Workers are living longer, and for pension plans, this means more payments and a bigger overall price tag on benefits.
In order for employers to estimate the cost of retirement benefits, they need to know a variety of characteristics about the current and future retiree pool, including how long a retiree will live. Recently, the Society of Actuaries released new mortality tables, aka death rate data on how long a person can be expected to live into retirement and continue collecting monthly benefits. The tables come from data collected from over one hundred primarily private pension plans and reflect more than 220,000 deaths and over 10.5 million years of life.
It’s morbid, but this new death data has significant implications for the private pension plans who will likely use these new tables, and who have been otherwise using the older tables based on data collected from over 20 years ago. Some plan liabilities will go up by as high as 7 to 8 percent, other plans can expect a 3 to 4 percent increase depending on factors such as workforce composition (i.e., gender and age distribution). Females, for example, tend to have longer life expectancies, and so plans with predominantly female workers will be more affected, all else equal.
Although the report did not collect enough data to evaluate the impact on public pension plans, increased lifespans are certainly an important factor for public sector plans also, especially teacher pension plans which have a predominantly female workforce. And as life expectancies increase, stakeholders will need to responsibly prepare to take on higher retirement expenditures.Taxonomy:
Many of Colorado’s teachers aren’t getting their money’s worth on retirement savings.
Colorado’s Public Employees’ Retirement Association (PERA), the state’s retirement system, has a blog called the Dime. Awhile back they featured a Colorado public employee named Travis. Travis worked as a teacher in North Carolina for two years and now works as a human capital manager recruiting teachers for a competitive charter school, called STRIVE.
The majority of STRIVE’s teachers are early-career teachers with four to five years of teaching experience. Half of Travis’ recruits are Teach for America teachers or alumni, but others are experienced veteran teachers from other states. A large part of Travis’ job is to convince talented teachers not only of the position and school culture, but also that the role offers competitive wages and benefits. The Dime’s post reassures us that the state provides all its workers with excellent retirement benefits:
“For Travis, knowing that PERA maintains a retirement account of employee and employer contributions for every member, regardless of the length of their employment, gives him peace of mind. He knows that retirement savings will be there years or decades in the future, even as he is focusing now on other financial goals and priorities. Retirement is one less thing for him, and other staff at STRIVE, to worry about.”
More likely, however, teachers and workers like Travis are getting shortchanged. He can roll over his accrued savings from North Carolina’s retirement system into an IRA account once he moved, but it won’t be worth very much. Without meeting the state’s pension service year requirements (North Carolina required 10 years of service during his tenure, only recently reverting to 5 years), Travis’ take home savings amount to only a refund of his original contributions—money he personally put into the system. He does not receive any interest on his contributions because the state only recently changed this policy to give teachers 4 percent. Travis forfeited his employer contribution, a penalty totaling nearly $8,400 or 13.12 percent of his salary each year. On top of it all, he has no rights to a future pension. When he moved to Colorado, he started back at square one with zero years of service on the clock. His two years in North Carolina won’t count toward a Colorado pension.
Similar penalties apply to Colorado teachers. In Colorado, only 64 percent of teachers will meet the requirements to qualify for a minimum pension. Working for less than five years in Colorado means teachers can get a refund of their original contributions and three percent interest, but they get none of their employer’s 15 percent contribution, nor do they qualify for Social Security benefits. For out-of-state veterans, the PERA plan is an even worse deal. Because pensions are not portable, a veteran Colorado teacher who split his or her career over more than one state can end up with multiple half-baked pensions, losing thousands of hundreds of dollars in benefits. Technically, they can “buy” service year credits from Colorado, but this turns out to be a costly and unprofitable purchase. Plus, because teachers in Colorado do not participate in Social Security, they are particularly dependent on their state retirement benefits.
That said, Colorado allows teachers to opt into additional savings vehicles such as a 401(k) and 457 plan. Unlike the traditional pension plan, these plans are portable and can transfer across state lines without penalty; teachers vest immediately and have rights to their own and their employer matching contribution (which vary depending on their employer) and investment returns. While these savings vehicles are intended as a supplemental program, it provides mobile teachers a benefit not found in the PERA plan.
Neither Travis nor any of the teachers at STRIVE with have done anything wrong. They have put in tough hours and service years to the profession. Yet, they are severely penalized for moving or working anything short of a full career in one state. Without adequate savings, they will inevitably need to save more money in the future, retire later, or face a less-secure retirement. Retirement, unfortunately, is something for Colorado’s teachers to worry about.
I was out in Colorado last week for the launch event of the Colorado Pension Project, a new initiative raising awareness about teacher retirement insecurity in the state. Their website is worth exploring and their “member profiles” illustrate how current state pension plans disadvantage different types of teachers.
But after spending a lot of time immersed in Colorado’s pension system (and we’ll be doing more work on it in the future), one thing that becomes evident is just how crazy the current system is. Here are the basic facts:
1. Teachers contribute 8 percent of their salary.
2. School district employers contribute 17.45 percent of each teacher’s salary (and that figure is scheduled to rise to more than 20 percent in the coming years).
3. The state assumes a 7.5 investment return (and has actually earned 7.6 percent over the last 10 years).
If all you knew were these three variables, you could create a pretty awesome, cost-neutral retirement plan. Using the same contribution rates and investment returns, the table below shows how much a teacher who began at age 25 would have saved at various ages. It essentially calculates the value a teacher could accumulate if her and her employer’s contributions were placed into a 401(k) and invested with the Colorado Public Employees’ Retirement Association’s (PERA’s) current asset managers (there’s nothing preventing the state from offering this option to teachers).
Under a cost-equivalent 401(k) plan, a 25-year-old teacher could have retirement savings worth…
At age 35:
At age 50:
At age 60:
These hypothetical results are quite outstanding. The teacher would become a millionaire by age 54, and she could make her second million if she continued teaching until age 63.
Colorado’s actual pension plan provides a reasonably comfortable retirement for the small fraction of people who remain teaching in the state for an entire career, but it’s not nearly as generous as this hypothetical 401(k). This is true for teachers at every experience level. For example, a Colorado teacher with 10 years of service qualifies for only a minimal pension benefit, but an equivalent 401k consisting of her contributions, her employer’s contributions, and the interest earned on those contributions would be worth $100,000 more than her pension.
How is it possible that contributions plus interest are worth more than pension benefits? There are 14 billion reasons.
Instead of a straightforward retirement savings account based on contributions plus interest, Colorado has a complicated pension formula that relies on numerous assumptions about how fast investments will grow and how much teachers will earn in the future, how long they’ll remain as teachers, when and how long they’ll live in retirement, etc.
When those assumptions are wrong or the state doesn’t save enough for the future, it turns into a pension debt. That debt currently sits at $14 billion for schools. Colorado has responded by cutting benefits and increasing employee and employer contribution rates. (In 2010 it also went after the pensions of current retirees and reduced the amount they could adjust to inflation. After a protracted legal battle, the Colorado Supreme Court declared it legal this week.)
Colorado leaders hope this situation is temporary and they can eventually lower the employer contribution rate, but history is not on their side. If stock markets continue their strong recent trend, Colorado may be able to drop the employer contributions back down a bit. But in the past, temporary respites have always been followed by higher contribution rates in future years.
In the meantime, teachers are forced to forego their own retirement savings in order to pay down a debt accrued over many years. It harms their future retirement security and, by forcing districts into painful budget decisions, it harms the quality of education delivered to Colorado’s students. Teachers would be better off in a different system.
In honor of National Save for Retirement Week, we've created a Buzzfeed-style quiz to help you better understand teacher retirement plans and the issues around them. For more information, be sure to check out our teacherpensions.org Resources, subscribe to our RSS feed, or sign up for our quarterly newsletter.
In theory, public sector workers like teachers accept lower current salaries in exchange for better benefits like health care and pensions. But a new paper suggests that common perception about how we pay public sector workers is fundamentally flawed.
A new National Bureau of Economic Research paper from Maria Fitzpatrick examines a real-life choice offered to Illinois teachers in the 1990s. The state offered late-career teachers a chance to upgrade their benefit at a very discounted rate. Based on their responses and take-up rates, they actually valued the pension at only about 20 cents on the dollar. In other words, they'd prefer to have $2 in current wages over $10 in pension wealth (adjusted for today's dollars). Taxpayers and employers have to pay the full cost of the benefit, but, because the true costs are hidden, teachers don't value them fully.
This is a bit like a Christmas gift from your Great-Aunt Mildred. She may have spent $50 on a dandy argyle sweater, but you might only think it’s worth $10. (This isn’t just a silly abstract example; economists have documented that this "deadweight loss" actually happens.)
In this metaphor, teacher pensions are like the sweater: Protective and well-intentioned, but ultimately under-valued and under-appreciated. Teachers would rather just have cash, or at least a nice gift card.
Illinois’ state constitution now guarantees current workers and retirees pension benefits. But nothing in its constitution guarantees that the state fund them.
Illinois has a history of promising much while paying little. According to a recent report, Illinois struggled to fund its pensions for decades, extending back to 1917. Illinois’ first pensions were a fixed, flat annual benefit, but neither benefits nor contributions were tied to salary. Instead, teachers paid an arbitrary flat contribution based on milestone service years. State contributions were based on certain taxable properties. Pensions initially were treated as gratuities or gifts that the state could adjust or take away, and funds were not held in a trust and could be used for other purposes.
Even when pensions were later restructured and included employer and employee contributions tied to salaries, the plans continued to struggle. In 1969, the Illinois Teachers’ Retirement System was 40 percent funded and the Chicago Teachers Pension Fund was only 32.7 percent funded. Overall, the state’s five pension systems were just 41.8 percent funded. This means for every dollar the state needed to fund future payments, it saved only 41.8 cents. Not much has changed since 35 years ago: today the Illinois Teachers’ Retirement System is still just 40.6 percent funded and the Chicago Teachers’ Pension Fund 49.5 percent funded, according to the plans’ own actuaries.
In 1970, the state constitution was amended to include the following (known as the Pension Protection Clause):
Membership in any pension or retirement system of the State, any unit of local government or school district, or any agency or instrumentality thereof, shall be an enforceable contractual relationship, the benefits of which shall not be diminished or impaired.
The above language protects pension benefits, but the Constitution is silent on funding those benefits. There is no recourse for forcing a state to pay its annual required contribution or address shortfalls, and Illinois has consistently skipped or shorted its pension payments for decades. On top of this, both politicians and worker unions have an incentive to advocate for pension increases without paying for them.
After the recession, the political landscape turned. Illinois politicians passed legislation that scales down benefits for new workers, enacts a funding plan requiring 100 percent funding by 2043, and provides a funding guarantee (if the state comptroller fails to make state pension contributions, affected pension systems can sue to order payment). The legislation, however, was challenged and will be argued in the upcoming month and may eventually proceed to the state Supreme Court. The decision will have big implications for how Illinois deals with its growing pension shortfalls and worker benefits in the future.
Illinois has carried significant pension debt for close to a century. What makes this different is now the costs are starting to catch up. Consistently short funding pensions has led to higher contributions and rising debt costs that eat into salaries and other social spending. It’s time for Illinois to change the course of its history.