Order Code RL30629 CRS Report for Congress Received through the CRS Web Older Workers: Employment and Retirement Trends Updated October 8, 2003 Patrick J. Purcell Specialist in Social Legislation Domestic Social Policy Division Congressional Research Service ˜ The Library of Congress Older Workers: Employment and Retirement Trends Summary As the members of the “baby boom” generation – people born between 1946 and 1964 – approach retirement, the demographic profile of the U.S. workforce will undergo a substantial shift: a large number of older workers will be joined by relatively few new entrants to the labor force. According to the U.S. Bureau of the Census, while the number of people between the ages of 55 and 64 will grow by about 17.8 million between 2000 and 2020, the number of people who are 25 to 54 years old will not grow at all. This trend could have important effects on wage rates and economic growth because the labor force participation rate (the percentage of people either employed or unemployed but looking for work) begins to fall steadily after age 55. In 2002, 91% of men ages 25 to 54 and 76% of women in this age group participated in the labor force. In contrast, just 69% men ages 55 to 64 and 55% of women ages 55 to 64 were either working or looking for work in 2002. Recent employment trends among older Americans vary by age and sex. Census Bureau data indicate that from 1995 to 2003, employment remained steady among men 55 to 61 years old and rose among women in this age group. Of men ages 55 to 61, 71% were employed in 2003, compared with 72% in 1995. Employment among women ages 55 to 61 rose from 54% in 1995 to 61% in 2003. Among both men and women ages 62 to 64, employment rose throughout the period. About 47% of men ages 62 to 64 were employed in 2003, compared with 42% in 1995. Among women 62 to 64, employment increased from 31% in 1995 to 37% in 2002. Factors influencing the rate of employment among persons aged 55 years and older, include the rate of economic growth, eligibility for Social Security benefits, and both the prevalence and design of employer-sponsored pensions. P.L. 106-182, enacted on April 7, 2000, eliminated the Social Security earnings test for people at or above the “full retirement age” (currently 65 years and 2 months), effective January 1, 2000. Labor force participation among people 55 and older might also be affected by the trend away from defined-benefit pension plans, which often include early-retirement subsidies and pay a guaranteed benefit for life, toward defined contribution plans, which are age-neutral and often pay a lump sum at retirement. As more workers reach retirement age over the next several years, employers may try to induce some to remain on the job, perhaps on a part-time schedule. This is sometimes referred to as “phased retirement.” Several approaches to phased retirement – job-sharing, reduced work schedules, and rehiring retired workers on a part-time or temporary basis – can be accommodated under current law. Some of these approaches, however, require the individual to separate from the firm before returning under an alternative work arrangement. Under current law, a pension plan cannot pay benefits unless the recipient has either separated from the employer or reached the pension plan’s normal retirement age. Some employers would like to pay partial pension distributions to workers at the plan’s early retirement age and to limit participation to workers in particular occupational categories. However, targeted participation could cause a pension plan to violate the provisions of the tax code that prohibit retirement plans from discriminating in favor of highlycompensated employees. Contents The Aging of the Labor Force: 2000 to 2020 . . . . . . . . . . . . . . . . . . . . . . . . 2 Long-Term Trends in Labor Force Participation Rates . . . . . . . . . . . . . . . . . 3 Recent Employment Trends Among People Age 55 and Older . . . . . . . . . . . 6 Retirement Income Among Older Workers . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Work by Recipients of Retirement Income . . . . . . . . . . . . . . . . . . . . . 10 Social Security Retirement Benefits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Age When Benefits Begin . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Retired Worked Beneficiaries as a Percentage of Each Age Category . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Older Workers and “Phased Retirement” . . . . . . . . . . . . . . . . . . . . . . . . . . 15 Current Approaches to Phased Retirement . . . . . . . . . . . . . . . . . . . . . 15 Policy Issues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17 Distributions from 401(k) Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Flexibility versus Nondiscrimination . . . . . . . . . . . . . . . . . . . . . . . . . . 19 Policy Responses to an Aging Population . . . . . . . . . . . . . . . . . . . . . . . . . . 21 List of Tables Table 1. U.S. Population Age 25 and Older, 2000 and 2020 . . . . . . . . . . . . . . . . 2 Table 2. Labor Force Participation Rates, 1950 to 2010 . . . . . . . . . . . . . . . . . . . . 5 Table 3. Employment of Men Age 55 and Older, 1995 to 2003 . . . . . . . . . . . . . . 7 Table 4. Employment of Women Age 55 and Older, 1995 to 2003 . . . . . . . . . . . 8 Table 5. Receipt of Income From Employer Pensions and Retirement Savings Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Table 6. Employment of Recipients of Employer Pensions and Retirement Savings Plans, Age 55 and Older . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Table 7. Social Security Retired Worker Benefit Awards, by year . . . . . . . . . . . 13 Table 8. Social Security Retired Worker Beneficiaries, by year . . . . . . . . . . . . . 14 Older Workers: Employment and Retirement Trends Deciding when to retire is a choice that will affect an individual’s economic circumstances for the rest of his or her life. In addition to affecting the lives of individuals, the retirement decisions of older workers have an impact on the nation’s economy. The number of people retiring each year affects the size of the labor force, which has a direct impact on the economy’s capacity to produce goods and services. Other things being equal, fewer retirements in any given year would result in a greater supply of experienced workers available to employers and fewer people relying on savings, pensions, and Social Security as their main sources of income. Consequently, changes in the age-profile of the population or the average age at which people retire have implications for both national income and the size and composition of the federal budget. To understand the factors that affect the retirement decision, one must first know what it means to “retire.” Retirement is most often defined with reference to two characteristics: nonparticipation in the paid labor force, and receipt of income from pensions, Social Security, and other retirement plans. An individual who does not work for compensation and who receives income only from pensions, Social Security, and financial assets would meet this definition of retirement. An individual who works for compensation and receives no income from pensions or Social Security would not be retired according to this definition. Between these two extremes, however, are those who might be considered to have “retired” based on one part of the definition but not the other. For example, individuals who have retired from careers in law-enforcement or the military – both of which typically provide pensions after 20 years of service – often work for many years at other jobs, while also receiving a pension from prior employment. In such cases, having retired from a particular occupation does not necessarily mean that one has retired from the workforce. On the other hand, many people who retire from fulltime employment continue to work part-time to supplement the income they receive from pensions and Social Security. If the majority of their income is provided by Social Security, pensions, and savings, economists typically classify them as retired, even though they continue to engage in paid employment. As these examples suggest, not everyone who receives pension income is retired, and some people who work for pay actually are retired. This report begins by describing the change in the age distribution of the U.S. population that will occur between 2000 and 2020 and summarizing the historical data on the labor force participation of older workers. This discussion is followed by an analysis of data from the Census Bureau’s Current Population Survey on employment and receipt of pension income in recent years among persons age 55 and older. Employment trends among older workers are then discussed in the context CRS-2 of data from the Social Security Administration on the proportion of workers who claim retired-worker benefits before the full retirement age (currently 65 years and 2 months). The final section of the report discusses recent proposals to promote “phased retirement” through amendments to the sections of the Internal Revenue Code that govern the taxation of pension income. The Aging of the Labor Force: 2000 to 2020 As the members of the “baby boom” generation – people born between 1946 and 1964 – approach retirement age, the demographic profile of the American population will undergo a profound change. According to the Bureau of the Census, the proportion of the U.S. population age 65 and older will increase from 12.6% in 2000 to 20% by 2030.1 The age profile of the working-age population, however, already is undergoing a substantial shift toward a greater number of older workers and a relative scarcity of new entrants to the labor force. The data presented in Table 1 show how the age profile of the U.S. population will change between 2000 and 2020. According to estimates prepared by the U.S. Bureau of the Census, there were 182 million Americans age 25 or older in 2000. By 2020, this number will increase by almost 20% to 218 million. However, the number of people ages 25 to 54 – the ages when labor force participation rates are at their highest levels – will fall slightly. At the same time, the number of people between the ages of 55 and 64 is projected to increase by 17.8 million, or more than 73%. In other words, while the number of people between the ages of 25 and 64 is projected to increase by about 17.5 million between 2000 and 2020, the entire increase is projected to occur among people between the ages of 55 and 64. Table 1. U.S. Population Age 25 and Older, 2000 and 2020 (Numbers in thousands) Age groups Year 2000 Male Female Total 2020 Male Female Total Change % change 25 to 34 35 to 44 45 to 54 55 to 64 65 and up Total 20,121 19,772 39,893 22,448 22,701 45,149 18,498 19,181 37,679 11,646 12,630 24,276 14,410 20,582 34,992 87,123 94,866 181,989 21,271 21,523 42,794 2,901 7.3% 20,146 20,564 40,710 -4,439 -9.8% 18,991 19,846 38,837 1,158 3.1% 20,315 21,792 42,107 17,831 73.5% 23,548 30,185 53,733 18,741 53.6% 104,271 113,910 218,181 36,192 19.9% Source: U.S. Department of Commerce, Bureau of the Census. 1 U.S. Bureau of the Census, “Resident Population Projections by Sex and Age,” reproduced in the Statistical Abstract of the United States: 2001, table 13, page 15. CRS-3 Long-Term Trends in Labor Force Participation Rates The labor force participation rate – the percentage of the population that is either employed or unemployed and looking for work – varies by age and sex. Moreover, labor force participation rates have changed over time as people have responded to economic developments and as the norms and values of society have changed with respect to the employment of women and the retirement of older workers. Also, as the United States has moved from an economy based on “smokestack industries” such as mining and manufacturing to one in which producing and distributing information is paramount, there has been an increase in demand for highly-educated workers and relatively less demand for workers who are able to perform physically demanding labor. At the same time that the economy has been producing jobs that can be done by workers of more varied physical abilities, the two-earner couple has become the rule rather than the exception it was 30 or 40 years ago. Finally, with near universal coverage by Social Security and about half of all workers participating in an employer-sponsored pension or retirement savings plan, many workers now anticipate retirement as an opportunity for leisure and recreation rather than as a time of financial dependency on their children. Men aged 55 and older are less likely to participate in the labor force today than were their counterparts a half-century ago.2 According to data from the Current Population Survey (CPS) – a monthly survey conducted by the Bureau of the Census – in the 1950s, 5 out of 6 men ages 55 to 64 participated in the labor force – that is, they were either working or actively looking for work.3 (See Table 2). By 2000, only 2 in 3 men in that age group participated in the labor force. Most of the historical decline occurred over a relatively brief period, from about 1970 to the mid1980s. Among men 65 and older, the decline in labor force participation began earlier, but it also appears to have ended around 1985. Between 1950 and 1985, the labor force participation rate among men 65 and older fell from 46% to about 16%. Since the mid-1980s, the labor force participation rate among men ages 55 to 64 years has remained in the range of 66% to 68%, while the rate for those ages 65 and older has increased modestly, from 16% to 18%. From 1950 to the present, women’s labor force participation has steadily increased. Among women ages 55 to 64, the rate rose from 27% in 1950 to 45% in 1990, and to 55% in 2002. Among women 65 and older, however, the labor force participation rate has changed very little over the last 50 years, remaining between 8% and 10% over most of the 1950–2002 period. The stability of labor force participation rates among men ages 55 and older since the mid-1980s is likely attributable to several factors. First, Social Security 2 For more information, see Retirement Patterns and Bridge Jobs in the 1990s by Joseph F. Quinn, Issue Brief 206, Employee Benefit Research Institute, Washington, DC, February 1999. 3 Labor force participation rates are annual averages from the monthly CPS data. For more information on the CPS, see the BLS Handbook of Methods, Bulletin 2490 (Bureau of Labor Statistics, April 1997), ch. 1, pages 4-14. CRS-4 now covers virtually all private-sector nonfarm workers in the United States.4 The earliest age of eligibility for Social Security retired worker benefits was set at 62—for women in 1956 and for men in 1961—and has not changed since. Second, in the private sector, the expansion in pension coverage that occurred in the 1950s and 1960s had ended by 1980. About half of all workers were covered by an employersponsored retirement plan in 2002, virtually the same percentage as were covered in 1980. Finally, most traditional defined-benefit pension plans have minimum age and length-of-service requirements that must be met before pension benefits can be paid. These provisions, in effect, establish a minimum age below which retirement is not a viable option for most workers. According to the Department of Labor’s National Compensation Survey, of employees in the private sector who participated in a defined benefit pension in 2000, 23% were covered by plans that did not allow early retirement, and 67% were in plans that specified a minimum age requirement for early retirement benefits. Of workers whose pensions specified a minimum age for early retirement, 79% of were covered by plans that had a minimum retirement age of 55 years or older.5 4 Approximately one-quarter of the employees of State and local governments—about 5 million people—work for governments that have elected not to participate in Social Security. This is the only remaining large group of workers not covered by Social Security. 5 See U.S. Department of Labor, National Compensation Survey: Employee Benefits in Private Industry in the United States, 2000, Bulletin 2555 (January 2003), table 70, page 63. CRS-5 Table 2. Labor Force Participation Rates, 1950 to 2010 Men Year 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 1996 1997 1998 1999 2000 2001 2002 *2010 Women Year 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 1996 1997 1998 1999 2000 2001 2002 *2010 25 to 54 96.5% 97.4% 97.0% 96.7% 95.8% 94.4% 94.2% 93.9% 93.4% 91.6% 91.8% 91.8% 91.8% 91.7% 91.6% 91.3% 91.0% 90.9% Age groups 55 to 64 86.9% 87.9% 86.8% 84.6% 83.0% 75.6% 72.1% 67.9% 67.8% 66.0% 67.0% 67.6% 68.1% 67.9% 67.3% 68.1% 69.2% 67.0% 65 and up 45.8% 39.6% 33.1% 27.9% 26.8% 21.6% 19.0% 15.8% 16.3% 16.8% 16.9% 17.1% 16.5% 16.9% 17.5% 17.7% 17.8% 19.5% 25 to 54 36.8% 39.8% 42.9% 45.2% 50.1% 55.1% 64.0% 69.6% 74.0% 75.6% 76.1% 76.7% 76.5% 76.8% 76.8% 76.4% 76.0% 80.4% Age groups 55 to 64 27.0% 32.5% 37.2% 41.1% 43.0% 40.9% 41.3% 42.0% 45.2% 49.2% 49.6% 50.9% 51.2% 51.5% 51.8% 53.0% 55.1% 55.2% 65 and up 9.7% 10.6% 10.8% 10.0% 9.7% 8.2% 8.1% 7.3% 8.6% 8.8% 8.6% 8.6% 8.6% 8.9% 9.4% 9.7% 9.9% 11.1% Source: U.S. Department of Labor, Bureau of Labor Statistics. *Estimated by the Bureau of Labor Statistics. CRS-6 Recent Employment Trends Among People Age 55 and Older Factors that influence the rate of employment among persons aged 55 years and older include the rate of economic growth, eligibility for Social Security benefits, and both the prevalence and design of employer-sponsored pensions. P.L. 106-182, enacted on April 7, 2000, eliminated the Social Security earnings test for people at or above the “full retirement age” (currently 65), effective January 1, 2000.6 Labor force participation among people 55 and older might also be affected by the trend away from defined-benefit pension plans, which often include early-retirement subsidies and pay a guaranteed benefit for life, toward defined contribution plans, which are age-neutral in design and often pay out a single lump sum at retirement. The Employee Benefits Survey indicates that between 1993 and 1997, the proportion of full-time employees in medium and large private establishments who were covered by a defined-benefit pension plan fell from 56% to 50%, while the proportion of employees who were covered by defined-contribution plans rose from 49% to 57%.7 Data collected by the Census Bureau indicate that from 1995 to 2003, employment remained generally steady among men 55 to 61 years old and rose among women in this age group.8 (See Table 3 and Table 4). Of men ages 55 to 61, 71% were employed in 2003, compared with 72% in 1995. Employment among women ages 55 to 61 rose from 54% in 1995 to 61% in 2003. Among both men and women ages 62 to 64, employment rose steadily throughout the period. About 47% of men were employed in 2003, compared with 42% in 1995. Among women ages 62 to 64, employment increased from 31% in 1995 to 37% in 2003. Among men 65 to 69 years old, an average of 26.4% were employed each year from 1995 through 1999. From 2000 to 2003, an average of 30.7% of men in this age group were employed. Among women ages 65 to 69, the increase in employment since 1995 has been smaller. An average of 17.9% of women in this age group were employed in each year from 1995 through 1999. From 2000 through 2003, the average rate of employment among women 65 to 69 years old was 20.1%. Among both men and women age 70 and older, rates of employment changed little from 1995 through 2002. During this period, the employment rate averaged 11.5% among men 70 and older and 5.6% among women age 70 and older. 6 Beneficiaries under age 65 have their Social Security benefits reduced if their earnings exceed the threshold specified in law. In 2003 a Social Security recipient under age 65 has his or her benefits cut by $1.00 for each $2.00 earned in excess of $11,520. 7 See Employee Benefits in Medium and Large Private Establishments, 1993, Bulletin 2456 (BLS, November 1994) table 1, page 8; and Employee Benefits in Medium and Large Private Establishments, 1997, Bulletin 2517 (BLS, September 1999) table 1, page 5 . 8 The labor force participation rates discussed in the previous section were based on annual averages of monthly data. The employment data in this section are from the March supplement to the CPS, and show employment in the week prior to the CPS interview. The March CPS files were used for this analysis because they include detailed data about sources of income in the previous year. CRS used information about current labor force status rather than information about labor force status in the previous year because an individual who reported that he or she both worked and received pension income during the previous year might have worked and received pension income consecutively rather than concurrently. CRS-7 Table 3. Employment of Men Age 55 and Older, 1995 to 2003 Age in March 55 to 61 1995 1996 1997 1998 1999 2000 2001 2002 2003 62 to 64 1995 1996 1997 1998 1999 2000 2001 2002 2003 65 to 69 1995 1996 1997 1998 1999 2000 2001 2002 2003 70 and older 1995 1996 1997 1998 1999 2000 2001 2002 2003 Population (000s) Number employed (000s) Percent employed Employment: full-time part-time 6,993 7,409 7,523 7,855 8,174 8,204 8,479 9,307 9,870 5,035 5,349 5,404 5,664 5,990 5,849 6,138 6,608 7,050 72.0% 72.2% 71.8% 72.1% 73.3% 71.3% 72.4% 71.0% 71.4% 91.5% 91.2% 90.6% 91.4% 91.7% 92.3% 91.6% 91.9% 92.0% 8.5% 8.8% 9.4% 8.7% 8.3% 7.7% 8.4% 8.1% 8.0% 2,879 2,681 2,733 2,812 2,785 2,927 2,771 3,059 3,279 1,206 1,159 1,255 1,283 1,297 1,380 1,284 1,491 1,539 41.9% 43.2% 45.9% 45.6% 46.6% 47.2% 46.3% 48.7% 46.9% 79.0% 77.8% 79.2% 80.9% 78.4% 77.9% 77.2% 78.1% 79.7% 21.0% 22.2% 20.8% 19.1% 21.6% 22.1% 22.8% 21.9% 20.3% 4,395 4,522 4,321 4,286 4,298 4,376 4,449 4,451 4,318 1,169 1,237 1,150 1,085 1,136 1,330 1,328 1,358 1,385 26.6% 27.3% 26.6% 25.3% 26.4% 30.4% 29.9% 30.5% 32.1% 54.7% 56.7% 56.8% 57.0% 55.7% 60.5% 63.2% 60.0% 63.2% 45.3% 43.3% 43.2% 43.0% 44.3% 39.5% 36.8% 40.0% 36.8% 8,607 8,738 9,083 9,238 9,429 9,510 9,730 9,785 10,210 970 989 1,063 970 1,030 1,169 1,198 1,141 1,209 11.3% 11.3% 11.7% 10.5% 10.9% 12.3% 12.3% 11.7% 11.8% 44.9% 44.2% 45.7% 48.0% 44.8% 48.5% 48.1% 51.1% 54.2% 55.1% 55.8% 54.3% 52.0% 55.2% 51.5% 51.9% 48.9% 45.8% Source: CRS analysis of the annual March supplement to the Current Population Survey. CRS-8 Table 4. Employment of Women Age 55 and Older, 1995 to 2003 Age in March 55 to 61 1995 1996 1997 1998 1999 2000 2001 2002 2003 62 to 64 1995 1996 1997 1998 1999 2000 2001 2002 2003 65 to 69 1995 1996 1997 1998 1999 2000 2001 2002 2003 70 and older 1995 1996 1997 1998 1999 2000 2001 2002 2003 Population (000s) Number employed (000s) Percent employed Employment: full-time part-time 7,716 7,947 8,142 8,515 8,743 9,041 9,296 10,023 10,677 4,196 4,314 4,582 4,896 4,904 5,250 5,365 5,881 6,529 54.4% 54.3% 56.3% 57.5% 56.1% 58.1% 57.7% 58.7% 61.2% 74.1% 74.5% 77.1% 77.7% 76.8% 77.2% 77.3% 76.7% 78.2% 25.9% 25.5% 22.9% 22.9% 23.2% 22.8% 22.7% 23.3% 21.8% 3,162 3,044 3,069 3,065 3,199 3,209 3,236 3,479 3,552 975 968 1,047 1,040 1,102 1,109 1,185 1,306 1,307 30.8% 31.8% 34.1% 33.9% 34.4% 34.6% 36.6% 37.6% 36.8% 58.3% 59.3% 62.5% 61.2% 60.1% 61.4% 62.6% 61.9% 62.1% 41.7% 40.7% 37.5% 38.8% 39.9% 38.6% 37.4% 38.1% 37.9% 5,263 5,224 5,180 5,075 5,022 4,976 4,933 5,146 5,121 919 865 936 941 941 983 947 982 1,152 17.5% 16.6% 18.1% 18.5% 18.7% 19.7% 19.2% 19.1% 22.5% 36.3% 40.4% 42.1% 44.5% 40.9% 44.2% 42.3% 49.6% 51.7% 63.7% 59.6% 57.9% 55.5% 59.1% 55.8% 57.7% 50.4% 48.3% 13,001 13,174 13,294 13,484 13,646 13,759 13,866 14,388 14,585 650 681 639 740 807 816 840 850 896 5.0% 5.2% 4.8% 5.5% 5.9% 5.9% 6.1% 5.9% 6.1% 30.4% 30.3% 32.8% 31.9% 35.0% 36.3% 39.3% 38.0% 40.7% 69.6% 69.7% 67.2% 68.1% 65.0% 63.7% 60.7% 62.0% 59.3% Source: CRS analysis of the annual March supplement to the Current Population Survey. CRS-9 Retirement Income Among Older Workers An important consideration for anyone who is deciding whether to retire is whether the income available in retirement will be adequate to maintain his or her desired standard of living. Table 5 shows the proportion of men and women aged 55 and older who reported on the CPS that they received pension income of some kind during the calendar year prior to the survey. In this table, “pension income” includes employer-sponsored pensions (including military retirement), veterans’ pensions; and periodic payments from annuities, insurance policies, individual retirement accounts, 401(k) accounts, and Keogh plans for the self-employed. Not surprisingly, the proportion of men and women who receive income from a pension or other retirement plan increases with age. In 2002, only 18% of men ages 55 to 64 received income from a pension or other retirement plan; among those 65 years and older, however, 44% had income from pensions or retirement savings plans. The patterns among women are similar: only 11% of 55- to 64-year-old women received income from pensions or retirement savings plans in 2002, while 27% of those aged 65 years and older received such income. The 18% of men ages 55 to 64 who were receiving pension income represents a decline from 23% in 1994. Over the same period, the proportion of men ages 65 and older receiving pension income fell from 47% to 44%. The proportion of women ages 55 to 64 with pension income was more stable, at 11% to 12% throughout the 1994–2001 period. Among women 65 and older, 27% received income from pensions and retirement savings plans in 2002, about one percentage point less than in 1994. To study the relationship between the employment rates shown in Tables 3 and 4 and the data on receipt of pension distributions shown in Table 5, we grouped the men and women into two age groups, 55 to 64 and 65 and older and calculated the correlation coefficient between employment and receipt of pension income. Among men, there is a strong negative correlation between receipt of pension income and employment. Over the period from 1995 to 2003, the correlation between receipt of pension income and current employment was -0.75 for men 55 to 64 years old and -0.74 for men 65 and older. These statistics no not tell us, however, why employment has risen among men 55 and older while the receipt of pension income has fallen. One possible explanation is that each year a smaller percentage of workers are covered by defined benefit plans, which often have generous early retirement subsidies and pay a monthly benefit that is guaranteed for life. Workers whose main retirement plan is a defined contribution plan (such as a 401(k)) might be choosing to delay retirement in order to build up larger account balances – or in the wake of recent declines in the stock market – to make up for investment losses. Among women, employment rates and the receipt of pension income are not strongly correlated (0.16 for women 55-64 and 0.20 for women 65 and older). This is partly due to the fact that the rate of labor force participation among women under age 65 has been rising steadily over many years. Thus, one reason that the percentage of all women 55 and older who receive pension income has not fallen along with that of men is that an increasing percentage of women have earned retirement benefits through their own employment. This could mask a decline in the percentage of working women who are (or will be) eligible to receive pension distributions. CRS-10 Table 5. Receipt of Income From Employer Pensions and Retirement Savings Plans Men 1995 1996 1997 1998 1999 2000 2001 2002 2003 Women 1995 1996 1997 1998 1999 2000 2001 2002 2003 All individuals age 55 and older (000s) Individuals 55 to 64 years old Individuals age 65 and older Number of Number of Number of Number of people recipients Percentage people recipients Percentage 9,872 2,303 23.3% 13,001 6,108 47.0% 10,090 2,279 22.6% 13,260 6,206 46.8% 10,256 2,177 21.2% 13,404 6,316 47.1% 10,667 2,152 20.2% 13,524 6,317 46.7% 10,959 2,195 20.0% 13,727 6,457 47.0% 11,131 2,174 19.5% 13,886 6,358 45.8% 11,249 2,124 18.9% 14,179 6,099 43.0% 12,366 2,371 19.2% 14,235 6,276 44.1% 13,149 2,372 18.0% 14,527 6,414 44.2% 10,878 10,991 11,210 11,580 11,943 12,250 12,532 13,501 14,229 1,316 1,164 1,287 1,253 1,403 1,439 1,475 1,525 1,572 12.1% 10.6% 11.5% 10.8% 11.7% 11.7% 11.8% 11.3% 11.0% 18,264 18,398 18,474 18,559 18,668 18,735 18,799 19,535 19,706 5,252 5,025 4,933 5,114 5,186 5,513 5,426 5,412 5,379 28.8% 27.3% 26.7% 27.6% 27.8% 29.4% 28.9% 27.7% 27.3% Source: CRS analysis of the March supplement to the Current Population Survey. Notes: Retirement plans may include a traditional pension, a retirement savings plan, or both. The income year is the year when the income was received, which is the calendar year preceding the March CPS interview. Work by Recipients of Retirement Income. The data displayed in Table 5 show the number and percentage of people 55 and older who received pensions or distributions from retirement accounts. The data in Table 6 show that, among men ages 55 to 64 who received income from a pension or retirement savings plan during 2002, 34.9% were employed either full or part time in March 2003 – a decrease of 3.4 percentage points from the 38.3% who were employed in 2002. Relatively few men age 65 or older who receive income from pensions or retirement savings plans also engage in paid employment: only 10% to 12% were employed, on average, over the 1995–2003 period. Women who receive pension income are less likely than men to be employed. Among 55- to 64-year–old women who received income from a pension or retirement savings plan in 2002, 33.7% were employed in March 2003, an increase of 4.9 percentage points from the level of March 2002. The average rate of employment for these women from 1995 to 2003 was 30.3%. Among women age 65 or older who received income from a pension or retirement savings plan, only 6% to 8%, on average, were employed during the 1995–2003 period. CRS-11 Table 6. Employment of Recipients of Employer Pensions and Retirement Savings Plans, Age 55 and Older Men 1995 1996 1997 1998 1999 2000 2001 2002 2003 Women 1995 1996 1997 1998 1999 2000 2001 2002 2003 Retirement income recipients age 55 and older (000s) Recipients, age 55 to 64 Recipients, age 65 and older Number of Number Number of Number recipients employed Percentage recipients employed Percentage 2,303 864 37.5% 6,108 727 11.9% 2,279 831 36.5% 6,206 726 11.7% 2,177 832 38.2% 6,316 724 11.5% 2,152 778 36.2% 6,317 648 10.3% 2,195 870 39.7% 6,457 706 10.9% 2,174 799 36.7% 6,358 739 11.6% 2,124 797 37.5% 6,099 721 11.8% 2,371 907 38.3% 6,276 739 11.8% 2,372 827 34.9% 6,414 745 11.6% 1,316 1,164 1,287 1,253 1,403 1,439 1,475 1,525 1,572 410 324 416 363 370 442 488 439 530 31.2% 27.9% 32.3% 29.0% 26.3% 30.7% 33.1% 28.8% 33.7% 5,252 5,025 4,933 5,114 5,186 5,513 5,426 5,412 5,379 326 281 277 404 426 401 436 393 425 6.2% 5.6% 5.6% 7.9% 8.2% 7.3% 8.0% 7.3% 8.0% Source: CRS analysis of the March income supplement to the Current Population Survey. Note: Retirement plans may include a traditional pension, a retirement savings plan, or both. The income year is the year prior to the survey. Employment is in current year. Social Security Retirement Benefits Age When Benefits Begin. Currently, the “full retirement age” under Social Security is 65 years and 2 months. Social Security retired-worker benefits are first available at age 62, but benefits that begin before the full retirement age are subject to a permanent actuarial reduction equal to 5/9% for each month under age 65. At age 62, this results in a benefit equal to 80% of the amount that the worker would have received without the reduction. As a result of the Social Security Amendments of 1983 (P.L. 98-21), the Social Security full retirement age is being increased to 67 incrementally over a 22-year period. Reduced benefits will continue to be available as early as age 62, but when the full retirement age reaches 67, the benefit payable at 62 will be just 70% of the amount that would be paid if not for the early retirement reduction. CRS-12 Most people choose to begin receiving Social Security retirement benefits before age 65. The data presented in Table 7 show that approximately 75% of men and 80% of women who began receiving Social Security retired worker benefits between 1990 and 2001 applied for benefits before age 65. The percentage of awards to women age 65 and older increased in 1997 and 1998. This was the result of an outreach effort by the Social Security Administration to convert non-disabled widow beneficiaries to the higher benefits to which they were entitled as retired workers. In 2000, the distribution of benefit awards to retired workers shifted substantially, with a higher-than-average percentage of new benefits awarded to persons 65 and older. This was mainly attributable to the repeal of the Social Security earnings test for workers who are at or above the Social Security normal retirement age. Prior to 2000, the earnings test reduced the Social Security benefits of recipients under age 70 whose earnings exceeded specific thresholds. P.L. 106182 eliminated the earnings test for people at the full retirement age (currently 65) or older, effective January 1, 2000.9 The earnings test now applies only to Social Security beneficiaries who are under the normal retirement age. With the repeal of the earnings test for people age 65 and older, workers who had deferred receipt of Social Security benefits because their earnings would have resulted in a benefit reduction had an incentive to apply for Social Security benefits. Workers who delay receipt of benefits until they are beyond the full retirement age remain eligible for the delayed retirement credit, which permanently increases their benefits, thus creating an incentive for older workers to remain in the labor force. 9 In 2003 a Social Security recipient under age 65 can earn up to $11,520 without having his or her benefit reduced, but benefits are cut by $1.00 for each $2.00 earned in excess of that amount. CRS-13 Table 7. Social Security Retired Worker Benefit Awards, by year Age in year when retired worker benefits began 62 to 64 65 Over 65 Men 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Percentage Awards of all awards 637,100 74.4% 656,000 73.7% 661,000 74.7% 664,500 75.8% 625,800 76.5% 614,700 76.1% 597,100 76.3% 604,500 76.0% 605,500 76.2% 623,800 75.9% 637,000 64.5% 650,000 75.1% 62 to 64 Women 1990 1991 1992 1993 1994 1995 1996 *1997 *1998 1999 2000 2001 Percentage Awards of all awards 494,800 80.0% 497,800 79.3% 519,500 80.6% 514,400 80.1% 513,700 81.9% 492,900 79.9% 496,700 80.9% 495,300 67.2% 506,100 76.4% 524,800 79.1% 574,700 74.5% 556,200 78.5% Percentage Awards of all awards 158,300 18.5% 171,400 19.3% 164,500 18.6% 158,100 18.0% 144,600 17.7% 144,400 17.9% 133,700 17.1% 134,900 17.0% 133,800 16.8% 139,200 16.9% 226,000 22.9% 179,000 20.7% 65 Percentage Awards of all awards 85,900 13.9% 95,200 15.2% 88,800 13.8% 95,900 14.9% 81,700 13.0% 87,800 14.2% 85,300 13.9% 85,300 11.6% 90,700 13.7% 92,000 13.9% 118,700 15.4% 102,000 14.4% Awards 60,800 62,300 58,900 54,400 47,100 48,700 51,300 56,400 55,200 58,700 124,800 36,700 Percentage of all awards 7.1% 7.0% 6.7% 6.2% 5.8% 6.0% 6.6% 7.0% 7.0% 7.2% 12.6% 4.2% Over 65 Percentage Awards of all awards 37,700 6.1% 34,600 5.5% 36,300 5.6% 32,100 5.0% 31,600 5.0% 36,300 5.9% 32,000 5.2% 156,400 21.2% 65,900 9.9% 46,400 7.0% 77,700 10.1% 50,100 7.1% Source: Annual Statistical Supplement to the Social Security Bulletin, various years. *Note: Special outreach programs by the Social Security Administration resulted in an above-average number of conversions of non-disabled widows to retired worker benefits in 1997 and 1998. Initial awards exclude conversions from disabled worker benefits to retired worker benefits. Retired Worked Beneficiaries as a Percentage of Each Age Category. The data presented in Table 8 show that in 2001 the proportion of men ages 62 to 64 who were receiving benefits was three percentage points lower than in 1995. This decline coincided with the rising employment rates among men in this age group. The decline in the percentage of 62- to 64-year-old men receiving Social CRS-14 Security benefits during this period could have several causes including, general business cycle trends, the move away from defined benefit plans to defined contribution plans among employers in the private sector, and the desire among workers under age 65 to remain covered under an employer-sponsored health insurance plan until they become eligible to participate in Medicare at age 65. Among women ages 62 to 64, the proportion who were receiving Social Security benefits rose steadily from 1990 to 2001, rising from 55.6% in 1990 to 64.5% in 2001. This trend is consistent with the long-term increase in the labor force participation rate among women, and the growing proportion of women who are eligible for Social Security benefits based on their own earnings histories rather than as spouses of retired workers. Table 8. Social Security Retired Worker Beneficiaries, by year (Retired worker beneficiaries, in thousands) 62 to 64 65 to 69 Men 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Women 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Percentage Number of age group 1,336 43.7% 1,345 43.7% 1,351 43.9% 1,350 44.5% 1,353 44.8% 1,320 44.7% 1,293 44.6% 1,278 43.0% 1,286 42.6% 1,302 42.5% 1,330 42.7% 1,333 41.6% 62 to 64 Percentage Number of age group 3,898 83.8% 3,896 84.0% 3,937 84.5% 3,946 84.5% 3,906 83.6% 3,900 83.4% 3,871 83.1% 3,836 83.8% 3,783 83.5% 3,790 84.3% 4,076 90.8% 4,125 91.4% 65 to 69 Percentage Number of age group 1,167 34.2% 1,150 33.7% 1,137 33.7% 1,126 33.9% 1,139 34.5% 1,128 35.0% 1,126 35.6% 1,131 35.1% 1,156 35.3% 1,180 35.6% 1,223 36.1% 1,237 35.9% Number 3,067 3,062 3,098 3,104 3,065 3,058 3,046 3,053 3,036 3,070 3,209 3,284 Percentage of age group 55.6% 55.7% 56.4% 56.7% 56.5% 56.7% 57.0% 58.1% 58.8% 60.1% 63.1% 64.5% 70 and over Percentage Number of age group 7,751 91.7% 7,985 91.8% 8,186 91.9% 8,354 91.7% 8,536 91.3% 8,694 91.2% 8,848 90.6% 9,012 90.6% 9,138 90.2% 9,238 89.9% 9,366 90.3% 9,473 90.3% 70 and over Number 7,607 7,836 8,037 8,218 8,404 8,570 8,715 8,972 9,112 9,203 9,302 9,390 Percentage of age group 55.9% 56.4% 56.7% 57.1% 57.4% 57.7% 57.8% 58.9% 59.3% 59.4% 59.7% 60.0% Source: Annual Statistical Supplement to the Social Security Bulletin, various years. CRS-15 Older Workers and “Phased Retirement” In the traditional view of retirement, a worker moves from full-time employment to complete withdrawal from the labor force in a single step. In fact, however, some workers choose to continue working after they have retired from their “career” jobs. The process of retiring often occurs gradually over several years, with many workers retiring from year-round, full-time employment and moving to parttime or part-year work at another firm, often in a different occupation. The data in Table 6, for example, show that 35% of men and 34% of women aged 55 to 64 who received income from private pension plans in 2002 were employed in March 2003. As members of the baby-boom generation begin to retire, millions of skilled and experienced workers will exit the labor force. As this occurs, employers may find it necessary to alter their employment practices and pension plans to induce some of those who would otherwise retire to remain on the job, perhaps on a part-time or partyear schedule. This process is sometimes referred to as phased retirement. No statutory definition of phased retirement exists, but one analyst has described it as “the situation in which an older individual is actively working for an employer part time or [on] an otherwise reduced schedule as a transition into full retirement. [It] may also include situations in which older employees receive some or all of their retirement benefits while still employed.”10 Advocates of phased retirement contend that many people would choose to continue working if employers could offer them the opportunity to collect pension benefits while still on the employer’s payroll. Under current law, this option can be offered only to employees who have reached a pension plan’s normal retirement age. Some employers have suggested phased retirement would be embraced by more firms if this option could be offered to employees at the plan’s early retirement age. Employers generally would prefer to offer the option of receiving these “in-service” distributions only to selected categories or classifications of plan participants.11 In order for either of these actions to be taken, however, the Internal Revenue Code and the Employee Retirement Income Security Act (ERISA) would need to be amended.12 Current Approaches to Phased Retirement. Recent surveys of employers indicate that few have adopted formal phased retirement programs. A study conducted by Watson Wyatt Worldwide in 2000 found that 16% of the 586 firms participating in the survey offered some form of phased retirement to their employees.13 Of 232 employers surveyed by William M. Mercer, Inc. in 2001, 23% 10 Testimony of Wilma K. Schopp on behalf of the Association of Private Pension and Welfare Plans before the U.S. Senate Special Committee on Aging, April 3, 2000. 11 This discussion refers to in-service distributions under defined benefit pension plans. Inservice distributions under defined contribution plans are discussed later in this report. 12 See, for example, New Opportunities for Older Workers, issued by the Committee for Economic Development, Washington, DC, 1999. 13 Laurene A. Graig and Valerie Paganelli, “Phased Retirement: Reshaping the End of Work,” Compensation and Benefits Management, vol. 16 no. 2 (Spring 2000). CRS-16 reported that they had adopted formal policies to accommodate phased retirement.14 Although the firms participating in these surveys might not be representative of all employers, their practices with respect to phased retirement offer some insights into the strategies that firms have been able to employ under current law and regulations to promote phased retirement among their employees. Employers have devised a number of strategies to retain the services of valued employees who are eligible for retirement and who might be lost to the firm if the only options available were full-time employment or full-time retirement. Some firms allow retirement-eligible employees to work fewer days per week or fewer hours per day. Some also permit employees to reduce their workload through jobsharing. Firms will sometimes rehire retired employees on a part-time or temporary basis, or bring them back as contractors rather than as employees of the firm. Note that two of these arrangements—hiring retired former employees on a part-time or temporary basis and hiring retirees as contractors—require the individual to separate from the firm before returning under an alternative work arrangement. This introduces considerable uncertainty into the process for both the retiree and the employer, because once the employment relationship is severed, neither party is legally bound to renew it. Phased Retirement and Pension Distributions. Unless an employee has reached the pension plan’s normal retirement age, the plan cannot pay retirement benefits to the individual while he or she remains employed by the firm, even if only on a part-time basis. A plan that pays benefits to an employee that has not yet reached the plan’s normal retirement age could lose its tax-qualified status.15 In order to qualify for the favorable tax status granted to tax-qualified pension plans, the plan must pay benefits only on condition of death, disability, termination of employment, plan termination, or at the normal retirement age.16 An employee who has reached the pension plan’s normal retirement age can begin to receive distributions from the plan, even if he or she continues to be employed by the firm.17 Likewise, an employee who has reached the plan’s early retirement age can begin to receive distributions from the plan upon separation from the firm, provided that he or she has met the required number of years of service stipulated by the plan. If a participant has separated from the employer and has begun to receive distributions from the plan at the early retirement age, he or she can continue to receive these distributions, even if at some future date the participant becomes re-employed by the plan sponsor. In 14 Anna M. Rappaport, “Employer Strategies for Changing Workforce: Phased Retirement and Other Options,” Benefits Quarterly, volume 17 (4), Fourth Quarter 2001. 15 In a “tax-qualified” plan, employer contributions to the plan are deductible business expenses for the firm and neither the employer contributions nor investment earnings on those contributions are counted as income to the employee in the years that they occur; instead, pensions are taxed as income when the benefits are paid to plan participants in retirement. Usually, retirees are taxed at a lower marginal tax rate than when they worked. 16 17 Code of Federal Regulations, § 1.401-1(b)(1)(i). If a plan participant continues to work for an employer beyond the plan’s normal retirement age, the plan must meet the statutory requirements for continued benefit accruals; see 26 U.S.C. § 411(b)(1)(H). CRS-17 order to retain the plan’s tax-qualified status, however, the employer may be required to demonstrate to the Internal Revenue Service that “both a bona fide retirement (or other termination of employment) and a legitimate rehire have occurred.”18 Policy Issues. Some employers see the statutory prohibition on making inservice pension distributions to employees who have not yet reached normal retirement age as an obstacle to establishing phased retirement plans. Some older workers would find it financially impractical to cut back to a part-time or part-year work schedule if they were unable to supplement their earnings with pension income. One way for a firm to offer phased retirement to these workers under current law, without jeopardizing the tax-qualified status of its pension plan, would be to lower the normal retirement age. For example, if the normal retirement age under the plan is 62 years and the early retirement age is 55 years, the firm could reduce the normal retirement age to some age between 55 and 61. From the employer’s point of view, there would be at least two potential drawbacks to such an approach. First, it could result in an unintended exodus of workers into retirement, because all eligible plan participants would be able to receive full pension benefits at an earlier age than previously. Second, it could result in a dramatic increase in the cost of funding the plan, because full benefits would be payable at a younger age. Rather than reduce the normal retirement age in their pension plans, some employers would prefer that Congress amend the Internal Revenue Code to allow inservice pension distributions to employees who have reached the plan’s early retirement age (or some age between the early and normal retirement ages).19 Some observers believe, however, that such a policy would be contrary to the main purpose of pension plans, which is to replace wage income during retirement. These critics say that if employers were permitted to pay pension benefits to individuals still engaged in gainful employment, the benefits would become a tax-subsidized supplement to wages, paid to individuals who are still able to work. They argue that pension benefits are intended to be a substitute for wages and should be paid only to retired workers. Permitting in-service distributions to current employees who have not reached the plan’s normal retirement age might allow employers to compensate current employees with pension funds, effectively reducing their operating expenses by shifting some costs that would otherwise be paid as wages to the pension fund. In 2002, about 2.5 million workers in the United States received pension payments from a former employer. More than 1.3 million of these workers were under age 65. (See Table 6.) Current law allows an individual who has separated from a firm and is receiving pension distributions under an early retirement provision of the plan to become re-employed by that firm, while continuing to receive those benefits. Some employers have argued that it should be permissible to allow eligible employees to receive partial distributions under an early retirement provision without first having to separate from the employer and then be rehired. Such an option would require an amendment to the Internal Revenue Code. However, plan sponsors currently have the option of setting the normal retirement age at any age not greater 18 Vivian Fields and Robert Hutchens, “Regulatory Obstacles to Phased Retirement in the For-Profit Sector” Benefits Quarterly, volume 18 (3), Third Quarter 2002. 19 Requirements for qualification of pension plans are defined at 26 U.S.C. § 401(a). CRS-18 than 65, and the early retirement age at any age under the normal retirement age, provided that the plan complies with the statutory requirements with respect to benefit accrual, vesting of benefits, nondiscrimination on the basis of age, and other plan characteristics. An amendment to the tax code to permit in-service distributions at the early retirement age would alter incentives to work or retire, as well as how much to work and for whom to work. Consequently, it would affect both labor force participation and hours worked among older employees. The net effect of these changes in labor force participation and hours worked would be almost impossible to predict. Some workers who otherwise would have fully retired before the plan’s normal retirement age would choose instead to continue working for their current employer on a reduced schedule, because they would be able to take partial pension distributions while still employed. This would tend to increase labor force participation. Other workers who would have taken early retirement and then sought other employment might choose instead to remain with their current employer on a reduced schedule. The effect of this change in behavior on hours worked might be close to neutral, depending on the wages available from alternative employment and the income received from pension distributions. Finally, some employees who otherwise would have chosen to continue working until reaching the plan’s normal retirement age might instead reduce their work schedule and supplement their earnings with partial distributions from the retirement plan. This would tend to reduce total hours worked. Distributions from 401(k) Plans. Coverage under defined contribution plans, such as those authorized under section 401(k) of the Internal Revenue Code, grew rapidly during the 1990s. Between 1991 and 1997, the proportion of workers in medium and large private-sector establishments (those with 100 or more employees) who participated in defined contribution retirement plans increased from 49% to 57%.20 The trend among small establishments (those with fewer than 100 employees) was similar. In 1996, 38% of employees in small private establishments participated in defined contribution retirement plans, compared with 28% in 1990.21 In-service distributions from defined contribution plans that occur before the participant reaches age 59½ are subject to a 10% excise tax in addition to ordinary income taxes. Distributions may begin as early as age 55, however, if the employee separates from his employer under an early retirement plan. Some advocates of phased retirement arrangements have suggested that the minimum age for in-service distributions from defined contribution plans should be lowered to age 55 from 59½.22 The effect on labor force participation of such a change in tax policy would 20 Employee Benefits in Medium and Large Private Establishments, Bulletin 2422 (Bureau of Labor Statistics, May 1993) and Employee Benefits in Medium and Large Private Establishments, Bulletin 2517 (Bureau of Labor Statistics, September 1999). 21 Employee Benefits in Small Private Establishments, Bulletin 2388 (Bureau of Labor Statistics, September 1991) table 1, page 5; and Employee Benefits in Small Private Establishments, Bulletin 2507 (Bureau of Labor Statistics, April 1999), table 1, page 5. 22 It might also seem reasonable that if legislation were passed to allow in-service distributions from an employer’s defined benefit plan at the plan’s early retirement age, then (continued...) CRS-19 likely be very similar to the effect of allowing in-service distributions from a defined benefit plan at the plan’s early retirement age. Some workers who might have fully retired from the labor force earlier than age 59½ so that they could begin taking distributions from the plan would be induced to work longer. Others who would have taken early retirement and then sought work elsewhere would remain with their current employers, because they would be able to combine wages from part-time work with distributions from the retirement plan. Finally, some employees who otherwise would have chosen to continue working until age 59½ or later would reduce their work schedules and supplement their earnings with distributions from the retirement plan. H.R. 4837 and S. 2853 of the 106th Congress, both titled the Phased Retirement Liberalization Act would have amended the Internal Revenue Code to permit inservice (preretirement) distributions from a defined benefit or defined contribution plan when the participant has either reached the plan’s normal retirement age, reached age 59½, or has completed 30 years of service, whichever comes first. Currently, such distributions cannot be made from a defined benefit plan before the participant has reached the plan’s normal retirement age or from a defined contribution plan before age 59½. Neither bill has been introduced in the 108th Congress. Flexibility versus Nondiscrimination. Pension plans that provide benefits mainly to the owners of a firm or to highly paid employees do not qualify for favorable tax treatment under the Internal Revenue Code.23 The tax code defines specific tests that must be applied to a pension plan to determine whether or not it discriminates in favor of highly compensated employees in terms of either benefits or employer contributions.24 These tests consist mainly of mathematical computations of the percentage of plan participants who are highly compensated employees and the percentage of contributions to the plan or benefits paid by the plan that are made on behalf of highly compensated employees. 22 (...continued) distributions from the employer’s defined contribution plan should be permitted at the same age (perhaps with a lower limit of 55). However, such a policy would suffer from at least two drawbacks. First, the minimum age for in-service distributions from defined contribution plans, which is now the same for all such plans, would differ from firm to firm, thus making the retirement planning process even more confusing for workers and their families. Second, it would be administratively difficult—and in some cases, perhaps, impossible—to tie the minimum age for in-service distributions in the defined contribution plan to the early retirement age specified in the employer’s defined benefit plan. 23 26 U.S.C. § 401(a)(4) states that a qualified pension trust is one in which “the contributions or benefits provided under the plan do not discriminate in favor of highly compensated employees (within the meaning of section 414(q)).” The term “highlycompensated employee” is defined at 26 U.S.C. § 414(q) as a person who is at least a 5percent owner of the firm or is paid compensation of at least $85,000 and is among the top 20 percent of employees in the firm with respect to compensation. 24 26 U.S.C. § 410(b). CRS-20 It is a relatively common practice for firms to establish separate nonqualified retirement plans for company owners and senior executives. However, if a plan that was originally established as a tax-qualified plan were subsequently found to discriminate in terms of coverage or benefits in favor of highly compensated employees, it could lose its tax-qualified status. In most of these cases, the only viable options available to the plan sponsor would be to remove the discriminatory provisions of the plan or terminate the plan. Covering rank-and-file employees under a nonqualified plan usually would not be practical because of the substantial tax liability that would result for both the plan sponsor and plan participants. In general, employers would prefer the flexibility to offer phased retirement to some—but not all—pension plan participants. Some analysts have suggested that, even if Congress were to amend the Internal Revenue Code to allow in-service distributions from pension plans before the normal retirement age, it would do little to spur the growth of phased retirement unless employers also were permitted to limit eligibility for this benefit to employees with particular skills or abilities. However, a phased retirement option that offered in-service distributions only to managerial or professional employees could result in the plan failing to meet the nondiscrimination requirements of the Internal Revenue Code by altering the distribution of benefits among plan participants in a way that favored the highly compensated group.25 In contrast, a phased retirement option that offered in-service distributions to all participants meeting specified age and length-of-service requirements would not conflict with the IRC anti-discrimination requirements. Section 410(b) of the Internal Revenue Code prescribes specific tests for determining if a pension plan’s coverage or benefits discriminate in favor of highly compensated employees. These tests are mathematical calculations that reveal the proportion of plan participants who are highly compensated employees and the proportion of contributions or benefits that are made on behalf of highly compensated employees. Some plan sponsors who would like to implement phased retirement programs would prefer to have these tests for nondiscrimination replaced by the more subjective method of testing that was in effect until 1994, which was based on the “facts and circumstances” surrounding the operation of the plan. In some cases, a phased retirement option that fails the mathematical tests for nondiscrimination that are required under current law might not fail if it could be tested under the earlier (pre-1994) approach. On May 14, 2003, the House of Representatives passed H.R. 1000, the Pension Security Act of 2003 by a vote of 271-157. Among many other pension reforms, this bill would have authorized the Secretary of the Treasury in some cases to employ a test based on facts and circumstances in testing for nondiscrimination. The bill has been referred to the Senate Committee on Health, Education, Labor, and Pensions. 25 Employers whose approach to phased retirement does not affect eligibility for pension distributions are less likely to violate the IRC nondiscrimination provisions. Examples would be phased retirement plans that involve only reductions in hours of work, job sharing, transfers to other duties, or that are based on rehiring retired former employees. These are conditions of employment rather than characteristics of the pension plan. CRS-21 Policy Responses to an Aging Population The federal government influences employers’ decisions about whether to offer benefits like pensions and health insurance through direct regulation, such as ERISA and the Age Discrimination in Employment Act; through social insurance programs, such as Social Security and Medicare; and through the financial incentives created for both employers and employees by the Internal Revenue Code. In turn, workers’ decisions about where they will work and how much they will work are directly affected by employers’ decisions about the amount and type of compensation that they offer to employees. Social insurance programs and the tax code differ from direct regulation in that their primary objectives are, respectively, to provide benefits to individuals and to collect revenue for government operations. Nevertheless, both Social Security and the tax code affect the labor market behavior of employers and workers by establishing financial rewards or sanctions for certain actions. Given that the aging of the population and the impending retirement of the baby-boom generation are likely to affect the supply of labor and the productive capacity of the economy, both the Social Security Act and the tax code may be amended to provide incentives for people to work longer. The rules that govern eligibility for Social Security benefits can have a substantial influence on workers’ decisions about when to retire. Empirical evidence indicates that more retirements occur at age 62—the earliest age at which reduced retired worker benefits are available—and age 65—the earliest age at which full retired worker benefits are available—than at other ages. The “earnings test,” which reduces benefits for some Social Security beneficiaries who work, and the “delayed retirement credit,” which increases benefits for workers who defer their benefits until after age 65, also may influence one’s decision to work (and how much to work) after becoming eligible for Social Security. At times, each of these provisions has been amended to provide greater incentives for individuals who are eligible for Social Security to continue working. The Social Security Amendments of 1983 mandated a gradual increase in the age at which individuals are eligible for full retirement benefits from its current level of 65 years to 67 years in 2022. As a result, the actuarial reduction in Social Security benefits for those who retire at 62 will increase from 20% to 30%, creating a financial incentive to delay receipt of Social Security and continue working. The 1983 amendments also provided for an increase in the delayed retirement credit (DRC) for workers who defer their application for Social Security benefits until after age 65. In 1977, Congress set the DRC at 3 percent, meaning that benefits were permanently increased by 3% for each year that a worker delayed receipt of Social Security beyond age 65. The 1983 amendments provided for a gradual increase in the DRC beginning in 1990. When fully phased-in, the DRC will be 8% per year for people who turn age 65 in 2008 or later, which will result in a DRC that is close to being “actuarially fair” for the average worker. In April of 2000, the Social Security Act was amended to repeal the earnings test for beneficiaries who are 65 or older. As a result of P.L. 106–182, the earnings test was eliminated for people at the full retirement age (currently 65 years) or older, CRS-22 effective January 1, 2000. The earnings test remains in effect, however, for beneficiaries who are under the full retirement age. In 2003, Social Security recipients under age 65 have their benefits reduced by $1 for each $2 of earnings in excess of $11,520. Some employers are calling on Congress to amend the tax code to allow employers greater flexibility in designing phased retirement programs for their employees. One proposed amendment would permit pension in-service distributions to employees who have not reached the pension plan’s normal retirement age. This, employers say, would allow them to offer older employees the chance to cut back their work schedules to part time, while supplementing their reduced salaries with pension income. Under current law, such an arrangement would be permissible only for plan participants who have reached the plan’s normal retirement age. Allowing in-service pension distributions to begin when a participant has reached the earliest of a plan’s normal retirement age, age 59½ , or the completion of 30 years of service might promote continued employment among older workers who—if given the choice between working full time and taking early retirement—would otherwise have chosen to retire. A more complicated issue is whether employers should be permitted to offer such an option only to specific categories of workers.