Overview: This chapter examines how to plan employee benefit packages while controlling costs.
The total wage cost of an employee to the organization is far more than the pay rate of that employee. Likewise, the total compensation reward of the employee exceeds his or her take-home pay. Total compensation consists partly of the pay of the employee and partly of a set of other rewards that are loosely called benefits. The addition of these items to the compensation package considerably complicates all aspects of the administration of compensation --from the compensation strategy to the implementation of the plan. Benefits are unlike base pay in that they are awarded for different objectives, they are not periodically given, they are oftentimes deferred rather than current, and they require different types of administration. Since pay and benefits together make up the wage costs of the organization, there is a trade-off between direct pay and benefits. This is an extremely important point and helps to explain some of the lack of wage increases in the US.
Benefits, until recently, were called fringe benefits. This was because they were considered a minor part of the compensation package. This is no longer true, and benefits are becoming more important in compensation administration as they become a larger proportion of total compensation, representing close to 40% of the total cost of compensation.1 Clearly then, it is especially important to properly manage them.
Unlike establishing a specific wage rate for a person, the determination of membership rewards is fragmented rather than unitary. It represents a hodgepodge of economic rewards, most of which are awarded on the basis of the person accepting the role of being an employee. Unfortunately, neither employees nor employers have a clear definition of the boundaries of this set of rewards. There is a lack of agreement on what is or is not to be included, the purposes to be served, responsibility for programs, the cost and value of the various elements, the units of measurement for determining worth, and the criteria to be used. As a result, decisions in the area of benefits are more complex and confusing than those involved in determining wages and salaries.
This complexity is increased by the ambivalence shown by both organizations and employees toward these membership rewards. As stated, organizations find that consideration of benefits is outside of their typical economic definition of the employment exchange. So while they perceive the need for these rewards, they do not fit them into their definition of the exchange. Employees and their representatives also have ambivalent feelings. Benefits are often viewed by employees not so much as rewards for membership, but as a right accompanying employment. Indeed, this position is supported by much of the legislation in the field.
One way of answering this question is to state they are the non-wage portion of compensation. What this means is that benefits are a hodgepodge of programs that provide employees with a number of forms of rewards beyond their wages. Besides fringe benefits, this area has been called such things as indirect compensation, wage supplements, non-wage benefits, social wages, supplementary employee remuneration, supplementary compensation, and indirect payments. Here the simple term benefits will be used.
This hodgepodge of programs can be classified into ones that provide:
Typically, benefits are divided into those that are required and those that are discretionary. The term required means that the benefits must be provided to the employee by law. All others are considered discretionary, as the organization has a choice as to whether to offer the benefit or not. This does not mean that the government has no interest in these benefits. In many cases the government sets standards for the program if the organization chooses to offer it.
Organizations differ considerably in what they include in their own definitions. For instance, some will include legally required benefits and others only the ones that are voluntary. Unions and management also often differ, with unions often excluding employee services, premium pay, and paid leave.2 Some of these differences as to what constitutes benefits are a function of whether certain costs are seen as obligations of employers for the social welfare of their employees and therefore not seen as rewards at all.3 A basic premise of this viewpoint is that unions turned to employers to provide benefits when it became apparent that they would not be provided through social legislation. These benefits do not constitute rewards so much as rights of the employed individual.
The confusion in benefit definition does not provide organizations with a good way of defining the benefit package. A better way is to work backwards from the total cost of having a person on the payroll. Benefits would then be all costs beyond the direct wage paid to the individual. Figure 20-1 is a list of items that might be included as benefits.
None of the above discussion describes the purpose for the organization providing the reward. The common viewpoint is that the major purpose of all this hodgepodge of rewards is to increase the attractiveness of the organization to the individual, so that he or she will continue as an employee. Remember, however, that for a reward to be a part of the employment exchange, it must be perceived and considered relevant. Unlike the paycheck, many of these benefits are hidden from the employee, especially if they are deferred for long periods. This suggests that benefit administration requires a large component of communication.
1. Extra payments for time worked:
2. Non-production awards and bonuses:
3. Payments for time not worked:
Holidays paid for but not worked
Jury duty time
Military induction bonus
Military service allowance
National Guard duty
Paid death-in-family leave
Paid lunch periods
Paid sick leave
Reserve military duty
Room and board allowances
Time spent on contract negotiation
Time spent on grievances
4. Payments for employee security, Contributions toward:
Contributions to state disability insurance
Contributions to unemployment compensation
Supplements to unemployment compensation
Contributions to Workers' Compensation
Supplements to Workers' Compensation
Contributions to employee thrift plan
Contributions to employee stock purchase plans
Employee loan association
Health and welfare funds
Mutual benefit association
Payment of optical expenses
Savings Bond administration
5. Payments for employee services:
Annual reports to employees
Company athletic teams
Income tax service
Employee discounts on purchases
Employee pleasure trips
Flowers for ill and deceased employees and families
Functions for retired employees
Lunch period entertainment
Medical examinations (voluntary)
Music at work
Paid club memberships
Paid subscriptions to magazines
Parking space operation
Reading room facilities
Rest room facilities
Safety clothes at company expense
Shower and locker rooms
Work clothes at company expense
Benefits are as important as a reward, in that organizations wish to reward employees not only for their job and performance, but also for their membership in the organization. Benefits are ordinarily given to employees on the basis of their being members of the organization, not on the basis of the job held or performance on that job. Thus they may be called membership rewards.
The emergence of membership rewards attests to the differences between the employment exchange and the economic exchange as it is narrowly conceived. These rewards indicate that organizations are aware that in the employment exchange they are purchasing not only labor services but also organizational attachment sufficient to provide the continuity required to accomplish their goals. Thus, membership rewards are evidence that organizations take a broader view of the employment exchange than is traditionally embodied in Compensation Administration.
If this view is correct, membership rewards in organizations would be expected to vary with the breadth of the organization's view of the employment exchange. Viewing the employment exchange strictly in economic terms would be expected to lead to few membership rewards and to temporary employment of the employee. On the other hand, viewing the employment exchange in a broader sense should lead to a broad base of membership rewards, as the organization attempts to secure long-term commitment from its employees. This situation is much more typical in a primary labor market.4
Employees, too, find it useful to broaden the definition of the employment exchange and seek membership rewards from their employer. Those employee groups with the strongest commitment to the organization have always received membership rewards. When groups are requested by the organization to increase their organizational commitment, they typically request more membership rewards. Thus, organizations that request and/or require high levels of commitment over time find considerable pressure from employees for membership rewards.5 Fortunately, this thought process does not have to be conscious on the part of either the organization or the individual to be valid.
There was a time not so long ago, like 1900, when there was no such thing as benefits in the employment exchange. Any organization that did offer some was on the forefront of managerial practice or, as contemporaries would say, "a fool!" The roots of benefits go back to the age of industrialization and the changes that this made in society. The economy in the United States went from an agrarian one to an industrialized one in the 19th century. Industrialization requires factories operated by workers to be centrally located. People flocked to the cities in search of work, and the extended families of the agrarian world began to break up. For the individual worker this meant:
So the individual was less in control and in a more dangerous situation.
The owner-entrepreneurs of the day were not particularly benevolent. Employees were perceived as expendable resources to be used and discarded as necessary given the vagaries of the economy. The following quotation illustrates this attitude: "I regard my work-people just as I regard my machinery. So long as they can do my work for what I choose to pay them, I keep them, getting out of them all I can." It was this world that Karl Marx saw and wrote about when he developed his ideas that led to communism.
Starting in the late 1800's, employers, realizing the situation and in many cases pushed by the beginnings of the union movement, as well as social reformers of the day, moved to a more benevolent point of view and began offering retirement, death and medical benefits. This trend increased into and through most of the 1920's. However, at the end of this era came the cataclysmic event of the "great depression." This strained the benevolence of employers and eventually brought a new player into the game, the government.
From these rather inauspicious beginnings benefits began to grow. The growth of benefits has far exceeded the increase in wages, even during inflationary periods, for the past 40 years. In fact, the growth has been three times that of wages and salaries.6 The Chamber of Commerce found that by 1980, benefits were accounting for 36.9 percent of payroll, or an average of $6,084 per employee; in the year 2000, that estimate was 42.3 percent of payroll, or well over $11,000 per employee. The total benefit bill in the country ran about $435 billion in 1980, in 2000 it was close to $1 trillion.7
There does not seem to be any significant lessening of this growth. The increases have come about in two ways. First, there has been a considerable increase over time in the number of benefits offered by employers. Second, the cost of the benefits themselves has risen dramatically. Health insurance is the prime example of the latter.
The figures just cited, however, are averages and do not represent the amounts spent on benefits by particular organizations or industries. When it comes to expenditures on benefits, there exists a good deal of variation between industries, as well as between companies within an industry. The petroleum industry spends over half of its total compensation dollar on benefits; hospitals spend a little over a quarter. Traditionally, government organizations have offered higher benefits or at least are perceived as doing so.8 These variations may represent a number of differences in compensation policy, including the emphasis placed upon the value of continuity in membership.
The use of benefits in the compensation package makes the process of compensating employees much more complex. As indicated, benefits are a hodgepodge of items, and planning and administering them is time-consuming, costly and takes an expertise not available in many organizations. So the question can be raised whether it is worth it to include benefits in the compensation package. In summary, the following reasons can be put forth as to why organizations have benefits in their compensation package:
As indicated above, the government took a lead role in expanding benefits during the Great Depression. This influence of government on benefits has come in four ways:
Union demands have served to increase benefits as a proportion of total pay. The growth of the unions during the 1930s occurred largely in the mass-production industries. Workers in these industries were much more prone to the risks of industrial life than were craft workers, and so the leaders of industrial unions made it a point to demand protection from insecurity for their members. In this way union leaders of industrial unions have fostered member interest in programs providing protection from insecurity. Sometimes a benefit has been demanded to establish a principle of employer responsibility for risks facing workers. The UAW's fight for the guaranteed annual wage is a case in point: the union felt that a large portion of the down time in model changeovers could be reduced by management. At other times, benefits have been sought when pay increases appeared infeasible. Unions have sought to expand benefits for a number of reasons, including their desire for (1) increased status, (2) security, (3) a shorter work week, (4) more strength in the eyes of its members, and (5) the development of the plant as a community.9
Social responsibility may not be the best name for the response by employers to the needs of their employees, but it does get the point across. As far back as the 1920s, organizations began to realize that their employees were assets that needed to be preserved rather than exploited. This awareness has varied over time. At first there was a reaction to unions that created an era of paternalism, encouraging employers to offer many employee services in the hope that employees would see that their employers had their best interests at heart. This would keep the employees from joining a union.10 More recently, the trend has been to consider the employee a partner in the development and operation of benefit programs. The employee is making decisions about his/her own life and needs, and the organization provides the programs to accomplish this. For instance, there is a trend in providing employee services. Today it is seen that an employee who is healthy, both physically and mentally, is a more productive person. This has led to a series of employee services, such as athletic facilities and counseling in areas such as smoking and drug abuse, intended to create and maintain a healthy workforce.11
A current issue in this area is whether employers have a responsibility to provide care for children of employees. With the increase in the number of women in the workforce and the number of working women who are the only support of their families, the demand for day-care facilities for children has increased dramatically. There is presently considerable debate as to who is going to provide these facilities, but it is clear that employers will play an important part. There is evidence that facilities close to the work site provide a better solution than those near the home.12
Competition. All organizations are subject to a competitive labor market. Hiring and retaining employees requires that the organization be competitive, at least to some degree, in the labor market. When other organizations offer benefits, so must your organization. But this is not simple. Paying competitive wages is a single figure. Offering competitive benefits involves decisions about the type of benefits to offer as well as the cost of those benefits. The type and level of benefits offered makes the organization attractive or unattractive to different potential employees. There is also a trade-off between wages and benefits. Some individuals prefer high wages and care little about benefits while others need or desire certain types of benefits. As will be discussed later, benefits can act as "golden handcuffs," keeping employees from leaving for other jobs.
Efficiency. Most benefits are in the form of insurance. These benefits can be obtained at a lower cost by having savings in underwriting and administration through group contracts rather than by having each employee contract individually.
To the employee, the advantages of benefits can be many. Certainly the two most prevalent are the tax advantages mentioned and the lower cost of receiving the benefit by belonging to a group. The fact that over half of all benefits are intended to reduce economic insecurity suggests that both employers and employees are aware that life in an industrial society requires these protections. At best, however, employee attitudes toward benefits are ambivalent. On one hand, people seem very interested in benefits, since this is a major item of consideration in the recruiting process. On the other hand, most employees do not know what benefits the organization is providing them and particularly the cost to the organization of those benefits. In a way, benefits appear to be a classic case of what Frederick Herzberg calls a hygiene factor or dissatisfier.13 When the benefit is absent, the person wants it. When it is present, it has little positive motivational force.
Employees differ considerably in their demand for benefits and even more clearly in the types of benefits they demand. This seems to vary most noticeably with the personal circumstances of the employee. Logic would indicate that young employees would desire fewer benefits compared with wages and time off. Employees with dependents will value medical benefits greatly, and the desire for good retirement plan benefits will rise with age. In all these cases, it should be noted that employees base their decision on their perceived need, and not on the cost of the benefit to the organization.
The demographics of an organization's employees offer a hint as to the needs and preferences of its members, but they are not an infallible guide. Employee-preference studies have found that some demographic characteristics (particularly age and marital status) were good predictors of benefit preference, but that others (such as sex, age, and occupation) were not.14 Clearly there is a ranking of desirability of benefits by individuals, but it is not wholly predictable by employee characteristics.
The continuing industrialization in modern times, or more accurately the move toward a postindustrial society, has created changes that encourage organizations to provide more benefits to employees. One of the effects of an increasing standard of living is that people's desire for leisure increases in proportion to their desire for more wages. In economic terms, the elasticity of the supply of labor is such that as wages rise, there is a point at which leisure becomes more appealing than more work, even work at a higher wage.15 In the U.S. today there are two contrary trends. On one hand, the number of hours worked has risen, and on the other, a demand for more time and programs for family life has become increasingly important.
Continuing industrialization and consequent changes in modes of living have brought new risks to the employee and increased old ones. At the same time, increased productivity has afforded programs that provide security against these risks. Economic security in a society in which most individuals are employees depends on finding and keeping a job. Any threat to continuing employment becomes a risk to the employee and the family, and creates a demand for insurance against such risk. The result is that at least a portion of individual compensation represents protection against insecurity. In this way benefits provide more stability in the economy. The more that benefits are oriented toward reduction of insecurity among employees, the more stable is the economic environment.
Decisions with respect to benefits are made more complex because of confusion of purpose, lack of agreement on which benefits do and do not constitute compensation, and the rapid growth of benefits and their costs. Perhaps the only point of agreement is that benefit administration is changing.
To the employer, decisions on benefits represent a large and growing proportion of compensation expenditures and thus a large part of the organization's contribution to the employment exchange. To the union, benefits are often perceived as a social obligation of the employer and a right of the employee. To the employee, they represent protection from insecurity and a reward for continuing their employment with the organization.
The process of benefit planning, then, has the following steps:
The last section described the various reasons why benefits have become a major part of any compensation plan. These reasons will influence the determination of the goals and objectives of a benefits plan. In addition, the benefits plan is a part of the organization's compensation plan that is in turn part of the organizational strategy.16 These relationships are illustrated in Figure 2.
The benefits plan should not be just a collection of individual benefits, but rather an integrated set of benefits that supports the organization's strategies through the management of its human capital. To maximize this, you need to ask what you want the benefits program to do for you. Not all organizations are going to answer this in the same way. Superficially, benefit decisions are similar to wage level decisions. In both instances, the basic issue to the employer is that of labor cost. The employer decision involves expenditures resulting from the employment exchange, and from a cost standpoint the organization is indifferent as to whether these costs are in the form of wages or benefits. The tendency to talk about wages and benefits as a package reinforces this view. Actually, however, decisions on benefits involve a number of choices different from other wage decisions. Benefits are not unitary, as are wages. There are many choices to make as to which ones to offer, and there are a number of influences on these decisions. Unions sometimes do and sometimes do not consider benefits to be pay equivalents. As indicated, employees value benefits differently. They do this not only on the basis of their own needs, but also upon being convinced of their importance by the union and management.
Organizations differ greatly in the composition of their work force and thus on the needs and desires of their employees. The purpose served by the benefit decision — that of membership — is different from the job and performance considerations in the wage decision. Different work force demographics produce different needs in the employees. Maximizing the value of benefits requires the program be fitted to employee needs. Benefit programs can also help achieve other human resource goals. For instance, benefit policies can encourage or discourage turnover of employees in certain groups or of certain ages.
Costs are an important variable. The cost of the total benefit package needs to be consistent with the ability of the organization to pay for the benefits. The cost of benefits also impacts the compensation plan as this plan ordinarily is stated in a total amount. If benefit costs rise, there is less for salary increases. Within the benefit program the same thing can occur. Increases in particular benefits, such as health insurance, can negatively affect the ability to offer other desirable benefits.
Costs of benefits can be hidden in the short run but can destroy an organization's ability to pay or even survive in the long run. Retirement and health benefits are particularly of concern here. To the extent that these benefits continue on after the employee is no longer working they create a large unfunded liability that can ruin an organization as numerous major corporations and governmental bodies have discovered in recent years.
Compensation strategies are developed to keep the organization competitive in the labor market, so what others are doing must also be taken into account. As you will see, this is more difficult for benefits than for wages. Wages can be stated solely in monetary terms. Benefits are also a cost, but they are also a set of offerings to employees. It is hard to make both comparisons when deciding on the competitiveness of your benefits program.
Note that goals and objectives tell us where we would like to be, not where we are. So if there are currently benefits, the second step is to assess these benefits to see where improvements are needed or new ones need to be added. Selecting and evaluating benefits is the first step in translating the goals and objectives into a benefits program. There are a number of forces on the organization that influence this decision process. Organizations have some choice in the benefits they offer but not complete choice. There are required benefits, as we shall see, from legislation; second, there are customary benefits that are common to almost all organization. Finally, there are many possible benefits that can make your benefits package unique.
Legislation. Social legislation requires that the employer make expenditures for the health and safety of employees and for various forms of insurance to indemnify employee loss of income from illness and injury, unemployment, and old age. At another level, law also determines how the organization will develop and operate specific benefits, particularly retirement plans. These expenditures are required whether or not the employer wants to make them and whether or not the employee desires the resultant benefit.
It might be argued that these expenditures are not truly compensation based upon the employment exchange but are merely a convenient method whereby society insures that its members are protected from certain risks. But to the employer, they are expenditures that arise from hiring people, they are of benefit to the employees, and they do substitute for or at least diminish the ability to pay direct wages.
It may be possible, however, that these benefits are not benefits in the eyes of the employee. The employment exchange requires that the person be aware of and consider as relevant any item for it to be a part of the exchange. So if an employee is not aware of the employer's expenditure or does not care for the benefit, the employer is making a contribution to the exchange for which the organization is not receiving a return. The only alternative for the organization is to try to convince the employee of the importance of the benefit.
Legally required benefits currently cost employers in excess of 10 percent of their payroll. These are the direct payments made and do not include administrative costs or costs of legal requirements affecting the workplace.
Assessing the Competition. Another consideration in benefit planning is industry and area practice regarding benefits. This helps to determine what customary benefits are. In order to keep employees, the organization must remain competitive for labor services, and knowing what benefits other employers are offering is necessary for decisions about what benefits to offer. Surveys of benefits, then, are conducted for the same reason as wage and salary surveys — to obtain information on the conditions prevailing in the labor market. Community wage surveys include a number of benefits practices. Employer-association wage and salary surveys customarily include benefit-program information. Without this information the wage rate information received in surveys may be misleading. The usual benefits survey seeks prevailing practice in the form of enumeration of the programs offered and descriptions of those programs and their coverage. Tabulations consist of the number of responding organizations having each type of program and, if possible, variations in programs by employee group. Today this can be done in a highly sophisticated manner using the ideas and techniques of benchmarking.17 It needs to be noted that benefit surveys record practice, and the costs of that practice to different organizations may be very different. This difference can result from differences in the organization's work force or in the methods used to finance the benefits.
Ideally, an organization would know both the benefits offered by competitors and the competitors' costs for those benefits. But the cost figures are hard to get. It is difficult to cost out individual benefits, and accounting practices vary considerably. As indicated, some organizations see an item as a benefit and others do not. Cost information on individual benefits may not be useful, since the composition of the work force in each organization differs. What is probably more important is to know the total benefit costs of your organization and others.
This section reinforces the complexity of benefit decisions. Compensation decision makers are charged with making sure that all expenditures for compensation benefit the organization. As benefits become a larger proportion of total compensation, the impact of benefit decisions is greater, and more care must be taken with these decisions. In wage decisions, comparison with other organizations may be an important consideration in order for the organization to be competitive in the labor market. In benefit decisions, however, although benefit practices of other organizations are one consideration, they are less important than the total cost of benefits and employee preferences. Unless employees want a particular benefit, they are unlikely to consider it a reward; therefore expenditures for that benefit do not enter the employment exchange and would not create value for the organization.
Organizational Benefit Plan Analysis. Surveys of prevailing benefits may have the dysfunctional consequence of encouraging particular benefit programs simply because they exist in other organizations and not because they are wanted or needed by the organization's employees. The present benefit structure in the U.S. suggests that benefit decisions have been motivated by competition based on a vague feeling that more benefits help an organization attract and retain employees rather than by a careful analysis of employee needs and preferences.
Internal organizational analysis of benefit practices would seem to require a comparison of current benefit offerings with the needs and preferences of employees. Our designation of benefits as membership rewards is an aid in this analysis, for it specifies the organization's purpose in offering benefits is to obtain and retain employees. But the analysis gets complex because individual employees and groups have different needs and preferences.
So the internal organizational analysis of benefits focuses on the needs and preferences of employees. Organizations differ in the demographic makeup of their work force, and this should, in turn, create differences in the types and levels of benefits that organizations offer. As discussed, there are some predictable differences based upon factors such as age and marital status, but the situation is so complex that it is hard to predict the exact benefit needs and preferences just from a knowledge of the organization's demographic makeup.
A survey of employee preferences for benefits can be done by developing and administering a questionnaire within the organization. This questionnaire need not be very complex and can consist of a listing of possible benefits that are to be ranked in importance by the employee or rated on a scale of very important to very unimportant. It is useful to have the respondents also indicate their own characteristics so that the organization can determine if particular employee groups have predictable preferences.
As discussed above, from the results of the questionnaire, the desired and present benefits package can be compared. Unmet needs of employees may call for additional benefits. But overlapping benefits that provide more protection than is desired are a waste of resources. One of the most pressing problems in benefits today is that of overlapping benefits provided to the two-income family. When both members of the family work, they are often covered under each other's benefit program. The result is that neither spouse's employing organization is receiving the maximum value from providing the benefits, and the employees are frustrated because they are receiving a duplicate unneeded reward.
Organizational Financial Analysis. A further part of the organization analysis is a comparison between direct wages and benefits, in terms of both cost and employee need. This comparison is needed for a couple of reasons. The first is to maintain a balance between direct wages and benefits. Granting wage increases and benefit changes independently can lead to excessive increases in payroll costs where the organization loses control of the situation. When benefits or one benefit’s costs are rising at a rapid rate, it negatively impacts the organization's ability to raise other parts of the compensation package. Figure 3 shows a comparison of recent changes in health insurance costs as compared to workers' earnings. Second, changes in wages directly affect the cost of benefits in areas such as vacation costs and holiday pay.
A further part of the organization's financial analysis is the employer's ability to pay. We have indicated that benefit programs are most often viewed as a package of individual benefits. The emphasis on employee needs and preferences encourages this view of benefits. Decision making from this approach ordinarily focuses on identifying what the employee group needs and then finding out the current cost of that benefit. When installed, the benefit is then based upon the level of benefit and not the level of cost to the employer. In the field of medical insurance, this has had a disastrous effect on employer costs. The focus on the level of benefits leads employees to form their impressions of the employment exchange in terms of this level of coverage and not on the cost of that coverage. This makes it hard for the employer to lower the level of coverage subsequently as costs rise beyond the value of the benefit.
The other problem with the coverage approach is that it is only the employer who is concerned with the problem of rising costs. While the employee has the ability to control costs, he or she has no incentive to do so.
A cost-based approach can use data from other companies, but such costs are likely to vary between organizations, not only because of the different work-force characteristics described earlier, but also because of other factors, such as ratio of labor cost to total cost, variability of demand, technical considerations requiring round-the-clock operations, and profitability. Companies with high profits tend to have high benefit costs, as do larger organizations, unionized organizations, and organizations in low-labor-cost industries. Benefit expenditures vary also by geography and community size.
Collective Bargaining and Benefits. In unionized organizations the decision making just discussed is done largely at the bargaining table. If it is assumed that union demands reflect employee preferences and that organizations have analyzed their own position, the results of collective bargaining can be advantageous to all parties. The employees should be receiving the benefits they want, and unions are motivated to convince employees of the value of the benefits bargained for.
Unfortunately, unions often have goals that do not reflect employee preferences in particular organizations. The union may be striving to institute a benefit in the whole industry or to satisfy a majority of the total union. Because of the political nature of unionism, there is always pressure to achieve gains for the members, and benefits can often appear to be a big gain when pay increases are hard to bargain for. Further, union leaders often are caught in the same problem as the management of an organization with a diverse work force: there is no consensus on what the real needs and preferences of employees are.
A second design question is who should receive benefits. If benefits are truly membership rewards and not job- or performance-related, then they should be equally available to all employees. However, if an organization needs continuity of employment from only some groups and doesn't care about turnover in other groups, a case can be made for having different packages of benefits for different employee groups. This is an extension of the cost/benefit argument, that these expenditures, like all others, should clearly bring something of value to the organization.
The disadvantages of having different benefit packages for different employee groups are many:
Despite these problems, most organizations have at least two benefits packages, one for executives and one for all other employees. Many organizations also pull out other groups for special consideration, such as sales personnel and technical employees.
The trend toward using part-time employees rather than full-time employees is based partly on the cost of benefits. Using part-time employees, the employer can reduce the legally required benefits somewhat and other benefits entirely if the organization so wishes. Although this is the ultimate in different status for different employee groups, many organizations feel that the cost savings are worth the price.
While the argument here has been toward having all employees included in the benefit package, the definition of who is and who is not an employee is important. There are many categories of people that may not be collecting a pay check right now but may be considered an employee for benefits consideration. Some questions that need to be answered about who should be included are in Figure 4.
Another issue under who should be covered is when should an employee's coverage begin? This is an issue with new employees. Many benefits have a probationary period before new employees become eligible for them. Primary among these are retirement plans that require up to a five year vesting period. Health insurance often has some period, like 90 days, before it becomes effective, and vacations may take up to a year before they can be taken.
The above discussion assumes that the choice of benefits is something that is done by some expert group in the field of benefits. To some extent this is true, but there is room for employees to have a say in the benefits they have. Different benefit programs for employee groups will be functional to the employment exchange to the extent that the group as a whole wants the set of benefits. But as discussed, employee groups are not always a good indicator of differences in benefit preferences of individuals. The only effective way to deal with individual variability in benefit preferences is to have each person decide what benefits to include and how much to allocate to each. This approach is variously called flexible benefit plans or cafeteria benefit plans.
From the discussion thus far, this flexible approach would seem to be an ideal approach to maximizing the employment-exchange potential. From the employee's standpoint, needs and preferences can be accommodated. Further, the employee is making the decisions and so should be more aware of and committed to the outcome. From the employer's standpoint there is a clear focus on the total cost of benefits for each employee. This cost can be more easily controlled by assigning a dollar amount to each person. There is a potential for tying rewards more closely to the behavior-membership desired by management.
There are a number of reasons why the acceptance and use of this approach has been slow, although recently it is becoming more standard. The first is an accounting problem. The payroll is made much more complex with each person having different deductions. Automated payroll programs, however, should be able to handle this situation. Second, insurance carriers develop their programs on the assumption that all employees will be covered. When all employees do not choose the option, the cost goes up for those who do choose it. Third, there is considerable concern about employee decision making.
This latter concern runs in opposite directions. On the one hand, there are concerns that the employee will choose very few benefits and focus on maximum cash, which will cause them regret if they become sick. Also, there are some benefits, especially the retirement plan, which people must invest in long before they are likely to perceive the benefit of it. On the other hand, there is a concern that employees may choose too many benefits and thereby distort the membership rewards vis-à-vis the job and performance rewards.
There is also a concern that unions will not accept the concept of the cafeteria approach, and that leaves the technique to nonunion organizations or to the nonunion sector of the organization. This concern appears to be based upon the feeling that unions try to have everyone treated alike.18
Section 125. This is the section of the IRS code that allows for flexible benefit plans. Before this section was implemented there were negative tax consequences for a flexible benefit plan. This section defines a flexible benefit plan as one in which all participants are employees who may choose between two or more benefits that are:
As is the case of most government programs, there is a reporting requirement. Cafeteria plans sponsors are required to file annual Form 5500 reports with the IRS/DOL; to not do so results in penalties of $10,000 and $30,000 over multiple instances, with penalties and interest. Often overlooked for what is a payroll system issue, these plans require more reporting and expense in their administration than they create in good will or benefit to employees.
Types of Plans. There are four different types of cafeteria benefit plans that can qualify under diction 125. They are19:
These types of plans are likely to be expanded in the next years as there is more cost sharing involved in benefit plans.
There are three basic techniques used to attempt to lower, or more realistically slowdown, the increasing cost of benefits: changing or reducing benefits, sharing the cost with the employee and dealing with administrative costs.20
Changing or Reducing Benefits. Both retirement and health plans have seen a decline in numbers of organizations offering them as costs have risen in recent years. Beyond elimination, each of the major benefit areas has some ways to change and/or reduce benefits:
Cost Sharing. Since employees need the protection that benefits offer and the organization can contract for a better deal than can the individual, it still pays the employee to have the benefit through the organization, even if he/she has to pay for all or some of it. This issue has become very contentious in union situations with a majority of strikes involving the demand by management for cost sharing.
Health Plans. Double-digit increases in health insurance costs have led many employers to require employees to pay a part of their monthly health insurance premiums. This has 3 advantages:
Time Off. The most obvious way to cost share in time off is to pay only a portion of salary for certain types of time off or to share costs with an insurance plan, as in disability.
Retirement. The development of 401-K's transfers the responsibility for retirement from the organization to the employee. The plan can be set up so that all monies that are contributed are from the employee. More common, however, the organization also contributes to the fund, usually a percentage of what the employee contributes. Actually, all types of retirement plans can be made contributory on the part of the employee.
Being able to design and administer a benefits program requires a knowledge of many laws and an understanding of the field of insurance. Controlling costs of benefits takes a constant monitoring of the insurance plans that form the core of the benefits program. Two methods of dealing with administrative costs are to search for alternative funding methods and to develop a system of competitive bidding that ensures that the organization is using the best and most cost-effective insurance plans.
Health plans can contain three features that help in controlling costs.21
Outsourcing the Benefits Function. Having a qualified staff capable of designing and operating a benefits program is difficult and expensive, so more and more organizations (estimates are up to 50%) are choosing to outsource this function. While the number-one reason to outsource remains the desire to reduce and control operating costs, companies also are looking to improve company focus, obtain access to world-class capabilities and free internal resources for core business functions. Costs of outsourcing may be initially higher than performing the function internally but over time may save money as the expertise and technology of the contractor creates savings.22
Outsourcing can consist of a number of things. First, the outsourcing can be full or partial. In full outsourcing the total benefits program is outsourced, leaving only a few people required to handle clerical details. This requires that some top official act as a liaison and evaluator of the organization to whom the function has been outsourced. More common is partial outsourcing in which certain functions are picked as being able to be done better by a contractor. Some contractors specialize in a specific function, such as COBRA administration, while others will take the whole program off the organization's shoulders. Clearly the number and expertise of internal staff will vary greatly with the type and degree of outsourcing.23
Benefit administrators do more than plan what benefits to offer and to whom. They must take care of the benefit package that is in effect. This administrative task consists of processing claims related to the benefits, communicating the benefit package to the employees, and monitoring the changing environment of benefits.
Employees ordinarily have to request that benefits be invoked, and it is up to the organization or others, such as insurance companies, to decide if the request is legitimate. That is, someone has to determine if the act that is claimed has occurred, if the employee is covered for this act, and if so, what payment is appropriate.24 This work can be time-consuming but does not necessarily require highly technical skill to perform. The knowledge of a number of different areas, particularly insurance, is the main concern in this task. Counseling employees who have been turned down for a claim and showing them why they did not qualify requires good interpersonal skills.
This is one area in which a benefits administrator can show his or her worth to the organization in concrete terms. Proper claims processing and monitoring can save up to 15 percent in benefit costs.25
The employment-exchange model points out that to be considered rewards, benefits must be recognized and perceived as relevant by the employee. The experience of many organizations is that employees are unaware of what benefits the organization offers and not at all aware of the cost of these benefits, even after extensive efforts have been made to inform them.26 Further, although it can be said that employees certainly value benefits, it is not clear that they desire the particular set of benefits that the organization offers.
Communicating benefits is harder than communicating wage information. Each payday the employee receives feedback regarding wages. But benefits may or may not be visible to the employee over a long time period. Retirement plans are a good example. To a young person this is something rarely thought about or discussed, so the chances are slight that he or she is aware of the organization's retirement plan program. Further, there is little perceived relevance of a retirement plan to young people; retirement is the least of their concerns. To complicate matters, many benefits are difficult to explain, and retirement plans are among the worst. The technical language of insurance and retirement plans makes it difficult for employees to understand what they are entitled to, even if they show an interest.27
Legal Requirement. Under ERISA employers must provide employees with a summary plan description and any modifications. This description must be given to employees when hired and every five years.
Communicating benefit information takes a planned and continuous approach if employees are to know and understand their benefit package. Some ideas that organizations use are as follows:
The field of benefits is changing rapidly. It is necessary for the organization to keep careful track of what is happening both externally and internally. The needs and preferences of employees are likely to change because the organization's work force is constantly changing. Surveying employee needs and preferences should be a continuing exercise and not a one-time project. The practices of competition in the labor market need to be monitored on the same basis as they do for wage information. But what has become most complex for the organization to monitor is the changing costs of those benefits provided by outside organizations such as insurance companies. Organizations that have been monitoring what has happened in this area have begun to develop alternative ways of providing these benefits to employees at a lower or stable cost. Last, legislation in this field is changing every day, and administrators need to examine these acts to see if the organization is meeting legal requirements and taking proper advantage of changes in the law.
In any planning process, it is useful to look as broadly as possible at the effects of the decisions being made. This section briefly examines some of the issues that face employing organizations, unions, the economy, and society because of the method we have chosen to solve the problem of employee insecurity in this country.
Americans have chosen to solve the problems of insecurity arising from an industrial society very largely by private means. This protection varies by industry and area as well as by organization size and unionization. Thus, employees of large, unionized organizations in metropolitan areas are well protected from insecurity and receive a large amount of leisure both on and off the job. On the other hand, employees of small, nonunion organizations may have only the limited protection provided by social legislation. Employees of many small organizations are not even covered by social legislation. This range between the haves and the have-nots grows wider with the growth of benefits, which shows no signs of abating.
A continuing disparity of this kind is an invitation to create public programs to redress the inequality. The development of such programs brings into question how these required benefits are perceived by the employee. If, as Allen suggests, benefits that are required of the organization become social responsibilities and are thereby taken out of the employment exchange, the organization may lose a reward that constitutes a large percentage of the total compensation program.29
Benefits have a very definite place in the motivational scheme of the organization. They are a major motivator of continuing membership, but are not as useful for other purposes. This is an effect of the way they are administered, being available on the basis of being employed and/or length of service. Organizations may be wise to keep it this way. Making different motivational connections would be difficult and place the organization in the position of doing things that their employees perceive as illegitimate. Furthermore, it may be functional to clearly delineate these rewards for membership so that the employee knows why certain rewards are being offered. But all this is predicated on employees seeing these rewards as relevant to them; otherwise the benefit does not enter the employment exchange at all.
Benefit programs greatly increase the responsibility of employing organizations. Underlying membership rewards is the assumption that the organization desires long-term employment and will provide it. This commitment can reduce the ability of the organization to adapt to changing circumstances. In addition, with the constant increase in benefits, the organization must be even more careful that additional employees are worth hiring. As pointed out, there is now a trend toward using part-time and temporary employees because the commitment to full-time employees is so great; this is creating a new group of organizational have-nots.
Benefit program decisions also increase the responsibilities of unions. With each additional benefit, union responsibility for ensuring value to members would seem to increase along with the difficulties of carrying out this responsibility. The same type of benefit analysis and expertise discussed earlier for organizations is probably required in unions as well. Also, although the political nature of unionism may explain obtaining benefits that some members may not need, it does not remove the moral issue. Furthermore, the tendency for unions to demand benefits obtained by other unions has resulted in benefits crossing industry lines, perhaps destroying economically justifiable differentials. More serious for unions in partially unionized industries, the larger benefit programs in unionized firms appear to have intensified union-nonunion competition to the disadvantage of the unionized organization. In the past few years this has taken on an international scope, as American firms are having trouble competing with foreign companies.
Benefit decisions of employers and unions may have unintended consequences for our economy. Our method of providing benefits by private means may have reduced our ability to compete in foreign markets. Although other industrialized nations have equal or higher benefits, their cost incidence is quite different. It can be argued that these benefits are social costs, paid in their entirety by the worker, regardless of how they are provided, but the effect on the employer's labor costs is quite different. In the U.S., benefits are provided through employment, and these costs appear in employer labor costs. In many other countries, benefits are largely provided by employee contribution and general tax revenue and thus do not appear in the employer's labor costs. Also, there appears to be a more selective approach to granting benefits only to those who need them rather than the more general approach taken in the United States. For both of these reasons our competitiveness may be decreasing.
Benefit decisions can also harm price stability. When total compensation gains exceed productivity gains in the economy, inflation is the consequence. Benefit costs are often not given their full weight in calculating total compensation and so amount to a hidden inflationary tendency.
Benefit decisions may have three different effects upon employment. The first is to encourage organizations to work employees' overtime, since this does not significantly change the other benefit costs. The effect of this, of course, is to lower the employment level. The second effect is to encourage organizations to hire part-time and temporary employees to whom the organization does not have to pay these expensive benefits. Beginning in the mid 1990s, "outsourcing" gained strength in America as companies employed the employees of other firms (staffing companies) to complete assignments. It is estimated that within the U.S. in the Year 2000, almost 24% of American workers were temporary, outsourced, part-time, or on contracts that could be immediately terminated. With the shift in the U.S. to a service economy from an industrial one, a long-term view could be quite discomforting. If it takes 25 minutes to lay off 24% of U.S. workers and 25 days to pay their residual pay, the U.S. could be 25 days away from 25% unemployment.
Another area in which there is a great deal of potential impact on benefit decisions is labor mobility. Although logic and some studies suggest that benefits are among the factors that tie people to organizations,30 the two benefits that mostly impact this tenure decision are retirement and medical plans. The most accurate statement is that organizations need a well-devised communications program both to inform employees of what their benefits are and to persuade them that they are valuable rewards. There is the probability that benefits are one of a number of factors in the employment exchange that tie people to organizations. Given the changes in the economy which makes it likely that workers will need to change jobs and organizations numerous times in their work life there is a need to make both retirement and health benefits portable so the workers do not lose their benefits from job change.
It may be worth examining whether protections from insecurity provided through employment have weakened community efforts to provide group protection. In order to be protected one must be employed, but it is when one is not employed then there is the greatest need. Also when those not covered are those not employed, they represent a group whose cost to cover is much higher than the average.
A major continuing change in compensation administration is the increase of benefits as a part of total compensation. Benefits are a different form of compensation from direct pay. The focus in benefits is the membership model of motivation. Benefits provide a reason to join and remain a member of the organization. Benefits are a wide variety of inducements offered to employees having little in common except that they are not "paid" to the person each payday. This makes terminology and categorization of benefits difficult.
There has been a growth of benefits for a number of reasons. Industrialized society makes it difficult for people to provide themselves with needed protection from the vicissitudes of the economy. Thus, organizations are often seen as having a social responsibility to provide these protections, both to care for their employees and to provide a service to society. Unions have also found it useful to demand benefits. They see the need to provide protection for their members, and the organization is the group that they can directly affect. Employees, too, are interested in benefits. Tax advantages and cost savings are two reasons, but changes in lifestyle make items like time off more appealing.
In the past, a major problem with benefits has been their disorganized growth. Organizations are finding that it is becoming more necessary to carefully plan out benefit packages both to optimize their motivational impact and to reduce costs. The first decision an organization makes is what benefits to offer. Some benefits are required by law, some are bargained for by unions, others are needed to be competitive, and others meet the needs of the employees. All these must be integrated into the organization's ability to pay.
The second decision is who is to receive what benefit. One trend in this area is to involve the employee by instituting a cafeteria benefits plan. In planning benefit programs, it is also wise to consider some broader issues of the effects of benefits on the organization, unions, the economy, and society. The way the United States handles employee protection and benefits is peculiarly American.
The administration of benefits is becoming much more important in organizations; staff specialists are assigned to this function. Planning out the program is not the only requirement; control of costs is becoming a major goal. To maximize the impact of benefit plans, organizations are developing sophisticated communication programs to explain to employees the advantages of their benefits. The Internet offers a future of immediate and timely administration and instant and ubiquitous communication.
18 For discussion of these concerns see David. J. Thomsen, "Introducing Cafeteria Compensation in Your Company," Compensation Review, first quarter 1978, pp. 56-63; and L. M. Baytos, "The Employee Fringe Benefit Smorgasbord: Its Potentials and Limitations," Compensation Review, first quarter 1970, pp. 16-28.
Internet Based Benefits & Compensation Administration
Thomas J. Atchison
David W. Belcher
David J. Thomsen
ERI Economic Research Institute
Copyright © 2000 - 2013
Library of Congress Cataloging-in-Publication Data
HF5549.5.C67B45 1987 658.3'2 86-25494 ISBN 0-13-154790-9
Previously published under the title of Wage and Salary Administration.
The framework for this text was originally copyrighted in 1987, 1974, 1962, and 1955 by Prentice-Hall, Inc. All rights were acquired by ERI in 2000 via reverted rights from the Belcher Scholarship Foundation and Thomas Atchison.
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