I recently attended some graduate-level presentations at the personal financial planning department of Texas Tech University. These bright young financial planning candidates really knew their stuff. They worked through the arcane issues of split-dollar life insurance and executive bonus plans, and they quoted all the right code sections and financial tables.
My only criticism is they had trouble putting these fringe benefits into context: why employers would be interested, why the benefits would motivate employees. So, in less than 1,000 words, here is my overview of fringe benefits: What They Are, Why They Are Used.
Kinds of Fringe Benefits
I think of fringe benefits as any employer-provided or -sponsored benefits that are in addition to the regular wages provided employees. The list could go on forever, but below are some common categories.
- Incentives – These fringe benefits are paid out only upon accomplishment of a stated goal. They can come in many forms, from cash bonuses to additional Personal Time Off.
- Event-based – Many traditional fringe benefits are aimed at providing help for uncontrollable events. This is why favorite fringe benefits include health, disability, long-term care and life insurance benefits. The employee has little control over these events, and having the employer provide for – or participate in – the cost of insurance for these risks is a major incentive.
- Qualified Plans – With students I sometimes refer to these benefits as “legislative.” The simple fact is Congress wants to encourage employers to help employees build for retirement. This prevents having a government-provided retirement plan grow to a larger size than it already is, and it provides a social safety net for the elderly. Benefits with arcane names like 401(k), 403(b) and 457 have a real meaning to employees because they are sections of the code with a tangible value from a tax and financial standpoint.
- Nonqualified Plans – To the layman, this name is nonsensical. All it really means is this: it’s a benefit that falls outside of the qualified plan rules. Executive fringe benefits such as deferred compensation are “nonqualified” because they are not part of the ERISA-driven qualified plan rules that apply to the bulk of employees.
- Equity- based Plans – These incentives are measured primarily by how the company’s stock is performing. Anywhere from stock grants and stock options for executives to employee stock purchase plans for the entire workforce, the idea is to motivate employees to pull for the common cause of the company’s success.
- Special circumstances – During the boom period before the Recession, a company I know had an employee raffle for a Harley Davidson motorcycle. And during the dark days of the Great Recession, that same company supported employee morale by allowing “jean days” for several months. People liked wearing jeans, and it was a no-cost benefit the employer could offer.
- Recurring events – Many companies build positive anticipation by having, for example, a BBQ event tied into the United Way campaign or providing each employee with a free turkey every Christmas. Who can forget Clark Griswold’s excitement of being enrolled in the Jelly of the Month Club in “Christmas Vacation”?
Uses for Fringe Benefits
Sometimes students ask me why companies don’t just pay a salary and be done with it; let employees purchase their own insurance and save for their retirement outside the company.
An obvious answer is that the company may have superior buying power, and can vet the providers more competently than most employees. But it’s really more than just that factor;Companies are motivated to provide quality fringe benefits because these benefits offer outcomes beyond the value of mere wages.
There are five overall answers to the question of “why fringe benefits”:
1. “The 4 Rs.” Employers use fringe benefits to recruit, retain, reward and retire employees. In other words, the process of hiring and keeping the best employees often requires more than just paying the most in wages. The whole structure of fringe benefits in American business revolves around the commercial goal of obtaining, motivating, and transitioning out a quality work force.
2. Golden Handcuffs. Top talent is mobile, more mobile than the rank and file. Many executive fringe benefits are targeted at making it so that the executive can’t afford to leave. Whether restricted stock or deferred compensation, these plans are designed to either obligate or motivate the key employee to stay. Consider that when Steve Jobs went back to Appleas Interim CEO, he took only $1 as salary and would not accept stock bonuses. The golden handcuff that finally won him over to running Apple full-time was a company-provided jet to take his family on vacations.
3. Incentives. Fringe benefits are typically thought of as ways to make employees happy. But some fringe benefits are specifically aimed at making employees more productive. Stock options and restricted stock have traditionally played this role, with the theory being “you help make the company succeed and you’ll succeed through stock ownership.” More recently, these incentives have been replaced or augmented by LTIPs (long term incentive plans) and various kinds of deferred compensation arrangements.
4. Financial. It’s beyond the scope of this article, but suffice it to say that some fringe benefits are more focused on financial issues for the company and its owners than on the employee. Typically, tax advantages are the drivers for these benefits, but ownership transition can also be at play.
5. Employer Commitment – many employers simply care deeply about their employees and want to see them prosper both personally and professionally. For the past 10 years, The Principal has had a formal program recognizing outstanding organizations that help their employees achieve greater financial well-being. In talking with these winning companies we find that they of course offer employee benefits because it helps their own bottom line, but also, and quite simply, these companies do it because it’s the right thing to do.