 26, 1984; and (2) the U.S. Senate Committee on Finance, Subcommittee on Savings, Pensions and Investment Policy, September 9, 1985. 4. Legal Research. The legal issues surrounding this material have been synthesized in a paper by Leonard Page, Associate General Counsel, United Auto Workers ("Legal Problems with Cost-Shifting Programs and Retiree Insurance," presented at the Western Gerontological Society, Denver, Colorado, March 18, 1985). This document is an excellent distillation of critical rulings on PRHBs and related issues to that date. Other work by Page and D. Sherrick documents decisions relating to plant closings, continuation of benefits through strikes, and so on ("The Law of Plant Closings," unpublished, Legal Department, UAW, June 1984). A legal history is provided by Chollet and Friedland (EBRI, 1985). 5. Survey Research. The data available to measure the prevalence and depth of PRHBs come from survey research. There are numerous surveys into the depth and extent of PRHBs. Most of these were performed by the benefits industry, but a number have been done by other groups. For this analysis, I combined the surveys in order to create a larger, comprehensive sample, and from this derived an elementary profile of characteristics prevalent in firms offering PRHBs. In turn, I applied these rates to federal data on the national work force to project the depth of PRHBs and also to determine issues that might arise out of the loss or conversion of the benefit. Appendix C describes the surveys, and the problems and limitations of their use.

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APPENDIX C REVIEW OF SURVEYS AVAILABLE AND AUTHOR'S METHODOLOGY

The limitations of the surveys and the author's analysis are described in this appendix. Due to the limitations of the surveys used, the data are highly rudimentary. The purpose of the pooled analysis was to provide preliminary and broad cuts on the characteristics, distribution, and prevalence of PRHBs in order to explore the policy implications of PRHBs. The data will not support a deeper analysis of the characteristics of the plans, the provider firms, or the beneficiaries.

Available Surveys The methodological approach and structure of the surveys vary. Table 7 presents each of the surveys critically used. In summary, those surveys done by benefits consulting firms have several problems:

Table 7: Surveys

Survey and Region Mercer-Meidinger[4] 1. Chicago 2. CA/West Coast 3. Minnesota 4. New England FERF/Hewitt/C&L FERF/Hewitt/C&L*

Date

N

Size of Sampled Firms

Contributing to Analysis of PRHBs on Factors of ContriPlan IndusSize Type butions try

43 8-84 M-Lt S-L 248 X 3-84 X X S-M 7-83 225 X X S-VL 356 2-84 X X 710 M-VL 11-83 M-VL 11-83 166 M-VL 2-85 762 Hewitt M-VL 2-85 250 Hewitt/Core sample M-L 1984 1115 The Wyatt Company 1984 269 M-L Wyatt/Core sample L-VL 250 1984 Towers, Perrin X M-VL 633 1-85 C. Spencer/EBPR X X L-VL 2-85 133 Washington BGH L-VL 8-84 285 Nat. Assoc. Accts. X S-L n.a. 1985 Tillinghast: comp. *Contributed only to spouse coverage. tKey: Small: 50-500; Medium: 501-1,000; Large: 1,001-10,000; 10,000 +.

X X X X X X X X X

X X X X X X X X

X

X

X

X

Very Large:


839

1. The sampling of firms reflects (a) the client list, either within the region or nationally, adding (b) those firms which were potential clients, and perhaps with which there had been commercial contact. The samples were not randomized. 2. The data were not collected uniformly, even within the multiple surveys done by Mercer-Meidinger. The data sought were defined in many cases by marketing goals and not problem definition. For instance, the question of the number of individuals under collective bargaining-both retired and not retired-eligible for the PRHBs coverage, was routinely split on "0, < 100, 101-1000, and 1001 + ." Nonuniformity of response classification required that I manipulate responses by definitional categories. In some cases, the open-ended categories required exclusion of entire surveys from the pooled analyses of specific questions. 3. Reporting of the survey results was equally nonuniform. In many cases, the results were reported only in summary form, similarly limiting the usefulness of the information to broad generalizations of prevalence. The Wyatt Company and Hewitt Associates conduct repetitive national surveys on benefits practices that include in-depth analyses of multiple areas, of which retirement health is one. These surveys provide the basis for longitudinal analyses, with each maintaining a core group of approximately 260 firms for which trends can be tracked. Each survey has a large sample, and although not random, each sample is representative of medium to large firms. The data are highly useful for indications of prevalence, independently and on a pooled basis. The Spencer survey is a significant, disinterested research effort by a commercial benefits publication (the Employee Benefit Plan Review). The Washington Business Group on Health (WBGH) surveyed its own membership, with a small number of nonmember firms. The sample could be biased by virtue of the fact that the membership constitutes Fortune 500 firms concerned with managing health costs, and that it sponsors the Business Group for that reason. The WBGH results, however, are comparable to the other findings among the nation's largest firms, and in the pooled analyses the significance of this concern is small.

840


The author analyzed directly the full WBGH data set relating to the synthesis issues. The data set provided an excellent base from which to extract and consider questions of costs per retiree and eligibility criteria, issues not well explicated in any other available survey data. The survey by the National Association of Accountants, the first on PRHB practices, addressed preliminary areas of interest to FASB. It was useful in assessing the perception of chief financial officers of their corporate preparedness (e.g., data, magnitude) for potential changes.

Comments and Limitations on the Analysis: Relating to Prevalence 1. Reliability of Prevalence Rates. The reliability of the data on prevalence rates was supported by the comparison, after reaggregation along more general size categories (middle-ranged and above), with other surveys, indicating comparable results. This includes a 1985 report by Tillinghast which was not incorporated into the analysis. It confirmed prevalence rates for comparable categories above 500 employees. The prevalence rates for less than 500 were lower than those obtained in the meta-analysis. This probably reflects the sample's inclusion of a substantial number of nonprofit organizations, which have a lower prevalence rate (in part attributable to indifference to tax incentives). 19 2. The Effect of Multiple Surveys of Larger Corporations. Several national surveys are used in the meta-analysis. Some number of major corporations were probably surveyed more than once. While this could be a problem in terms of double counts, it is not significant for three reasons: -There was less duplication of national surveys in the analyses of size and industries, as shown on Table 7. The four MercerMeidinger surveys were regional, and tended to represent more medium and relatively smaller firms than the national surveys, which were targeted to larger corporations. -After stratifying the results by size, and with the understanding that the duplication would necessarily be in the larger corporations, the results of the analysis were compared with the results of the individual surveys for comparably sized corporations. These prevalence rates for the largest companies are widely known in the literature. The rates were comparable with those


841

already established. Stratifying eliminated the effects of duplicative surveys. -The probability of duplication of firms below the 1000 + employees level is small. This is because of (1) the exclusive regional surveys of Mercer-Meidinger and (2) the need to pool multiple surveys to produce a representative sample in the smaller-size classes.

Comments and Limitations on the Analysis: Relating to Employment Projections 1. Definitional Problem with Employer "Establishments." This analysis required that prevalence rates for the offering of PRHBs be applied to the national employment structure. The best available data on which to base these projections were from the U.S. Department of Commerce, County Business Patterns, 1982, Figure 2. The problem: Figure 5 summarizes the number of establishments by employer size class. The number of establishments, however, corresponds to the number of business locations. A large corporation can have multiple "establishments" covering a variety of size classes, although many have multiple sites of over 1,000 employees. However, there is no available alternative national distribution of the work force that accurately reflects individual employers by total work force. Therefore, this analysis uses these data, equating establishments with firms for the purpose of developing broad estimates of the dimensions of this issue. (This does not relate to the estimation of prevalence and distribution characteristics of PRHBs). The effects: This inaccuracy will tend to produce underestimates of the numbers of employees working in firms which provide PRHBs. This is because the prevalence data developed for firms of the various size classes will be applied to the numbers of mid-range and smaller "establishments," while in reality these "establishments" would be subject to the greater prevalences associated with larger firms. Similarly, firms of all sizes (over 50 employees) providing PRHBs may have locations that have fewer than 50 employees -locations that have been omitted from the calculations entirely.

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APPENDIX D INDUSTRY GROUPINGS

Comm unications/Utilities and Transportations Communications Utilities Transportation

Financial Banking Finance Insurance Trusts

Industrials Conglomerate Chemical Electronics Food:

Industrials (cont.) Distribution Manufacturing Processing Gas Lumber Manufacturing: Heavy manufacturing Light manufacturing Metals: Metals Mining Milling Smelting Oil Paper: Pulp

Sales Retail Wholesale

Services Accounting Consulting Construction Education Engineering Government Legal Medical services Miscellaneous services

ACKNOWLEDGMENTS The work on this project was supported by the Association for Health Services Research and the Pew Health Policy Program at Boston University's Health Policy Institute, with funding from the Pew Memorial Trust. Additionally, I want to thank the people who contributed their time and efforts to this synthesis. In particular, I am grateful to Deborah Chollet, Stephen Crane, Elizabeth Dichter, Alice Hersh, Jack Needleman, Mark Pauly, Susan Velleman, and Diana Chapman Walsh for their critical readings and invaluable help.

NOTES 1. U.S. Department of Labor, Employer-Sponsored Retiree Health Insurance, Pension and Welfare Benefits Administration (PWBA)(May 1986), p. 60. Of the 6.3 million persons over the age of 65 in 1983, 4.3 million were private sector retirees and dependents, and 2 million were public retirees and dependents (federal, state, and local). 2. The actual proportion of elderly covered by PRHBs in the population (not necessarily the number) may already be declining. Deborah J. Chollet, Employee Benefit Research Institute (EBRI), bases this on the Department of Labor's Level of Benefits Survey (May 1986). This may


3. 4.

5.

6. 7. 8. 9.

10. 11. 12. 13.

14. 15.

16. 17. 18. 19. 20.

843

be due to changing job distributions across industries, or to the current uncertainty over the issue and the subsequent decline in promises of PRHBs. Not reflected in this observation are the early retirees, not yet 65, whose numbers surged during the 1980-1982 recession. Department of Labor, supra note 1, at p. 1. Kosterlitz, Julie, Disaster stories may spur Congress to protect health benefits for retirees. NationalJournal 1985(30):1743-46. The Office of Pensions and Welfare Benefits Programs revised this base estimate to $98 million for 1983 (Department of Labor, supra note 1, at p. 1). Boylan, Charles, ITT (January 1986). See also, Kuntz, Esther Fritz, Post-retirement welfare benefits: Squeeze play on CFOs. CFO 1(10):54ff (November 1985). Survey of postretirement health benefit plans. NewsLetter (Martin E. Segal Company) 29(3):1 (Autumn 1985). Chollet, D. J. (EBRI), work in progress (May 1986). Survey on Post-Retirement Health Benefits conducted by the Washington Business Group on Health (WBGH), December 1984. Analysis of this survey was provided by the author. Parnes, Herbert S., et al., Retirement Among American Men. Lexington, MA: Lexington Books (1985), p. 220. See also, Palmore, Eardman B., Gerda G. Fillenbaum, and Linda K. George, Consequences of retirement. Journal of Gerontology 39(1): 109-16 (January 1984). Rappaport, Anna M., Understanding the Cost of Post-Retirement Medical Benefits. William M. Mercer-Meidinger, Inc. (1985), pp. 1-2. Zigler, Martin J., Post-Retirement Health Care Benefits. Tillinghast, Nelson and Warren, Inc. (1985), p. 11. Also, Rappaport, supra note 10, at p. 21. Zigler, supra note 11, at p. 11. Chollet, Deborah J., and Robert B. Friedland, Employer-Paid Retiree Health Insurance: History and Prospects for Growth. Employee Benefits Research Institute, Issue Brief #47 (October 1985), p. 4. This was originally presented as testimony to the U.S. Senate Committee on Finance, Subcommittee on Savings, Pensions and Investment Policy, September 9, 1985, before being released officially by EBRI where the authors are based. Ibid., p. 4. Developed from eight surveys as indicated in Appendix C, Table 7. Combined analysis of N = 2,575. The 1984 Wyatt full sample was used, eliminating the core sample. WBGH survey analysis, supra note 8. Rappaport, supra note 10, at p. 29. Zigler, supra note 11, at p. 12: The Wyatt Co.; Data provided from the 1985 Wyatt Actuarial Survey, "Table 12. Analysis of Retirement Age and Service" (890 pension plans with 1,000 or more participants). WBGH survey analysis: It was not clear that the 40 percent so responding did not already perceive "retirees" as "pensioners," and therefore obscured the result. (supra note 8). Towers Perrin Forster & Crosby (TPFC) Survey, "Eligibility Table," 1984. (Sample N = 250: 59 percent industrial, 39 percent nonindustrial, 2 percent nonprofit).

844


21. In coming years, the retention of older workers may become more desirable, given changing demographics. This may already be the case in industries which have expensive training and development costs, such as aerospace. In such cases, it is likely that retention policies would compete simultaneously with early-retirement incentives such as PRHBs, if they are still offered. See Stein, Jane, Facing retiree health costs. Business and Health 3(7):49-51 Uune 1986). 22. Surveys used included Mercer-Meidinger surveys No. 1, 2, 3, and 4, Spencer, WBGH, and Hewitt (FERF 166 and 710). Combined analysis of N 1,901. See Appendix C. 23. Surveys used included Mercer-Meidinger survey No. 1, 2, 3, and 4, WBGH, Wyatt, and Hewitt. Combined analysis of N = 1,226. See Appendix C. 24. Surveys used included Mercer-Meidinger surveys No. 1, 2, 3, and 4, WBGH, Wyatt, and Hewitt. Combined analysis of N = 907. See Appendix C. 25. Calculated from data provided by Hewitt Associates, 1984-1985 Survey of 762 firms. The 1984-1985 survey results were not available for the combined analysis. 26. "Full cost" is technically less than actual full cost, because the average utilization of health services by retirees is generally higher than that of active employees, but is not calculated separately. 27. Department of Labor, supra note 1, at p. 1. 28. Chollet and Friedland, supra note 13, at pp. 2-3. 29. Department of Labor, supra note 1, at p. 1. In 1983, this figure was $3.9 billion. 30. Coopers & Lybrand, and Hewitt Associates, Non-Pension Benefits for Retired Employees: Study of Benfits and Accounting Practices. Morristown, NJ: The Financial Executives Research Foundation (FERF) (1985), p. 3; also, Zigler, supra note 11, at p. 2. These ranges were confirmed in discussions with actuarial and benefits consultants from the Boston office of Mercer-Meidinger (S. J. Velleman, M. Regan). 31. Rappaport, supra note 10, at p. 7. 32. WBGH survey analysis. 33. Zigler, supra note 11, at pp. 13-14. 34. Cafferata, Gail Lee, Private health insurance of the Medicare population and the Baucus legislation. Medical Care 23(9):1087 (September 1985). 35. Ibid. 36. Estimates of the average out-of-pocket expense per capita range from 20 percent (Cafferata, supra note 34) to 25.2 percent (Hagen, Ron, Medigap insurance: Pitfalls and progress. Business and Health 3(5):25 [April 1986]). 37. Zigler, supra note 11, at pp. 13-14. Zigler proceeded to use developed estimates for a 1984 Medicare share of total personal expense of 60 percent and an annual average total expense of $4,800, based on claims sampling and including no long-term care expenses. To be cautious, the author substituted final numbers for 1984 from Cafferata. See note 38. 38. Cafferata, supra note 37, p. 1087. The 1977 percentage (44.8 percent) covered by Medicare was applied to Ziglees 1978 total cost. The 1981


39. 40.

41.

42. 43. 44. 45. 46.

47.

48. 49. 50.

51.

52. 53.

845

percentage (47.1 percent) interpolated the 1977 and 1984 percentages, and was applied to Zigler's 1981 total cost. Refer to Appendix C, under "Relating to Employment Projections," for explanatory note on use of U.S. Department of Commerce, County Business Patterns, 1982, Figure 2. Surveys used included Mercer-Meidinger surveys No. 3 and 4, WBGH, and Charles Spencer. Combined analysis of N = 1,347. See Appendix C. Application of prevalence rates (Figure 6) to labor force distributions (Figure 5). In this application, the definitional problem of "establishment" (see supra note 39) will mean that firms of higher prevalences for offering PRHBs will have subordinate "establishments" in lower size categories, resulting in underestimates of the total percentage or number of the work force in firms providing the benefit. Ross, Dennis, Treasury Department, testimony before the U.S. House of Representatives, Committee on Education and Labor, Labor/ Management Subcommittee, September 26, 1984. Application of rates from combined analysis (Figure 6) to Figure 5. The five surveys used included Mercer-Meidinger surveys No. 2, 3, and 4, WBGH, and Hewitt (710). Combined analysis of N = 1,672. See Appendix C. WBGH survey analysis, supra note 8. This conclusion again applies prevalence rates to "establishments" and not "firms." It is possible that, in this case, the number of covered employees in the largest category are undercounted because large companies have "establishment" sites of under 1,000 employees. See Appendix C, under "Relating to Employment Projections." Portability and the related issue of vesting are discussed later. Limited portability for PRHBs exists under some multiemployer plans, predominantly in the organized trades and some union welfare funds. For example, the United Mine Workers (UMW) administers pension and welfare funds supported by employers. Zigler, supra note 11, pp. 25ff. Ibid., p. 36. Assumptions for actuarial valuations: Interest, 7 percent; mortality from the PBGC 1984 Tables; annual claims cost of $1,200 for age 55, and $1,492 for age 65 in 1985. Health care inflation is projected at 14 percent in Year 1 (1985-1986), reducing at 2 percent per year to 6 percent in Year 5 (1989-1990), and remaining at 6 percent for subsequent years. The utilization accelerates with age at 2.2 percent per year, and the costshifting factor for Medicare is .3 percent per year. Source: Zigler, supra note 1 1. Statement of Financial Accounting Standards No. 81, Disclosure of Post-Retirement Health Care and Life Insurance Benefits. Financial Accounting Standards Board, Stamford, Connecticut (November 1984). FASB Memorandum: Working document summarizing review (September 1985). The four included two steel companies, a national bank, and a manufacturer of construction equipment.

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54. Department of Labor, supra note 1, pp. 1-2. This assumes an estimate of current liability of $98 billion, amortized over 20 years. 55. Chollet and Friedland, supra note 13, at p. 5. 56. Zigler, supra note 11, p. 22: source of example A. 57. Rappaport, supra note 10, p. 4: source of example B. 58. Adapted from Table 3. Calculations assumed 244 workdays per year. The range in additional hourly costs reflects workweeks of 35 and 40 hours. 59. Kelly, Robert, Wyatt Company, Boston, in conversation. 60. The Financial Executives Research Foundation study (supra note 30) provides an excellent analysis of the accounting issues for postretirement benefits. 61. Reddington, Robert F., Financing Retiree Health Coverage, AT&T testimony on behalf of ERISA Industry Committee (ERIC) presented to hearing of Senate Finance Committee, Subcommittee on Savings, Pensions and Investment Policy, September 9, 1985. 62. Ibid. 63. Zigler, supra note 11, at p. 24. 64. Reasons for the underutilization of the 401(h) trust for prefunding of PRHBs are the 401(h) trust's subordinate position within the pension plan, concern that the funding limits may not be adequate, and the current legislative and regulatory uncertainty. 65. Zigler, supra note 11, at p. 24. 66. Hagen, supra note 36, at pp. 25ff. 67. I thank Mark Pauly for making this argument in critique of an earlier draft. 68. Department of Labor, supra note 1, at p. 18. 69. Ibid., p. 10, citing: Cafferata, Gail Lee, and Mark R. Meiners, Public and Private Insurance and the Medicare Population's Out-of-Pocket Expenditures: Does Medigap Make a Difference?, Paper presented to the 1984 annual meeting of the American Public Health Association, Anaheim, California, October 1984, Table 1. 70. Congressional Budget Office, An Analysis of Selected Deficit Reduction Options Affecting the Elderly and Disabled, "Staff Working Paper, March 1985, p. 61. 71. Hagen, supra note 36, provides a discussion of types and extent of Medigap coverage. 72. Under the new tax reform provisions, the new corporate rate of 34 percent effectively means that each corporate health benefits dollar spent will cost the employer $0.66 instead of $0.54. 73. Ross, Dennis, Treasury Department, testimony before the Senate Finance Committee, Subcommittee on Savings, Pensions and Investment Policy, September 9, 1985, p. 6. While there might be federal interest in portability, employers would likely not be supportive of the added expense unless it were either contributory or highly tax-favorable. 74. Ibid., p. 5. 75. Ibid., p. 6. 76. Ibid. 77. U.S. Senate Special Committee on Aging, Funding Post-Retirement Health Benefits, Staff Report, July 1985, p. 10.


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78. Hansen v. White Farms (6th Cir. May 1986). See Appendix A.4. 79. Two cash benefit alternatives include: (1) the defined contribution under which the employer contributes to individual accounts which will subsequently provide PRHBs; or (2) the defined dollar benefit under which the employer will, as in a defined pension benefit, provide specified annual dollar amounts for the purchase of health insurance or services. Ross, supra note 73, at p. 5. 81. Senate Special Committee on Aging, supra note 77, at p. 10. 82. Chollet and Friedland, supra note 13, at p. 11. 83. A model for PRHBs on a portable basis exists in multiemployer plans, but this is generally restricted to job mobility within certain fields, e.g., construction and trades. 84. Grubbs, Donald S., Vesting and a Federal Portable Pension Systemn, testimony presented to Select Committee on Aging, U.S. House of Representatives, June 14, 1983. (Provided by George B. Buck Consulting Actuaries, Inc.). 85. Group insurance benefits paid to retirees over 65 in 1977 averaged 90 percent of the premiums, while individual supplemental policies paid out 50 percent of the premiums as benefits. (Department of Labor, supra note 1, at p. 18). 86. Hagen, supra note 36, at p. 25. Hagen suggests over 70 + percent in 1986 have supplemental insurance. The Health Insurance Association of American (HIAA) stated three in five had such coverage in 1983. (Source Book ofHealth Insurance Data 1984-1985, Health Insurance Association of America, Washington, DC, p. 5). It is unclear whether or not either estimate may include those over 65 with employer-provided PRHBs. 87. Chollet and Friedland, supra note 13, at p. 1. 88. Ibid., p. 2. 89. Ibid. 90. Sapolsky, Harvey M., and Stuart M. Altman (eds.). Federal Health Programs: An Overview. In Federal Health Programs. Lexington, MA: Lexington Books, 1981, pp. ix-xix. 91. Chollet and Friedland, supra note 13, at p. 7. 92. Ross, Dennis, Treasury Department, testimony before the U.S. House of Representatives Committee on Education and Labor, Labor/ Management Subcommittee, September 26, 1984. 93. Department of Labor, supra note 1, at p. 60. 94. Chollet, D. J. (EBRI), work in progress (May 1986). 95. Feinstein, Patrice H., Marian Gornick, and Jay N. Greenberg, LongTerm Care Financing and Delivery Systens, Conference Proceedings, Health Care Financing Administration, Pub. No. 03174 (June 1984), Table 1, p. 7. 96. Kosterlitz, supra note 4. 97. Chollet and Friedland, supra note 13, at p. 8. 98. These are entirely consistent with older rulings. Additionally, there are many related cases on life insurance benefits and on benefits survivability following plant closings. See note 99. 99. Page, Leonard R., Legal Problems with Cost-Shifting Programs and Retiree Insurance, presented at the Western Gerontological Society, Denver, Colorado, March 18, 1985, p. 6. Citation: Eardman v. Bethle-

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100.

101. 102. 103.

104. 105. 106. 107. 108. 109.

HSR: Health Services Research 21:6 (February 1987) hem Steel Corp., No. 84-274E, slip op. (W. D. N. Y September 17, 1984). Supra note 99, at p. 6(?). Citation: Hansen v. White Farm Equipment Co., No. C82-3209 (N. D. Ohio September 20, 1984). ERISA is described briefly in the section titled, "Why Did PRHBs Develop?" in the main text. Chollet and Friedland, supra note 13, at p. 9. [Case citations (A through E) follow note] In 1960, it was ruled that a retirement program may not be withdrawn after the retiree had complied with the entitling conditions: (A). In 1971, the Supreme Court determined that retirees were not employees, and therefore were not entitled to representation by the union, and that benefits for current retirees were not strikeable; however, once vested, retirees were protected by contract principles and no retirement right could be modified without the retiree's agreement: (B). In independent rulings, it was determined that life insurance benefits provided in a labor agreement survive the agreement's expiration, vesting upon retirement (1967), and that vested life insurance benefits can only be divested through sufficient cause by the retiree's actions (1977): (C,D). Several more recent cases have not only affirmed these decisions, but clearly have established that life and health insurance benefits survive plant closings and contract expirations: (E). Citations A through E: (A) Chollet and Friedland, supra note 13, at p. 9. Citation: Cantor v. Berkshire Life Insurance Co., 171 Ohio St. 405, 171 N.E. 2d 518 (1960); (B) Page, supra note 99, at p. 3. Citation: Allied Chemical & Alkali Workers of America v. Pittsburgh Plate Glass Co., 404 U.S. 157, 92 S.Ct. 383, 30 L. Ed. 2d 341 (1971); (C) Page, supra note 99, at p. 4. Citation: Upholsterers' Intl. Union v. American Pad and Textile Co., 372 F.2d 427 (6th Cir. 1967); (D) Page, supra note 99, at p. 4. Citation: In the Matter of Erie Lackawanna Railway v. Yard-Man Inc., 716 F.2d. 1476 (6th Cir. 1983); UAW v. Cadillac Malleable Iron, 728 F.2d. 807 (6th Cir. 1984). Towers, Perrin, Forster & Crosby, White Farm Welfare Vesting Case Reversed on Appeal, Memorandum/Update, May 16, 1986. Lee, Frederick, Right to Amend Retiree Benefits Appealed to Circuit Court Level, Advisory bulletin to membership of the Washington Business Group on Health, 1985. Ibid., p. 3. Chollet and Friedland, supra note 13, at p. 5. Harrington, Marguerite, The Other Deficit. Hartford, CT: The Hartford Life Insurance Company, 1985, p. 5. Tillinghast, Post-Retirement Health Benefits: Survey Results, 1985. This study was conducted by the Midwest Region office of Tillinghast, Nelson and Warren, Inc.