The Association of U S West Retirees



IBM Ruling Paves Way For Changes to Pensions
Appeals Court's Reversal Of Discrimination Finding To Aid Cash-Balance Plans
By Ellen E. Schultz and Theo Francis
The Wall Street Journal
Tuesday, August 8, 2006

A federal appeals court reversed a lower court's finding that International Business Machines Corp.'s pension plan discriminated against older workers.

The ruling, which involved IBM's move to change from a traditional pension to a cash-balance pension plan, may spur more companies to make the switch, employers say, and may have implications for some of the roughly 400 companies with a total of more than 1,200 cash-balance plans among them.

"A number of companies have held back" in converting defined-benefits plans to cash-balance plans because of concerns raised by the IBM case decision, says James Klein, president of the American Benefits Council, a Washington-based group that lobbies on pension issues and supports cash-balance plans.  He said the ruling, combined with last week's congressional pension reform that deemed cash-balance plans aren't age-discriminatory, "will give a green light for companies to make the conversion."

"We think it affirms the fair and legal decision that we made in 1999" to convert the plan, said J. Randall "Randy" MacDonald, IBM's senior vice president for human relations.  The computer maker had settled other aspects of the lawsuit for $320 million and had agreed to pay additional benefits of $1.4 billion to 140,000 current and former workers if it lost its appeal on the age-discrimination claim.

The plaintiffs, who are current and former IBM employees, intend to ask the full appeals court to reconsider the ruling, saying it ignored key legal distinctions between pension plans and defined-contribution savings plans.  The decision "disregards the statutory provisions expressly enacted by Congress to protect older workers from age discrimination," said a spokesman for the plaintiffs.

Pension advocates, older employees and the AARP have been distressed by the conversion to cash-balance plans because the move typically reduces the pensions of older workers significantly.  In a traditional pension, benefits are calculated by multiplying years of service by average salary, producing a pension that grows steeply in one's later years on the job.  When companies change to a cash balance pension plan, the former pensions are essentially frozen, and the value of their cash-out value is converted to an "account."  This hypothetical account grows each year with credits, based on pay, plus interest.

When older workers are shifted from a traditional pension to a cash-balance plan, they lose the steep buildup of pension benefits and can end up with pensions that are 20% to 50% lower.  Most companies that adopted the cash-balance formula had large older work forces.  What's more, some companies also froze the cash-balance credit for older workers, so that after the switch they didn't earn anything under the new cash-balance plan either for a period of months or years, while younger workers began to build up benefits right away.  Both of these outcomes led to charges of age discrimination.

While it is legal to reduce or eliminate a pension going forward, it is illegal under pension law to provide a pension accrual that declines with age.  Employers with cash balance plans don't dispute that this happens, but maintain that because the pension is intended to look more like a "defined-contribution" plan, such as a 401(k), the age discrimination rule shouldn't apply.

Writing for the Seventh U.S. Circuit Court of Appeals in Chicago, Judge Frank Easterbrook accepted IBM's position that because its pension plan resembles a defined-contribution plan, it shouldn't be deemed discriminatory.  The judge noted that because workers of all ages in the IBM plan received an annual 5% pay credit, the plan couldn't be said to be discriminatory.  That younger workers had many more years to earn interest, and thus would end up with larger pensions, he said, wasn't illegal.

"One need only look at IBM's formula to rule out a violation.  It is age-neutral," Judge Easterbrook wrote.

Norman Stein, a University of Alabama law professor specializing in pension law who also has served as a consultant for employees suing over cash-balance plans, says the ruling essentially ignores the law, which treats defined-benefit and defined-contribution plans very differently, even if they can resemble each other superficially.

IBM's pension saga started in 1999 when it changed its pension formula.  The ensuing employee backlash led the Internal Revenue Service to stop approving the plans and to calls for legislation to protect older workers when their pensions are changed.

Employees filed suit in 1999;  a federal court in Illinois ruled against IBM in 2003, finding that the company had discriminated against older workers.

--William M. Bulkeley contributed to this article.

Write to Ellen E. Schultz at and Theo Francis at