Legal Clinic

OK to Reduce Benefits to Cut Costs?

Question: Given the ever-increasing costs of employee benefits, our senior executives have asked whether we can reduce employee benefits as a cost-cutting measure. Can an employer take steps to reduce employee benefits in order to cut costs? 

Thursday, July 9, 2015
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Answer: Generally speaking, employers who sponsor single employee-benefit plans have the freedom to reduce unvested/un-accrued employee benefits in order to cut costs. (Multiemployer plans are subject to additional and differing regulations.)

Notwithstanding this broad statement, there are various "pitfalls" that may be encountered when reducing employee benefits, some of which are discussed below. Due to the number and complexity of the various laws implicated by benefit reductions, employers who sponsor employee benefit plans should exercise caution when reducing benefits and should consult an attorney before taking any action.

Adhere to Contractual Language

The Employee Retirement Income Security Act is the primary law implicated by the decision to reduce benefits. ERISA does not affirmatively prevent employers from reducing unaccrued or unvested benefits. But, under ERISA, plan documents rule. Therefore, employers must be sure to understand and heed the language of their benefit plans, and any other contractual provisions, such as collective bargaining agreement provisions, that delineate the ability to reduce employee benefits.

Pension Benefits

ERISA § 204(g) prohibits a plan sponsor from amending a plan so as to reduce accrued pension benefits. This means that the plan sponsor may amend the plan to reduce future pension benefits, but may not amend the plan in a way that deprives the participant of pension benefits that have already been earned. This prohibition extends to amendments that eliminate optional forms of benefits and/or early retirement benefits in addition to normal retirement benefits. Moreover, ERISA § 204(h) usually requires plan sponsors to give notice to plan participants when amending the plan causes a significant reduction in the rate of future accrual of benefits. Although ERISA does not provide a definition of a "significant" reduction, regulations explain that whether a reduction is "significant" is "determined based on reasonable expectations taking into account the relevant facts and circumstances when the amendment is enacted or effective."  26 C.F.R. § 54.4980F-1. The repercussions of failing to send notice can be harsh-in particular, the amendment may be considered without effect. Thus, it is prudent to send proper notice when in doubt whether such notice is required.

Welfare Benefits  

"Welfare" benefits essentially include all non-pension benefits, such as health, life, and disability insurance, to name a few. 29 U.S.C. § 1002(1). As the Supreme Court has explained, ERISA does not provide entitlement to employer-provided welfare benefits, thus employers and plan sponsors are free to alter welfare plans at any time. Curtiss-Wright Corp. v. Schoonejongen, 514 U.S. 73, 78 (1995). What ERISA does require, though, is that the plan explains the procedure for amending the plan and identifies who can make such amendments. 29 U.S.C. 1102(b)(3). Thus, under ERISA, provided that the amendment process is explained and followed, employers can amend a plan to reduce unvested welfare benefits to cut operating costs. Employers must be cautious to protect vested welfare benefits. If vesting occurs, then employers must not reduce those benefits. Furthermore, although an amendment to reduce welfare benefits should not pose issues under ERISA, it can pose problems under other statutes, such as the Affordable Care Act.

Affordable Care Act

Due to the ACA's shared responsibility mandate, employers are now required to decide whether to "pay or play," meaning that they must either play by the rules that the ACA imposes or pay the penalties for refusing to do so. Looking from a very high level, there are two potential penalties: one which applies when an employer does not offer any coverage to a sufficient number of full-time employees, and a second which applies when an employer does offer coverage, but it is not affordable or does not provide a "minimum value" of coverage as defined by regulation. Thus, any amendment to a plan that reduces the benefits below these thresholds (or any amendment that causes a pre-ACA plan to lose its grandfathered status) could result in penalties. It is important to note that the shared responsibility mandate is complex, largely untested due to its recency, and constantly changing under the applicable transition regulations.

Discrimination Claims

For both pension and welfare benefits, employers cannot reduce benefits on the basis of a protected trait or classification, as such conduct would run afoul of the various discrimination statutes that protect those classes, such as Title VII, the Americans with Disabilities Act, the Equal Pay Act, the Age Discrimination in Employment Act or state domestic partnership laws.

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Age-discrimination laws are particularly relevant in this context, as benefit reductions can most harshly affect older workers. Though the Supreme Court has found that taking action based on factors that are analytically distinct from age, such as expense of benefits, is not automatically actionable under the ADEA, it has not foreclosed the possibility that the ADEA is violated when an employer acts based on a belief that the high cost of benefits and age are correlated. Hazen Paper Co. v. Biggins, 507 U.S. 604, 612-13 (1993). Indeed, the Eighth Circuit Court of Appeals recently found that a former employee had a valid ADEA claim because her employer may have terminated her employment based on its belief that having older workers caused health insurance premiums to rise. Tramp v. Associated Underwriters, No. 13-2546, 2014 WL 4977396, at *6-7 (8th Cir. May 13, 2014). Furthermore, the Older Workers' Benefit Protection Act provides additional safeguards to older employees' benefits, such as provisions that require employers to expend equal amounts on benefits for older and younger workers.

Section 510 Claims

ERISA Section 510 prohibits employers from interfering with an employee's right to attain benefits. Courts require employees to show that the employer had a specific intent to interfere with benefits. Therefore, benefit reductions arising from cost-saving measures are not generally actionable under this provision. For instance, in Jett v. American National Red Cross, No. 14-3234, 2014 WL 4941720, at *2 (6th Cir. Oct. 3, 2014), the Sixth Circuit Court of Appeals ruled that an employer did not violate ERISA because its decision to terminate the employee's retirement benefits was "merely incidental" to its primary goal of reducing expenses to alleviate its financial difficulties. 

In summary, with careful planning and thoughtful action, all undertaken with the advice of an attorney who is experienced in this area of the law, employers have the right to modify the benefits that they offer to employees as a way to reduce their operating expenses and should not hesitate to prudently do so. 

Patrick Lamparello is a senior counsel in Proskauer's labor and employment department in New York. Proskauer Associate Lindsey Chopin assisted with this article.

Patrick Lamparello and Proskauer colleague Evandro Gigante will be filling in for Keisha-Ann G. Gray for the next few months.


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