Budgeting for benefits

With firms looking at budgets for the year ahead, Robin Hames puts employee benefits under the microscope.

Benefits in the current climate

While the extent might depend on whether you listen to Gordon Brown or Alistair Darling, the fact that we are passing through some rather challenging economic times is rather difficult to dispute. It is a little over a year since the credit crunch announced itself to the world, and with repercussions being felt across the global economy, the legal sector has not been immune.

Although not widespread as yet, some firms have begun the process of headcount reduction, doubtless as part of an overall strategy to maintain their competitive edge and profitability. Addressing the most significant expenditure of a firm makes sound business sense, and the search for efficiencies is an essential element of any financial strategy. The indicators would suggest that the economy is likely to grow worse in the short term, and it is doubtful even Norman Lamont's heirs could foresee any ‘green shoots of recovery’ for some time yet. It seems safe to predict that we have not seen the last of such corporate actions.

When considering budgets for the forthcoming year, it is natural for attention to turn to another major expenditure – the cost of providing employee benefits. Although logically significantly lower than the payroll costs to which they relate, employee benefits are a major expense for firms, and they merit financial scrutiny.

The degree of attention applied to the employee benefits budget can be influenced by a number of factors: principal concerns can relate to the potential for negative PR in the event of reform through to its impact on employee morale and capabilities as a talent attraction tool.

While salary and career progression opportunities will tend to be the lead issues, an attractive, well-communicated benefits programme has a supplementary role to play in any employee engagement strategy.

To maximise the efficiencies of an employee benefits package, it is important for firms to consider the following:

Why they offer benefits in the first place;
The supporting budget to achieve these goals;
How their employees perceive the benefits package; and,
The means by which to measure the success and/or return on investment achieved.

Back to the drawing board

It may seem obvious, but the issue of rationale is key and often overlooked. The reasons for having a benefits programme have sometimes been lost or diluted in the mists of time. Where firms have evolved over a number of years through mergers and acquisitions, or grown significantly from their regional roots, the benefits in place may have evolved into a series of complex compromises to encompass lateral-hire objectives or to absorb the preceding firms’ schemes.

Furthermore, different key stakeholders within a firm can have diametrically opposing views of the place and purpose of benefits in the overall corporate strategy.

For these reasons, any benefits review should always carry out an initial ‘sense check’ to agree both the available budget to support the benefits programme and the desired outcomes from this expenditure. By creating these common goals, it is far easier for an effective framework to be drawn up.

Even if the main objective is not to reduce costs, the next natural step is to interrogate how well the current programme meets its agreed aims.

Depending on timescales, our clients have found the two most effective methods of starting this process are either through a short, directed online employee survey or through the creation of a series of focus groups. The common purpose of these exercises is to look at the benefits programme at both a macro and micro level.

First, determine the views of employees on the package in general – the deemed value, the quality of supporting communication and the degree of understanding prevalent. The next step is to examine which elements of the benefits package are best understood, valued and appreciated.

Successfully determining such a pecking order can be a highly informative exercise and, in turn, very influential in the benefits design and review progression. Understanding how employees engage with the integral elements of the package should influence how best to reposition the overall scheme in light of the supporting budget.

This isn’t to suggest that employee views should be the sole arbiter, however understanding how people relate to their benefits package can help significantly when considering both its redesign and communication.

Driving efficiencies

At a basic level, there are some simple methods to begin the process of driving through efficiencies in a firm’s benefits packages, regardless of whether a more comprehensive review is being contemplated.

For any rate-driven arrangement, a due-diligence exercise relating to the renewal and tender processes can, in itself, generate immediate cost improvements.

It is increasingly important for a firm or its advisers to carry out a risk-profiling exercise when approaching insurance providers. Insurers are increasingly interested in understanding the culture of employers when considering the appropriate rate for their employee-benefits risk cover.

In other words, a simple rebroking exercise where a group of insurers are asked to tender on the basis of pure statistical evidence (employees, salary roll, claims experience and so on) will not necessarily yield optimum results.

Where the benefits are inherently linked to absence management and health-related issues – such as medical insurance and income protection (PHI) – we have found that there is considerable value in presenting a much broader picture of the organisation. Many firms have some form of well-being programme in place, gym subsidies and nutritional guidance for example. In addition, many have effective management policies to combat absenteeism.

These attributes can be used to build a risk profile specific to the firm, distinguishing the organisation from the average legal-sector client. By differentiating the underpinning culture and influencing factors, it is possible to negotiate proactively with insurers and generate premium savings on risk benefits.

Furthermore, the risk market is increasingly offering incentives to employers to bundle the various risk benefits together through a single provider. Because of the greater degree of co-ordination this allows, many insurers will offer significant rate discounts if they insure or provide a combination of the medical insurance, health screening, employee assistance programme and income protection.

The reason for this is quite simple – it is clearly in the interests of the insurer to minimise the number of long-term sickness claims. If they are insuring or providing services across the range of health-related benefits, it is far easier for them to deliver an early intervention approach, thereby nipping potential long-term problems in the bud by helping employees resolve medical problems quickly and preventing minor ailments from developing into more serious issues.

Another area to consider is the use of ‘salary sacrifice’ in respect of pension benefits. In essence, by changing the means by which employees make their own personal contributions into the firm’s pension scheme, it is possible to generate significant national insurance savings.

‘Salary sacrifice’ works by employees reducing their salary to the extent by which they contribute into the pension scheme. The employer then increases the level of the contribution it makes by a commensurate amount. The overall contribution is unaffected, but both employer and employee have saved paying national insurance on the amount of the reduced earnings. In addition, higher-rate-tax paying employees effectively receive tax relief at their highest rate at source, rather than having to claim through their tax return.

A firm may choose to share or retain its national insurance saving, thus creating financial efficiencies without lowering the level of overall contributions to the pension plan.

Benefits re-design

Greater savings can obviously be derived from a more fundamental benefit re-design. Clearly a reduction in benefit level will have a corresponding reduction in cost.

Determining where benefits can be altered will be driven by the initial considerations outlined earlier. To optimise the value of the overall spend, firms will be able to examine the cost savings available from the least popular benefits offered, and those which least mirror the desired corporate goals.

As an example, the cover options available through group income protection have grown increasingly sophisticated. The traditional model – where a percentage of salary is paid to the long-term absentee through to their retirement age – is no longer the only structure offered.

One could argue that such a model no longer fits the modern working-pattern. A number of employers have sought to limit the extent of the benefit payment period to better reflect the typical length of time an employee stays with the firm – perhaps by providing long-term sickness payment for a maximum of five years with the potential for a one-off ‘balloon’ payment.

Such a restructuring will result in significant cost savings, but may not be appropriate if employees have expressed a high degree of engagement with this particular benefit. The key is to effectively set the broader framework for review before examining the detail of the individual policies which make up the overall benefits package.

In summary

In testing financial times, it is only natural for any significant expenditure to come under the spotlight. Through a combination of employee consultation, employer evaluation and an understanding of market developments, it is quite possible to actually improve some of the more popular benefits while reducing others, thereby meeting both the budgetary challenge and allowing for a positively communicated redesign.

Robin Hames is a consultant at PIFC Consulting. He can be contacted at robin.hames@pifc.com