Your retiree health benefits plan: good design, safe funding.

• Author: Dankner, Harold
• Position: Includes related article

Now that FASB statement 106, on retiree health benefits, is final, how can you develop a plan that satisfies your employees and your balance sheet?

Harold Dankner, John M. Bertko,

Jean M. Wodarczyk, and Lee E. Launer

Partners

Coopers & Lybrand

Already concerned about rising health care costs, employers are now confronted with accrual accounting for retiree health benefits under the FASB's Statement 106, Employers' Accounting for Postretirement Benefits Other than Pensions, issued in December. In considering plan design changes and funding alternatives to manage costs and limit obligations and expense under accrual accounting, employers will want to understand how changes to their current retiree health plans will affect their financial statements under the new standard. What plan design and funding strategies should companies consider, and what are the implications of choosing specific alternatives?

(Refer to Financial Executive, January/February 1991, for a discussion of the key accounting and measurement issues of Statement 106 and a comparison of the major provisions of the final statement with the exposure draft.)

Designing the plan

One of the most important factors influencing plan design will be the substantive-plan requirements of the FASB standard. Under Statement 106, the measurement of obligations and expense should reflect the terms of the "substantive plan," not just the written plan.

Recognition of the substantive-plan provisions will require an employer to anticipate, in measuring obligations and expense, future changes to the plan under certain situations, such as the following:

* If your company has had a consistent practice of cost-sharing under the plan-such as contributions by retirees and their dependents, individual and family deductibles, coinsurance, and yearly out-of-pocket maximums-this practice becomes part of the substantive plan.

* If your company does not have a past practice of changing the plan's cost-sharing provisions, but intends to make changes in the future, those changes would be included as part of the substantive plan. To take advantage of this provision, however, you must communicate your intentions to plan participants. For example, if an employer announces in 1992 its intent to introduce retiree contributions beginning in 1993, the firm may anticipate a possibly significant reduction in obligations and expense resulting from the future plan amendment.

Putting in writing its intent to change the plan in the future allows an employer to more clearly define its promise and to simplify the complex judgments needed to apply the FASB's substantive-plan approach. For example, a cost-sharing relationship, such as applying the 70 percent/30 percent (company/retiree) formula or indexing retiree contributions by the percentage of increase in the employer's health care costs, could be written into the plan or otherwise communicated to employees.

Making this procedure more formal, however, may cause the employer to lose some flexibility to make ad hoc changes to the plan in the future. Given the dynamic forces affecting retiree health care plans, flexibility is important.

Plan design implications

Employers are examining many plan design options. Reductions in obligations and expense under Statement 106 will vary considerably depending on the specific change in plan design and the employer's demographics. Before making final decisions on changes to the current plan, employers should measure the potential impact of these changes on their obligations and expense. Any plan design strategy should of course take into account the company's overall retirement benefit policies, in particular the effect on early retirement.

The following three plan design strategies are the most commonly implemented.

Strategy 1: Varying retiree contributions by years of service

Many retiree health plans have historically operated on an "all or nothing" basis, with benefits...