A hospital in upstate New York was recently excoriated in the press for making significant contributions to the CEO's retirement benefit. The contribution was not for a single year of employment but rather was related to the CEO's 30 years of service with the hospital. Unfortunately, Internal Revenue Service Form 990, where this information was obtained, does not make this distinction.
Attacking executive compensation is a popular story these days. And during tough economic times, the CEO's compensation can appear to be a cause of already high and rising health care costs.
To be sure, many hospital CEOs are very well paid, and most of them would agree with that assessment. However, hospital executives do not earn salaries anywhere close to Wall Street levels, nor do they have stock options, which are available in most for-profit businesses.
Hospitals are complex institutions to lead, and there is a CEO supply-and-demand imbalance. As a result, CEO compensation levels are relatively high. Frequently, the hospital CEO is the highest paid "employee" in a town or region. When retirement benefits are added to the equation, the numbers may seem even more disproportionate.
Hospital trustees feel a moral responsibility to provide long-serving CEOs with a reasonable and adequate retirement benefit. However, the economic downturn coupled with the changing health care environment makes this responsibility increasingly difficult to carry out. Trustees do not want to be attacked by the media, nor do they want to be seen as not effectively stewarding hospital assets.
What Are the Facts?
Data shows that many CEOs are approaching retirement. In our annual compensation survey, the average age of a hospital CEO in 2001 was 51. Today the average age is 56, and this upward trend will likely continue. In fact, 60 percent of current CEOs are age 55 or older, and 27 percent are age 60 or older.
In our recent survey of CEO retirement trends at nonprofit hospitals, 46 percent of CEOs stated that they plan to retire between the ages of 64 and 66. A full 27 percent plan to retire before age 64, and 27 percent plan to retire after age 66. As these executives get closer to retirement, funding adequate retirement benefits becomes more costly.
Many CEOs are planning to work longer than they originally had in mind, largely because they are still healthy and energized but also because they hope to recoup market losses in their retirement funds. In our survey, 53 percent of CEOs said they are planning to work longer for economic reasons, and most of these are already over age 60.
On the other hand, 24 percent of CEOs reported in the survey that they are planning to retire sooner than originally planned. In most cases, these respondents reported that concern about hospital financial pressures and health care legislation was the cause.
Benefits Don't Add Up
Why is the provision of adequate retirement benefits for CEOs more difficult than for other hospital employees? To be sure, retirement benefits of hospital employees in general could be higher. Most hospital pension plans are modest, and those that have been above average have been reduced in recent years because of very high funding requirements.
Nevertheless, Social Security provides a stable replacement income of as much as 30 to 40 percent of pay for employees who have worked full-time throughout their careers. So when just a modest pension is added, a combined retirement benefit of 50 to 60 percent is not unusual.
But this is not the case for CEOs, and to a lesser extent, for other executives. Social Security may replace only 5 to 10 percent of the CEO's income. When added to the pension, annual retirement income may be only 25 to 35 percent of pay. Therefore, comparatively speaking, the CEO's benefit provided by a hospital pension plus Social Security is the lowest in the hospital.
Planning for a CEO's retirement is a shared responsibility of the board and the CEO. But in many cases, the hospital and the CEO have not provided adequate retirement benefits.
To supplement the CEO's retirement, many hospitals provide a supplemental executive retirement plan for the CEO. But this is by no means universal. In our 2010 executive compensation survey, only 44.9 percent of CEOs reported having a SERP of some type.
The CEO's Perspective
In the survey on hospital CEO retirement trends, only 39 percent of CEOs reported being "satisfied" with their retirement benefits, while 38 percent reported being "somewhat satisfied" and 23 percent were "less than satisfied." CEOs being satisfied and benefits being adequate are not the same thing. Nevertheless, there is certainly a gap between what is needed and what is provided in many cases.
Periods of economic challenge and increased IRS and media scrutiny may not seem like the best time to address CEO retirement benefits. But the closer a CEO gets to retirement, the more expensive it becomes to fund her retirement benefit. Hence, trustees face a dilemma.
This is a sensitive issue. It's awkward for a CEO to express concerns about her own retirement benefits, so trustees have a responsibility to initiate the discussion. Further, succession planning is part of the board's fiduciary duty. While much of the discussions around succession planning relate to the selection of an incoming CEO, the beginning of succession planning is ensuring that the current CEO can retire in dignity and with adequate retirement benefits.
To determine the adequacy of the CEO's benefits, trustees should obtain a projection of the CEO's annual retirement income funded by the hospital for each category of benefit:
- Hospital pension plan;
- 401(k) or other matched savings plan;
- Social Security; and
- SERP, if any.
Evaluate the total as a percentage of the CEO's average total compensation over the last several years. It is very common for a CEO who has served a hospital for 20 years to have a combined retirement income in the range of 60 to 65 percent of preretirement income.
If the board identifies a shortfall, trustees should determine the cost of closing that gap during the CEO's remaining years and arrive at a level of contribution the hospital can afford.
Many CEOs approaching retirement value the provisions for their retirement more highly than salary increases, so minimizing a CEO's annual increases may be one method of allowing a larger sum to be put into an SERP. Contributions to SERPs are reportable on Form 990s and IRS scrutiny for reasonableness may apply. To ensure the organization is in compliance, trustees should obtain assistance from an executive compensation consultant or expert.
Additional retirement benefits also may include a health care bridge. This is typically used to provide health insurance for the retiring CEO and his spouse until they both reach age 65 and are insured under Medicare.
The CEO also needs to contribute to his own retirement. It is not realistic today, given the life expectancy of a healthy 65-year-old, that the benefits from the hospital alone will fund his retirement for the next 20 years.
Succession planning, as the name suggests, requires planning ahead. The board should devise a retirement plan that will adequately compensate the CEO and review it periodically. Ensuring adequate retirement benefits for the CEO now will go a long way toward ensuring a smooth transition whenever the time comes.
Rian Yaffe (firstname.lastname@example.org) is the CEO of Yaffe & Company, Towson, Md.