Is ‘Flexible Benefits’ a Talent Strategy Game-Changer or an Oxymoron?

Employers regale new employees with all the fabulous benefits that comprise their total rewards package. Some employees will be attentive when the terms of the defined benefit (DB) pension plan are reviewed; others will doze off. Most will show interest in the vacation policy and list of paid holidays. Parents of young children may take notes during the healthcare plan presentation.

Each worker will place different values on the package’s elements. So, why is it typically the same for everyone?

Despite what seems like a perfectly logical strategy (at least from an economic perspective) to offer the same for everyone, the fact that individual valuations of each component argue against homogeneity. The typical benefits package was designed for a male employee with a spouse and 2.1 children at home — a profile that fits less than 10% of an organization’s workforce.

This article delves into whether individual choice in benefits result in:

• Increased costs for the employer and employee; and/or,
• Improved hiring and retention success.

The Behavioral Case for Customization

Benefits package elements indeed will be valued differently by employees, depending on their age, family status and/or personal priorities.

DB pension plans will have greater perceived value to someone closer to retirement age than someone early in their career. Individuals planning a career that will involve changing employers, if necessary, to further their career are likely to believe vesting requirements won’t be met, dramatically reducing the plan’s perceived value. However, if the retirement plan is a defined contribution (DC) plan, the value assigned will probably be higher, since accrued benefits are transportable across employers.

Healthcare insurance coverage also is likely to have differing perceived values. Single people in their 20s are more likely to “roll the dice” and adopt lower-cost coverage, if permitted, than someone in their 50s who has family responsibilities. If a significant number of 20-somethings opt out and are replaced with 50-somethings, the overall plan costs to both the employer and employee are likely to increase substantially.

The perceived value of vacation and paid time off (PTO) policies often differs as well, although demographics may not be a major determinant. Some just prefer more time away from work and/or the ability to work when and where they choose.

Assuming operational requirements make flexibility possible, it may be difficult to sell a regimented “one option for all” policy. The COVID-19 pandemic completely changed the game, and employers feel the impact as they attempt to modify policies to fit the new realities.

Alternative Philosophies

If economic maximization is the determinant of policy formulation, the goal of every plan and package should be to maximize the perceived after-tax current value of every offering. Studies conducted for organizations that used this philosophy showed employers are often surprised about how employees value programs. The study used a methodology that offered several options that had similar after-tax costs to employers. Employees were asked to rank the desirability of each choice to them. This produced a guide for deciding whether the current package was mutually ideal. It also guided decisions about adding new benefits, cancelling existing plans or modifying plan terms.

Some of the surprises included discovering that employees placed very little value on improvements to the death benefit or accidental death and dismemberment (AD&D) provisions. Even though AD&D plans are inexpensive for employers, that may not justify having rich plans, given employees’ lack of appreciation. In fact, AD&D plans’ low cost also speaks to the relatively few claims made.

Asking whether employees would prefer a base pay increase of a certain amount or an additional holiday will result in a wide variety of answers. The rigidity of the “one option for all” approach makes the likely impact of a specific action unclear (some will value it highly; others not at all).

An alternative is to acknowledge the diversity of relative preferences within the workforce by implementing flexible benefit options. For example, employees may be allowed to buy or sell PTO days back at 1/260 of their salary and use those funds on other options (e.g., healthcare coverage) or to increase the premium co-share of another less-desirable benefit option. Since PTO is intended to enable employees to physically and mentally replenish themselves, allowing a sale of all days would seem unwise. Therefore, accrued days more than 10 could be eligible for sale. Many employees don’t take all their PTO (because of dedication or because of a fear that someone else will occupy their office before their return). PTO carryover is a common option, and even required in several states, even though that violates the principle of people needing time off. Besides, accrued PTO can result in the entry of a liability on the financials. A siloed vacation policy could be revised to be a PTO plan, which satisfies the concern about not having adequate coverage if an illness results in more time than provided for in the benefits plan.

Administering Flexible Benefits Plans

Providing choice has historically been challenging. An organization attempting to move to flexible benefits in the early days typically received premium quotes that varied by more than 300%, due to insurers’ fears that adverse selection would drive up utilization costs. The assumptions that people with high risks would maximize healthcare coverage, while healthy individuals would minimize or decline coverage, shaped this perception. There should be concern about the probable impact of any option on employer utilization and subsequent costs. For example, a minimum level of healthcare coverage might be mandated. Time off flexibility also may be reviewed to determine the potential impact on operational effectiveness. Policy also may regulate employee contributions to a DC retirement plan.

Available software solutions can reduce the administrative burden associated with flexible benefits. But management’s philosophy should govern that benefit package’s design features. Organizational culture, plus the characteristics of the desired workforce (current and future), also should influence the strategy. If an organization needs to replenish an aging workforce, it should factor the preferences of the cohort entering the workforce. The critical knowledge and skills currently needed should prompt consideration of the likely preferences of those possessing the required capabilities.

Surveys asking employees how much their employer spends on benefits generally evoke disconcerting answers. The typical guess falls far short of what the organization pays. That is a severe failure on management’s part.

The Key to Deriving Value

Although flexible benefit offerings may meet with appreciation, a remaining prerequisite for deriving full value is investing in comprehensive communication protocols. Surveys asking employees how much their employer spends on benefits generally evoke disconcerting answers. The typical guess falls far short of what the organization pays. That is a severe failure on management’s part. When a rich benefits program fails to get the warranted appreciation level, it diminishes the chance of employees and job candidates viewing the organization as an “employer of choice.” Having a more aggressive package than “the competition” may not resonate with workers because they may not understand that reality. Assuming the employer will get credit is unrealistic. Just doing a better job of marketing the facts of the existing package may produce a higher appreciation level.

Studies have shown individualized compensation statements have a significant impact on perceptions about what benefits really cost, albeit only for a short term. Such statements also allow an employee to share the current information with family members and investment advisors. Employees typically don’t understand how their choices align with their financial situation and their plans. Statements can’t do everything, but they certainly can precipitate a dialogue between employees and the employer that can find an optimal package for both parties.

The quality and frequency of communication is a basic requirement for appreciation by employees and candidates. It should begin during new-hire onboarding and continue for the remainder of the person’s tenure.

Editor’s Note: Additional Content

For more information and resources related to this article, see the pages below, which offer quick access to all WorldatWork content on these topics:

• Employee Benefits
• Finance and Budgeting
• Total Rewards