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Giving Professors an Incentive to Retire

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By John Vineyard

For decades, Professor Penelope Older, 70, has been a mainstay of the classics department at Old Ivy University. She has just gotten a call from her department chairman, asking her to meet him in his office.

She finds Professor Chair seated behind a massive mission-oak desk, with Dean Hover close by. After a few perfunctory comments, Professor Chair hands her a manila envelope. Inside, she finds a one-time offer from Ivy to buy out her tenure for a cool $200,000 if she retires this year.

She looks back and forth from Hover to Chair. Both are sweating, even though there's nothing wrong with the air conditioning. A faint smile plays across her face. Wise even beyond her years, she slides the offer back into the envelope and turns to leave, saying that she will consult with her financial adviser. After an awkward moment, Chair clears his throat and cuts to the chase. Actually, he says, their very best offer is $250,000.

The tradition of mandatory retirement for tenured professors at age 70 was abolished in 1994, under the federal Age Discrimination in Employment Act. This law prohibits an employer from discriminating regarding "compensation, terms, conditions, or privileges of employment" because of an individual's age. Cutting benefit contributions is also prohibited.

Poring over the current law, Professor Older contemplates her long career, all the battles lost and won, with considerable satisfaction. When she first began teaching, her pay was meager indeed, but in the last few years, thanks to the progress that female professors have made at Old Ivy, her current salary is quite competitive, thank you very much.

Now, in 2001, Old Ivy can't force her to retire or reduce her status, ever. Other than denying her raises and perhaps shunning her, it can't do much to make her retire without violating federal law. She loves her work and thinks she'd like to hang on to her position until she reaches 80, maybe longer.

Her financial adviser shows her that by discounting 10 future salary payments of $100,000 at 8 percent per year, she can arrive at a fair estimate of the value of that money in today's dollars. (We discount future earnings, of course, because a dollar in hand today is worth more than a dollar in hand next year.)

Doing the math indicates that she would have earned an additional $671,000. In this light, Hover and Chair's quarter of a million looks pretty meager. The adviser doesn't tell her what she should do, but she has little difficulty deciding. The next morning she rejects the offer. Hover and Chair are stunned. Not only did they fail to get her to retire, but they stiffened her resolve to stay on longer.

Multiply $671,000 by the number of tenured professors in the country, and you can see that at one stroke the age-discrimination law created a potential liability for the nation's colleges and universities of many billions of dollars -- surely one of the largest wealth transfers in the history of American higher education.

Given the aging demographic of the American professoriate, it seemed that colleges and universities could soon face a crisis if large numbers of senior professors refused to retire by the customary age. In addition to the specter of being saddled with too much high-priced help, institutions worried about declining productivity and the inability to manage personnel and programs. In response, many have developed a variety of incentive programs intended to help replace high-cost help with lower-cost help.

Just as academics are confronted today with a confusing array of retirement investment options, they also face a variety of incentive plans designed to make retirement more financially attractive. These plans are still new enough that there isn't much standardization among institutions, so we can consider only a sample of the options you might encounter.

One common approach is known as a "window" plan. It provides a retirement incentive if the professor leaves during a specified interval. Such a plan might require that the individual retire the following June, and it might provide a lump-sum payment and various other benefits, such as health coverage, pension enhancements, and some intangible incentives.

The purpose of the window is to encourage as many people as possible to retire right away and thereby accomplish some management goal quickly. The drawback of such plans is that they often seem coercive. They can also backfire. If too few people accept the window, a second window, with juicier incentives, must be tried. Some people try to gain more by holding out longer.

A second type of plan is a phased retirement, which may be open to anyone past a certain age, and typically provides a period of part-time work -- perhaps five years -- while some financial incentive is offered, such as half-time pay and full-time benefits during that period.

The shedding of responsibilities occurs in one or more steps. In order to encourage people to retire sooner than later, the value of the phased benefits decreases with age. After all, that's the whole point of a retirement-incentive system. The major attraction of the phased concept is that it allows for a gradual adaptation to full retirement.

Another type of incentive is the individual buyout, like the one Hover and Chair made to Professor Older, where some financial benefit is offered, such as a lump-sum or a series of periodic payments, in return for full retirement on a given date.

There's no real limit to the potential combination of window plans, phased retirements, and buyouts that might be designed. From the financial point of view of a professor, analyzing any incentive plan requires estimating the present values of the various choices and comparing them. If we found that taking a phased retirement at 65 had a present value that was $100,000 less than the value of working full time until 70, then we would know that the intangible benefits of the phased retirement would have to be worth at least as much as an additional $100,000 to justify accepting it. The devil of it is that, by their nature, you can't really price intangibles.

This assumes that we have already determined that either option would provide sufficient earnings to last as long as we are likely to need for the rest of our lives, or to accomplish whatever other financial goals we set. If we determine that we needed $1.5-million in today's dollars to be able to retire and the offer left us with only $1-million, it is unacceptable.

Now let's get back to Hover and Chair, still smarting from their failure to ease Professor Older into retirement. After a lengthy series of meetings and outside consultations, they conclude that they failed because their offer wasn't tailored to her needs. Maybe Older is lost to them, but what about her colleague Milton Younger, who just turned 63, and also earns $100,000 in salary and benefits? Younger likes to talk about how much money he's made in the markets. Surely he's got enough in his retirement account by now not to have to work.

After carefully rehearsing their act, they summon Younger and offer him the same manila envelope. This time it contains quite a different package. They are offering a phased retirement plan for five years at half-pay with full benefits. Hover talks at considerable length about "giving back" something to the university. Chair stresses repeatedly that during Younger's phased retirement, he'll still be a professor in every sense.

Younger listens patiently. He knew this might be coming. He's already talked to his financial adviser, and has worked some examples of how a phased plan might operate. Younger knows that discounting five years of salary and benefits at 8 percent would suggest that the present value of his continuing to work until 68 was about $400,000. Under phased retirement, he'd get annual salary and benefits for five years of $50,000. Discounting that income stream produces a present value of $200,000. This means that in order to prefer the phased-retirement incentive, the net intangible benefits of retiring would have to be worth at least as much as $200,000 to Professor Younger.

No financial formula can answer this one for him, but such intangibles as free time to travel, lower stress, the chance (as one professor put it) to "retire so I can start working," time to focus on other interests, and so on, can of course be very valuable. The negative intangibles -- loss of prestige, loss of power, loss of colleagues -- must be weighed against the positives -- finishing that book that keeps dragging on, getting to travel more, and escaping Ivy's endless winters.

Younger concludes that the positive intangibles are worth at least $200,000 more than the negative ones.

Younger contemplates his answer, imagining how Marcus Aurelius might have expressed it. He announces that they've got to agree now to the terms of his emeritus status five years down the road. There's got to be an office, a parking space close by the department, secretarial services, a paid-up life membership to the University Tennis Club, and travel allowances to the annual meetings of the Latinist Society.

Hover and Chair look at each other and smile. No problem. Somebody else will be dean by then, and it won't cost them a nickel now. "Sign here," says Chair, beaming.

Professor Younger signs.

On the whole, professors have not proved loath to retire, so the 1994 act hasn't quite produced the geriatric crisis on campuses that was initially feared. The average retirement age for faculty members has crept up a little on some campuses, but many institutions report that most professors continue to retire by 70.

Surely, without some incentive plans, more professors would have stayed on, but preliminary results suggest that completely removing any requirement of retiring would still leave a lot people deciding to go before the age of 70. (Remember that in most of government and industry, the long-term trend has been toward earlier retirement. Professors and symphony conductors are among the few who like to hang in there.)

In one stroke, the 1994 age-discrimination act provided a potentially enormous increase in the earnings of an academic career. Given the aging of the American professoriate, it seems clear that retirement-incentive plans will remain a permanent part of the landscape.

Nobody would bother to offer an early-retirement incentive unless they thought they could save a bundle by getting you to take it. But under federal law you don't have to take any plan that's not to your advantage.