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Phased Retirement

July 1, 2003
Related Topics: Retirement/Pensions, Workforce Planning, Featured Article, Compensation
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When Ron Coulthard turned 60 three years ago, he wanted a change. He had been an English professor for 31 years at Appalachian State University, part of the University of North Carolina system. While he didn’t want to continue working full-time, he wasn’t quite ready to retire. If he’d been in that quandary just a year before, he wouldn’t have had many options, but in late 1998, the university began a phased-retirement pilot program that allows faculty members over the age of 50 to work half-time at half-salary for up to three years while collecting partial pension benefits.

    "It was a pretty good deal," says Coulthard, who joined the program and spent the next three years working full-time during the fall term and taking the other eight months off to enjoy his 11-acre mountain property and write an occasional poem. "If they hadn’t offered the program, I probably would have stayed a lot longer, for financial reasons alone."

    The half-time salary, combined with his pension and a drop to a lower tax bracket, actually increased John Higby’s monthly income by several hundred dollars when he joined the same program that year. "It was perfect," says the retired English professor, who opted to work part-time during both terms, which enabled him to teach every day while remaining exempt from committees and university politics. "It was an almost perfect life. I regret that I couldn’t do it for a few more years."

    The program was a huge success. Today, almost one-third of retiring faculty members at the 16 UNC campuses take advantage of phased retirement, and the concept is slowly catching on in many other public and private organizations.

IRS presents obstacles
    Low unemployment and rapidly aging baby boomers sparked the push to create programs that allow older workers to ease out of their jobs by reducing the number of hours they work in the years leading up to or just after they reach retirement age. It’s an attractive option for individuals because they can continue to earn an income under more flexible terms. And companies benefit from having ongoing access to their most experienced personnel, often at a reduced cost because they work part-time, says Valerie Paginelli, senior retirement consultant at Watson Wyatt, a human resources and risk management consulting firm headquartered in Washington, D.C.

    Unfortunately, IRS laws that were designed decades ago to discourage retirees from working make it almost impossible for employees to maintain their previous income level through a combination of social security, pension and paycheck. For example, an earnings test for social security, which was only recently repealed, stated that retirees between 65 and 69 would lose $1 of social security benefits for every $3 they earned above the earnings limit. Even though the Freedom to Work Act of 2000 eliminated the test, pension rules still prohibit companies from giving partial payments to employees who want to reduce their hours before they reach retirement age, says Kyle Brown, retirement counsel for Watson Wyatt. "There are a lot of obstacles to phased retirement, but that’s the 600-pound gorilla." (The professors using phased retirement at UNC are in a different situation—they actually have reached retirement age.)

    Further, many pension plans state that companies cannot continue to employ individuals and distribute their full pension payments after they reach retirement age, which means that if seniors want their complete benefits, they have to find a job elsewhere.

    These laws, combined with the now struggling economy, have made formal phased-retirement programs a rarity in many industries, even though the threat of a skilled-labor shortage increases every year, Paginelli says. At the moment, high unemployment has made this issue a low priority. But she predicts that within five years the rapidly aging workforce and lack of skilled replacements will force organizations to refocus their recruiting efforts on the retention of existing key talent. "When companies forecast the number of people they will have to hire in five years due to retirement and planned growth, it can be staggering. There won’t be a large enough volume of workers to replace them."

    By 2010, 80 million baby boomers will begin to reach the age of 65. Today, one in three workers is over age 45, and by 2006 the median age of America’s workforce will rise to 40.6, up from 30 in the early 1960s. Industries such as nursing and manufacturing are already facing a tremendous loss of expertise as a result of downsizing and a rapidly aging workforce, and other industries will soon follow. However, most companies won’t respond until they experience the shock of a mass retirement, Paginelli says. "Pain determines how much energy they invest in reshaping their retirement plans."

Universities lead trend
    Older organizations are the first to feel the impact of this knowledge loss, which is one reason why public universities were quick to embrace this trend. In 2000, 83 percent of academic institutions reported that 25 percent or more of their faculty were over the age of 50, according to a William M. Mercer study. Of all the industries covered in the study, universities had the oldest employee populations. "If everyone who was eligible retired at once, it would have devastating consequences," says Betsy Brown, associate vice president of academic affairs at UNC, where more than half of the staff is over 55. Phased retirement, which was implemented in 1998, helps Brown spread the loss of veteran staff over several years without disrupting the academic environment.

    It’s a natural fit for a university because teaching positions can easily be converted to part-time by reducing the class load while still giving students access to experienced professors, she says. It’s a relatively cheap and attractive benefit to offer at a time when premiums are increasing and no one is getting raises. "There are no automatic costs to phased retirement, and even those who don’t take advantage of it appreciate having the option," she says. And the program benefits the university financially because it frees half of the salaries of the highest-paid faculty to hire new full-time professors, giving the university additional staff for the same personnel costs.

    "The program gets rid of old folks like me to make room for the young firebrands who are hot to publish and get much lower salaries," Coulthard says. When he went to part-time, his remaining salary was enough to hire another full-time faculty member. "After 31 years, even in the English department, you build up a big salary from cost-of-living increases alone. Financially, it was beneficial for me and for the university." It also helps the university get out of long-term relationships with less-treasured employees, adds Robert Clark, professor of business management and economics at UNC. Tenured faculty are extremely valuable to the system, but they also have tremendous power over their retirement options. "There is no mandatory retirement age, and if they are tenured it is difficult to encourage them to leave," Clark says. But in order to apply for phased retirement, faculty members must give up tenure and become term employees, setting a course for their departure from the system. "It has dramatically evened out the retirement cycle."

    Private companies have been slower to embrace phased retirement because the financial and long-range ramifications are less apparent, Paginelli says. Unless a company has a large number of highly skilled employees who are eligible for retirement, such programs have little obvious impact on the bottom line. "There is savings from a reduction in recruiting and training costs and in retaining the value of experienced employees," she says, "but those benefits are harder to quantify."

    Companies that do adopt programs are typically in industries in which knowledge transfer among highly skilled laborers is a challenge. Ultratech, Inc., a maker of photolithography systems in San Jose, California, is one of the few companies in Silicon Valley that offers phased retirement, says Heidi Ordwein, director of human resources. She attributes their initial interest in the program to the company’s 25-year history. "Unlike most high-tech companies with youthful workforces, we have employees who have been with us for more than 20 years," she says. "We look at our employees differently than younger companies."

    Ultratech implemented phased retirement two years ago to stem a growing loss of retiring employees with critical expertise and knowledge. Employees as young as 50 have the option of reducing their schedule or work periodically on a contract basis. Employees love the program, Ordwein says. And it’s a "kick in the pants" for managers who work on what she calls a "truck system approach" to knowledge management: an employee has to "get hit by a truck" before someone else is trained for that job. "Phased retirement forces managers to create a transition plan for retirees and to think about mentoring in a replacement," she says. It also helps retirees remain active in the company and to feel appreciated. "Staying connected is so important. We want our people to know we still value them."

Homemade retirement plans
    Despite the overwhelming employee support of phased retirement at companies like Ultratech, very few organizations offer it as an option. But that’s not stopping retirees from working, Paginelli says. Studies show that many older workers are crafting their own phased-retirement plans, usually by taking full retirement benefits from one employer and going to work for another. With pension rules as they are, it’s often in retirees’ best interest to work for someone else so that they can maximize their income potential, she says, noting that some companies even take advantage of this situation by targeting retired seniors through their recruiting campaigns. At Republic Parking System in Chattanooga, Tennessee, for example, seniors make up more than 20 percent of the company’s 2,000 employees, says Bob Mitchell, senior vice president of human resources at the parking and transportation management company. He prefers hiring seniors because they are more reliable than younger employees, who he says are more likely to call in sick and have a weaker work ethic. "Senior citizens as a group are more dependable. They work because they want to." He has also noticed that they are friendlier and tend to build relationships with regular customers, even though the only contact they have is when customers exit the parking ramp. "They learn about customers’ kids and families, and even exchange birthday cards," he says. "They are a great resource, and they represent us well."

    Legislators have begun evaluating the efficacy of pension rules, but there’s been little drive to push new laws through. Modification is inevitable, but it could be years before significant changes are made, says Anna Rappaport, a consultant for Mercer Human Resource Consulting in Chicago. That means that companies like Republic will continue to have access to a growing pool of highly skilled retirees looking for work.

    A 1999 AARP survey found that 8 in 10 baby boomers plan to work at least part-time during their retirement. Even though only 16 percent of companies have formal phased-retirement plans, a recent Congressional Research Service paper noted that 20 to 40 percent of workers in their 60s are already working part-time.

    "These people want to continue working, even if they have to create their own opportunities," Paginelli says. "If you don’t have a phased-retirement plan, they may be taking their talents to the competition."

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