Compensation issues - Research Paper Example

Compensation management strategy for the Department Of Corrections Introduction Compensation management is a set of activities that establishes an equitable and competitive philosophy and system of rewarding employees. Compensation is the greatest operating cost for many organizations and can be used for enhancing organizational performance and sustainable competitiveness (Gerhart and Rynes, 2003). This paper evaluates the compensation issues at the Department of Corrections with a view of proposing an appropriate strategy of implementing a favorable pension plan.

Problem statement The Department of Corrections wishes to reform the expensive and rigid defined benefit plan and replace or complement it with a more convenient and cost effective alternative such as the defined contributions plan. The defined benefit plan (DB) is a pension plan where employees receive a monthly compensation upon retirement for their life or lives of the member and their spouse. The defined contribution plans (DC) is a retirement savings plan where the employer commits to make certain contributions to an employee’s account during employment but with no guarantee of retirement benefit.

Strategies to help resolve the problem The ideal solution for the Department of Corrections is to adopt a hybrid plan incorporating both DB and DC. The DB plan would be designed to reward long-term employees. The DB provides meaningful retirement benefits for employees who remain with the institution throughout their career. The plan would be designed in a way that an employees earnings increase over the years by calculating years of service. This way, long term employees, will get the greater benefit.

For those employees who change jobs frequently, the DC is recommended as it offers more portability. The best strategy for a DC is to set a shorter vesting period so that new employees can easily join the plan. Discuss impediments to this strategy Impediments to this strategy include Employees who begin employment later in life benefiting more from a DB that is based on final average pay or career earnings. In addition, adopting a DB exposes the institution to unknown cost commitment since several factors determine the cost of promised benefits such as rates of return on investment and government regulatory changes (Clark, 2006).

Wages of government employees are usually lower than those of the private organisations, but the retirement compensation is higher. Switching from DB to DC requires a wage increase in order to become more competitive offsetting any potential benefits the employer may have realized by switching to a DC plan. Switching serves as a disincentive as highly trained employees who had stayed with the desire to earn several years of retirement benefit leave their positions for opportunities in the private sector (Clark, 2006).

The result of switching is high turnover and less loyalty from senior employees resulting in fewer experienced employees and a more transitory workforce. Switching to DC may be prohibitively expensive in the short-term and may also require running both DB and DC concurrently. For instance, California State Teachers retirement system needed an increase in contributions of $900 million in 10 years time if it were to adopt a mandatory DC plan. If a DB plan is closed to new recruits, it results in decreased returns on investment causing more costs to fund it (Clark, 2006).

Detail how the strategy you propose would address the organizations challenge Combining both DB and DC provides a more secure retirement benefit for participants than relying on a single option. The administrative costs of a DB plan are substantially lower than those of the DC plan. The median cost of a DC plan is approximately 1.40% compared to 0.30% for a DB plan. It costs more on investment management fees, record-keeping fees and educational programs compared to the DB plan. For instance, in 1999 Nebraska’s plan expenses for their DC plan were approximately 30 basic points (BP) compared to only 15BP for their DB plan (Barr, 2002).

DBs create an obligation for the employer regardless of the adequacy of plan contribution levels or changes in economic conditions. DCs resolve the obligation problem by not guaranteeing a minimum payment to plan participants. Any proposed policy modifications must balance between employees’ financial security at retirement and the fiscal solvency of retirement plan structures. The ideal plan should ensure that employees depart the workforce financially secure and that the benefits are fiscally responsible and financially sustainable for the employer (Barr, 2002).

Recommended strategy to address the compensation and/or benefit challenge The strategic contribution of compensation should be to maximize value but to minimize the inherent risk associated with compensation. As such compensation professionals are not only strategic partners, but also risk managers and continue to fulfill traditional compensation tasks such as conflict resolution (Gerhart and Rynes, 2003). To minimize costs, the institution should avoid providing automatic cost-of-living adjustments under its plans.

However, it can voluntarily grant ad hoc benefit increases after retirement to help offset inflation. To discourage employee turnover, the institution should freeze the benefit amount upon employment termination for DB plan members. The defined benefit plan benefit formulas should be designed to provide for late-age hiring as this ensures that the institution can accommodate experienced workers by providing them with retirement benefits for the few years they serve. This is an advantage for an employee making permanent job commitment late in his/her career.

Most defined benefit plans do not provide meaningful retirement benefits to employees hired late in their careers, and this would serve as an incentive to attract experienced workers (Gerhart and Rynes, 2003). Defined contributions offer employers several administrative advantages over DBs. DBs require actuarial projections that account for future trends in inflation and demographics, unlike DCs. They must also satisfy minimum and maximum funding standards; they require insurance to protect pensions against plan termination.

Therefore, it is recommended that the institution provides more incentives for employees to join the DC plan initially and reserve the DB for loyal and long-serving employees (Barr, 2002). Conclusion The strategy of using a hybrid plan may seem to be initially expensive but saves the institution more money in the long-term. It also helps align employee compensation with organizational goals as more experienced and royal employees can be rewarded with favorable DB plans. Requiring new recruits to join a DC plan increases employee portability and attracts young talent to the institution.

References: Clark, G., (2006). The Oxford handbook of pensions and retirement income. Oxford [u.a.]: Oxford Univ. Press. Barr, N., (2002). The pension puzzle: prerequisites and policy choices in pension design. Washington, DC: IMF. Gerhart, B. and Rynes, S. (2003). Compensation: theory, evidence, and strategic implications. Thousand Oaks, Calif.: Sage.