Winter 2007

Baby Boomers' Retirement: The Impact on Public Employee Pensions and Benefits

By Mary Willett, Willett Consulting
©2006 International Foundation of Employee Benefit Plans

Many baby boomers, those born from 1946 through 1964, see retirement as a new life stage, which may include staying in the workplace longer. As a result, employers are reexamining their employment practices, hiring processes and benefit structures to meet the needs of older employees as well as address labor shortages and other organizational needs. State and local governments will feel the impact of an aging employee population before private sector employers.

Baby boomers are entering retirement, but not like their parents did. This generation, which is made up of Americans born between 1946 and 1964, is reinventing this phase of their lives to incorporate work, often in modified or reduced form, volunteerism and leisure activities.

Employers are facing new challenges from this aging workforce and their new approach to retirement. With 77 million Americans reaching age 55 between now and 2020, employers are reexamining employment policies and benefit structures to meet the needs of the older employee population, as well as to address current and future labor shortages and their troubled budget situations.

Baby Boomers-Who Are They?
Baby boomers represent 27% of today's population. They are better educated- About 90% have a high school diploma and 30% have a bachelor's degree or higher. They have a higher divorce rate and a greater number who have never married than any generation before them.1

By 2030, baby boomers will be between ages 66 and 84 and make up about 20% of the U.S. population. They can expect to live longer than any previous generation. Of the two-plus million boomers who are turning age 60 this year, men can expect to live an average of 22 more years and women, 28 years.

Employers in certain states are feeling more of the impact of this aging workforce. Over 50% of baby boomers live in nine states (as of 2000): California, Texas, New York, Florida, Pennsylvania, Illinois, Ohio, Michigan and New Jersey. They also represent more than 30% of the total population in 17 states (as of 2002): Alaska, New Hampshire, Vermont, Maine, Maryland, Colorado, Connecticut, Virginia, Wyoming, Washington, New Jersey, Montana, Massachusetts, Minnesota, Oregon, West Virginia and Wisconsin.2

Nontraditional Retirement Attitudes
As a result of increased longevity, baby boomers expect they will be healthier and lead more active lifestyles in their later years. This is generating a new approach to retirement that is more likely to include some form of continued work, either for pay or volunteering, well beyond a traditional retirement age.

New attitudes about retiring are creating an entirely new life stage. In the past, lifetimes have been viewed as having three separate phases: (1) education-when life is focused on learning and building a career; (2) work and family-when career development and family responsibilities are the top priority; and then finally (3) retirement-which would normally begin with an immediate and abrupt end to work, followed by leisure activities and enjoying one's family.

Today, new attitudes about retirement are creating a new life stage between work and family and retirement, sometimes referred to as the Third Age.

This new stage is generally considered a time when people try new experiences, or modify their current lifestyle to remain challenged, engaged and fulfilled. They aren't ready for a full retirement, but they also don't want to continue the same daily work routine they've had throughout their career.

For some, this may include going back to school, trying a new career path or perhaps starting a business. Others, who want to remain in the same or similar career track, prefer a modified schedule (e.g., shorter hours or workweeks) or a position with reduced mental or physical stress.

According to The 2003 AARP Working in Retirement Study, about seven in ten employees state that they intend to work past a traditional retirement age, or never retire. Over half (53%) identify working for enjoyment, not money, as the reason they expect to continue working, while only about four in ten (42%) expect to need to work to help pay bills.

When just the baby boomer segment of the workforce is examined,3 eight in ten workers expect to work in some capacity during their retirement years. Three in ten identify the reason as for enjoyment and one in four believe they will need the income. The majority of boomers (almost 70%) are fairly optimistic about their future years and almost half (48%) say their retirement outlook has improved over the past five years.

Unfortunately, boomer expectations and optimism about retirement may be unrealistic. Several studies on the retirement preparedness of this generation have been conducted over the past few years. These studies consistently find this generation of soon-to-be retirees is far from being adequately prepared. For example, findings generally show that a significant percentage of boomers:

  • Are not saving or investing enough (and many not at all) for their retirement years
  • Underestimate the amount of income they will actually need in retirement, or have not even tried to calculate this need
  • Expect to work throughout their retirement years, but don't have contingency plans in place should they not be physically able to work or if unable to find suitable employment
  • Rely on employer benefits and federal programs to meet 100% of their future financial needs (pension and health care) throughout their retirement lifetime.

Current employment and benefits policies may no longer be addressing the needs of the employer and the ever-changing workforce. Understanding how baby boomers and the generations that follow are approaching retirement is critical to employers' short- and long-term strategic planning.

Baby Boomers' Impact on the Workforce
State and local governments will feel the impact of an aging employee population before private sector employers. This is because the public sector has a higher percentage of employees who are in the baby boom generation than the private sector. In addition, career public employees, particularly police and fire personnel, tend to retire at an earlier age.

At the beginning of this century, the Department of Labor (DOL) projected that before 2008 school districts would need to replace more than 400,000 elementary and 350,000 secondary teachers who would be retiring.4 Other employment categories that were identified as being the hardest hit by boomer retirement included:

  • Registered nurses
  • Administrators in education
  • Public administration officials
  • Social workers
  • Financial managers
  • Lawyers
  • Plumbers, pipe fitters, steamfitters
  • Police and fire personnel.

The majority of these at-risk employment categories represent jobs within the public sector. As a result, many state and local government employers have already begun to take steps to address current and projected worker shortages. Employment policies, hiring processes and benefit structures are being reevaluated to ensure they meet the short- and long-term needs of the organization.

Attracting and retaining older workers is an important aspect of new employment strategies. This often includes redesigning job opportunities to include job sharing and telecommuting options as well as part-time and/or temporary assignments.

Mentoring programs also have an important role in new HR policies for older workers, offering new challenges to those nearing retirement while they pass on their knowledge and work experiences to younger employees. This can reenergize employees in the last few years of their career and potentially provide reduced employee-training costs for employers.

Offering phased retirement options is another workforce planning strategy that is being used in both the public and private sectors. These options can take various forms to meet employer and employee needs.

From the employer perspective, phased retirement programs can help retain skilled employees in the workforce. Programs can be structured to address labor shortages in specific employment fields, and/or for a certain period of time. They also can help reduce employers' hiring and training costs.

From the older employees' point of view, phased retirement is attractive because it gives them the flexibility to gradually transition into retirement while staying with their current employer and career. Phased retirement options usually offer opportunities to reduce the work schedule (fewer days or hours) or move into retirement with a less physically or mentally stressful position.

When attitudes about phased retirement are explored,5 about four in ten employees over age 50 (see Figure 3) would be very or somewhat interested in this option. Eight in ten of those expressing interest stated that this would result in their delaying full-time retirement beyond a normal retirement age.

Employees indicated that the most desired features of phased retirement would include:

  • Reducing the average workweek by 16 hours or more
  • Protecting the value of pension benefits and allowing them to continue to accrue during transitional employment
  • Providing access to a portion of retirement benefits (e.g., partial payment) to supplement income during this period.

Although the specific features and restrictions for phased retirement options differ, they generally include offering reemployment opportunities designed specifically for retirees and transitional or "bridge" jobs before employees begin their retirement. Deferred retirement option plans, or DROPs, can also be established to help protect the pension benefits of those transitioning into retirement.

Regardless of the type of phased retirement option offered by the employer, there are certain problems that may be encountered. For example, retiring employees that return to work in the public sector are often perceived to be "double dipping" by receiving a retirement benefit at the same time as a current wage. Communication about the human resource policies and the cost savings that the employer may experience (e.g., reduced training and benefits costs) may counteract this perception.

As part of a phased retirement program, employers often establish retire-rehire rules that restrict employees' return to public employment to certain at-risk employment categories, where worker shortages already exist. Limits may also be placed on the length of time the retiree can work within a 12-month period to a specified number of hours.

Changes in Pension and Health Care Benefits
At the same time as employers are dealing with the needs of an aging workforce, they are also addressing increased health and pension benefit costs. Within the public sector, defined benefit (DB) plans have a vital role in the employee benefits package. Today, approximately 96% of public employees (representing about 10% of the total U.S. workforce) are covered by state and local government DB plans.

Pensions continue to be an important recruitment and retention tool for the public sector. However, funding concerns are placing some of these plans at risk. For many employers, the pension surpluses of the 1990s have turned into funding shortfalls.

Employers are struggling to find budget dollars to meet pension contribution obligations. They are reevaluating how they invest trust assets because of the potential increased liquidity needed to pay benefits to retiring boomers and the lower projected investment earnings. Many state and local government employers are also exploring major modifications to DB plans such as:

  • Converting to hybrid defined contribution/defined benefit plans
  • Closing their DB plan and establishing a defined contribution/401(k)-type plan for new hires and/or voluntary elections from existing employees.

Although pension plans are a significant issue for employers, employee health care benefits continue to be their number one concern. Costs are growing at unsustainable rates, increasing by 8.2% in 2004.

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Both public and private sector employers are beginning to institute cost-savings measures such as:

  • Increasing employee copays and deductibles
  • Switching to consumer-driven health plans and health savings accounts (HSAs)
  • Adopting disease management programs
  • Initiating pharmacy benefits management programs.

Employers that provide continued health care insurance to retirees are facing even greater financial challenges to maintain these programs as costs continue to increase dramatically. Some employers are eliminating or reducing these benefits for future retirees. Others are instituting new restrictions such as capping the premium amount the employer will pay or basing the employer share of the premium on employees' length of service.

Increasing Importance of Supplemental Plans
As employers focus on lowering their budget costs for primary pension and health benefits, there is renewed importance of the second tier or supplemental benefits that are made available to employees. Typically, there is little or no employer funding of these supplemental benefits, which often include one or more of the following:

  • Voluntary, employee-directed defined contribution plans-Sections 457, 403(b) and 401(k) plans
  • Long-term care insurance
  • Dental and vision supplemental insurance
  • Employee assistance programs (EAPs)
  • Legal services programs
  • Day care.

Employers are beginning to recognize that these programs can be a critical part of the total benefits package. They are focusing more attention on the design and features of these plans to make them more attractive to the workforce and address the needs of an aging society.

For example, improving employee participation in deferred compensation plans is often a strategic priority of state and local government employers as they recognize that most employees will experience an income gap in retirement between what they need and what they will receive from primary benefits (pension and retiree health care).

Some of the recent trends to enhance deferred compensation and deferred compensation programs and encourage employee involvement include:

  • Simplifying the investment lineup by reducing the number of choices and offering lifestyle or life cycle funds
  • Offering managed accounts or investment advice to provide a more do- it-for-me approach to investing for retirement
  • Adopting an automatic or active enrollment election policy to address the natural human tendencies to "put off" enrollment until later, and then never follow through.

The aging of the workforce is requiring employers to be more creative in their employment and benefits policies. As employees are continuing to be charged more personal responsibility for their retirement futures, with changes in health benefits and pensions as well as Social Security and Medicare that will likely occur over the next few years, supplemental benefits will become even more important. Employers need to focus more attention and efforts on enhancing these programs to better meet the changing needs of their employees and soon-to-be retirees. B&C

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1 Demographic Profile; American Baby Boomers; Mature Market Institute, MetLife.
2 Demographic Profile; American Baby Boomers.
3 Baby Boomers Envision Retirement II-Key Findings, prepared for AARP by Roper ASW, copyright 2004.
4 "Gauging the Labor Force Effects of Retiring Baby Boomers," Bureau of Labor Statistics, Monthly Labor Review, July 2000.
5 The Attitudes of Individuals 50 and Older Toward Phased Retirement, AARP, March 2005, Knowledge Management.
6 The American Workplace 2005: The Changing Nature of Employee Benefits, Employment Policy Foundation.