Prior to 2008, when the term Defined Contribution (DC) plan was mentioned, one automatically thought of 401K-, 403b-, and 457-type plans in which both the employee AND employer contribute to a retirement benefit plan and “share” in the risk of the final benefit realized by the employee.  These plans required the employee to actively manage the risk and performance of his/her retirement account(s) and be more engaged in retirement planning.

Today, the Defined Contribution concept is being applied to the design of medical health care benefits due to the impending 2014 changes put in place by the Patient Protection and Affordable Care Act.  Fundamentally the same principal (with a health care DC plan), companies allocate a fixed dollar amount to each employee to purchase a medical health benefit plan that suits his/her needs.  Essentially, employees use the money to buy insurance, which requires shopping around to get the best value and being more involved in health care choices.  This DC plan design takes consumerism in health care benefits practices to the next level by further engaging employees in managing their medical health benefits.

For the employer and total rewards professionals, this DC medical health benefit plan design may, on the surface, appear to help with cost containment issues that have plagued medical health benefit plans.  Yet, it raises a key question:  How does this translate to total remuneration practices?

A key practice that organizations will have to define is how to allocate the fixed dollar amount.  The basis of the allocation should be a bona-fide employment-based business practice like job category, pay grade, part-time or full-time status, tenure, geography, etc.

Below is an example of an allocation grid for DC medical health benefits based on pay level. The allocation is regressive as pay levels increase.  (Note, the information in this grid is not based on any specific benchmark and is for illustrative purposes only.)

Yearly Allocation for Employee Only Benefit

Pay Level

 Less than 24K

 Less than 36K

 Less than 48K

 Less than 72K

 Greater than 72K

% Allocation

100%

90%

80%

70%

60%

$ Allocation     $4,200     $3,780     $3,360     $2,940     $2,520

Depending on a company’s culture, business objectives, and talent management approach, the DC allocation grid will have a different design and should be a cohesive part of its total rewards value proposition.  The combination of shared risk, consumerism, and employee engagement is generally expected to drive improvements in medical health benefit costs and service quality, since the need to shop around should foster some “healthy” competition.