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Retirement Planning > Retirement Investing

Federal Judge: IBM Cash-Balance Pension Plan Violates ERISA

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NU Online News Service, Aug. 1, 2003, 7:03 p.m. EDT – A federal judge in East St. Louis, Ill., says the pension credit formula and cash balance formula that IBM Corp., Armonk, N.Y., used to reform its defined benefit pension plan in 1995 and 1999 have discriminated against older employees.

U.S. District Judge G. Patrick Murphy issued an order that rejected all of the motions IBM submitted in an effort to defend itself against a class-action suit filed on behalf of affected employees.

Murphy granted the requests of the plaintiffs in the case, Kathi Cooper et al. vs. The IBM Personal Pension Plan et al., for a summary judgment declaring that IBM’s cash balance formula has discriminated against older employees by violating Sections 204(b)(1)(G) and 204(b)(1)(H) of the Employee Retirement Income Security Act.

Subsection (G) prohibits employers from decreasing the amount of an employee’s accrued benefit on account of the employee’s age, and Subsection (H) prohibits decreasing the rate of an employee’s benefit accrual on account of the employee’s age.

The judge also ruled that “there is a triable issue of fact” regarding the plaintiffs claims that IBM may have partially terminated its defined benefit pension plan when it converted the plan into a cash-balance plan in 1999.

The judge has asked the plaintiffs and defendants to give him advice about what kind of relief the IBM plan members should get.

IBM reacted to the ruling by issuing a statement announcing that it will appeal the decision and blasting Murphy’s reasoning.

“IBM disagrees with the district court’s ruling and believes that it will prevail on appeal,” the company says. “IBM’s pension plan does not discriminate on the basis of age.”

IBM revamped its traditional defined benefit pension plan in 1995 by using a “pension credit formula” to create a pension equity plan.

The pension equity plan awarded employees “base points,” which were determined by each employee’s age in the year worked. Employees also earned extra points based on whether their five-year average earnings were above the Social Security compensation level. IBM then used a five-step formula to determine monthly retirement benefits. The formula included a “benefit conversion factor” that increased with an employee’s age, according to court documents.

In 1999, IBM switched to a cash-balance formula.

Every month, the pension account of each member of the cash-balance plan accumulates “pay credits” at a rate of 5% of the employee’s salary and “interest credits” at a rate 1 percentage point higher than the rate on 1-year Treasury securities, according to court documents.

The plaintiffs complain that the pension credit formula discriminated against older employees because it explicitly depended on an employee’s age.

The cash-balance formula is also discriminatory, because older employees have less time until normal retirement age to accumulate interest credits, the plaintiffs argue. The plaintiffs note that, because older employees have less time to accumulate interest credits, they end up with smaller annual pension payouts at retirement.

IBM, other employers and benefits consultants argue that spending much more on pension benefits for older employees to compensate for the “time value of money” that younger employees enjoy is unfair to the younger employees.

The judge writes in a section of his memorandum dealing with the pension credit formula that the actuarial premise of the time value of money cannot justify allowing a 25-year-old plan member to accrue defined benefit pension benefits faster than a 64-year-old plan member does.

“From an economists perspective, Defendants have a good argument,” the judge writes. “A dollar today is worth more than promise of a dollar a year from now.”

But ERISA Section 204(b)(1)(H) requires that a young pension plan member and an older plan member who are paid the same amount and have the same number of years of service end up with the same amount of benefits at age 65, the judge writes.

About the cash-balance plan, the judge writes that “this Court will not perform legal legederdemain” to save IBM’s plan.

A cash-balance formula might or might not be a good thing, but it does not comply with ERISA Section 204(b)(1)(H), the judge writes.

The judge also questions the wisdom of treating IBM’s cash-balance plan as a defined benefit plan.

“The 1999 Plan looks like a defined contribution plan trying to pass for a defined benefit plan,” the judge writes. “It doesn’t make the cut.”

IBM counters that keeping pension sponsors from indexing plans to take the time value of money into account would ruin the U.S. pension system.

Two other district courts have upheld cash-balance plans, and government statistics show that 25% of all participants in defined benefit pension plans participate in cash-balance plans, IBM says.

“The court’s reasoning also would invalidate pension equity plans, contributory defined benefit plans, indexed career pay plans and variable annuity plans,” IBM says. “Some of these plans have been in existence since the 1930s.”

The American Benefits Council, Washington, has condemned the ruling.

“Conversions to cash balance plans are currently the one good thing going on in the defined benefit pension plan system because they demonstrate a commitment by employers to remain within the defined benefit world,” James Klein, the council’s president, says in a statement. “Other companies are exiting the system altogether. A decision like this sends one more negative signal to employers that ?no good deed goes unpunished,’ since it penalizes employers trying to provide their workers with a pension that is funded by the employer and guaranteed by the government, as opposed to requiring workers to rely solely on employee-funded retirement alternatives.”

The Illinois court has posted a link to Murphy’s opinion at


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