The Chicago Public Schools’ recently released its 2016 budget and it has a clear message for state legislators: Chicago needs more state pension funding. Unlike the rest of Illinois, Chicago only receives a small sliver of pension funding from the state.
While suburban and downstate Illinois school districts receive pension funding equal to roughly $2,000 per student, Chicago gets only $31 per student. That’s right, even though all taxpayers contribute the same toward the state budget, Chicago gets far less in return. On a per pupil basis, Chicago gets about 1/75th of the state pension funding as the rest of Illinois school districts.
State Teacher Pension Funding (Per Pupil)*
Source: Chicago Public Schools, “Proposed Budget 2015-16.”
Why is Chicago treated differently? A short-sighted deal made a decade ago can help explain the gap. After a school budget crisis in 1995, the state gave CPS permission to funnel tax money directly into the district’s operating budget rather than the Chicago Teachers’ Pension Fund (CTPF). In exchange, CPS had to cover the primary costs of the fund’s pension contributions, but only if the fund was at least 90 percent funded (which CTPF was at the time). In the short-term, it was a good deal for the district; CPS was allowed to collect $2.0 billion in levied tax revenue over 10 years while making no payments to the pension fund.
But what was initially a sweet deal has massively backfired. Over the years, pension costs have skyrocketed while state pension funding for the city has dwindled. While state legislators had originally promised an amount equal to 20 to 30 percent of the contributions made to the state retirement system, today Chicago receives less than a third of one percent in teacher pension funding.
That means Chicago residents are responsible for funding nearly all of its teacher pension debt. Unlike suburban and downstate residents, Chicago residents pay taxes that go toward the Chicago Teachers’ Pension Fund and the Illinois Teachers’ Retirement System. This isn’t a fair deal considering that Chicagoans only have access to the city’s schools, yet they are being asked to pay off mounting debt from both the state and the city retirement systems.
In turn, pension debt crowds out operational funding for Chicago teachers and students. This year, the Chicago Public Schools paid $634 million in pension costs, or the equivalent of $1,600 per student.
The solutions to these problems won’t be easy. Chicago Mayor Rahm Emmanuel has proposed combining the Chicago fund with the state fund and eliminate the double taxation. Illinois Governor Bruce Rauner has proposed providing Chicago with additional funding, but only in exchange for labor concessions. A better carrot would be to provide state funding in exchange for enrolling all new Chicago teachers in retirement plan that directly ties contributions to benefits and stops accruing further pension debt. Doing so would not only ensure adequate funding and transparency, an alternative plan would also actually provide teachers with adequate benefits.
*There are roughly 1.6 million students suburban and downstate students expect to enroll. Illinois will make a $3.7 billion contribution to the state Teachers’ Retirement System on behalf of local school districts (excluding Chicago), or about $2,266 per student ($3.7 billion/1.6 million). There are about 385,000 Chicago Public School students expected to enroll in the upcoming school year. The state promises $12 million in state funds for pension funding, or about $31 per student ($12 million/385,000). Chicago residents pay state income taxes that fund the Illinois Teachers' Retirement System, while also paying local property taxes that fund the Chicago Teachers' Pension Fund.
Teacher pensions protect teachers from certain risks. Teachers don't have to make their own investment decisions, meaning they don't have to worry about how much to save, how to invest, or whether they'll outlive their savings. The pension plan bears all those risks on behalf of teachers.
But pension plans carry another risk--attrition risk. Because pension plans are back-loaded, attrition risk is the possibility that a teacher won't stick around long enough to qualify for the larger benefits waiting for those who stay. Teachers rarely stay a full career in teaching, let alone in the same state and the same pension plan. Even if an incoming teacher may have every intention of staying a full career, her pension wealth will be tied to how long she is willing and able to stay. If life gets in the way--if a spouse wants to move, a parent gets sick, or she simply tires of teaching--her retirement wealth will suffer.
One way to show attrition risk is simply to look at how retirement benefits grow in pension plans. The graph below shows how retirement benefits accrue for a Louisiana teacher. She earns relatively modest benefits early in her career, less than what she could earn in the private sector under a cost-neutral 401(k)-style plan. Most teachers fall into this bucket--Louisiana's actuaries estimate that half of the state's teachers will leave before reaching just seven years of service. They won't get close to the much more generous benefits offered to teachers who stay for their full career. If a teacher does stay that long, her retirement wealth will more than triple between the ages of 50 and 60. But that's only if she stays that long.
This is a pretty classic case of attrition risk that exists in pension plans all across the country. But Louisiana also provides a recent example of extraordinary attrition risk.
When Hurricane Katrina hit New Orleans in 2005, the Orleans Parish School Board dismissed 7,500 employees without regard to age, years of service, or expected pension benefits. Not all of these teachers would have qualified for the significant back-end benefits promised by the pension system, but some would have. Imagine being a 50-year-old teacher in Louisiana with 25 years of experience when Katrina hit. You would have been accepting 25 years of lower pay in exchange for the promise of a solid pension in the near future. You're counting on those next ten years, when the value of your pension would triple. But when the hurricane hit, you not only lost your job, you also lost out on the opportunity to grow your pension.
Legally, the fired workers are pressing their case to the U.S. Supreme Court. They're arguing that they were wrongfully terminated after the storm and are asking for back wages. But, crucially, they are not asking for any compensation in the form of lost retirement wealth. That's because teachers don't have a right to future pension wealth accruals. Even in states with strong legal protections that restrict the state from reducing its pension formula, individual teachers can still be fired and taken off the pension wealth curve. That's another form of attrition risk.
The New Orleans story is an extreme example, but attrition risk is real and important for teachers to understand. Unless teachers know, with absolute, 100% certainty, that they're going to stay in the same pension system for their entire career, they would likely be better off in less backloaded retirement plans that offer more retirement savings earlier in their career.
Update: I added two more points worth mentioning here. One, very few New Orleans teachers stay for long enough to qualify for a significant retirement benefit. Two, Louisiana teachers are not enrolled in Social Security, meaning they're particularly vulnerable to a poor retirement system. We think all teachers should be given the retirement income protection that Social Security offers.
The Chicago Public Schools (CPS) recently released its budget for the upcoming year. Pension and other structural debts continue to eat away at district resources and have left a gaping $1.1 billion hole in the current budget.
Paying for pensions isn’t cheap. Earlier this summer, CPS barely scraped together its required $634 million annual pension payment. The district did the right thing by paying the full amount on time, but in exchange, had to borrow an extra $200 million (in addition to the half billion it already needed) to fix cash shortages. To cover costs, the district will lay off 1,400 staff workers, including 480 teachers. CPS’ main source of revenue comes from city property taxes; even with city property taxes set at their maximum level (capped at inflation) and additional surplus tax funds and savings, CPS still needs additional revenue.
How does CPS plan on filling the rest of its massive budget hole? The district is counting on the state to deliver. CPS’ budget relies on the big assumption that the state will provide $480 million in pension funding. Governor Rauner has proposed supplying the district with relief, but only after a few labor trade-offs. Rauner wants to give local school districts’ the ability to limit what unions can and cannot collectively bargain for, something the Chicago Teachers’ Union isn’t going to give up without a fight. And Illinois still hasn’t been able to pass its own state budget. In other words, CPS is playing roulette with the school district’s finances.
How Chicago Public Schools Plans to Fill Its Budget Hole (in millions)
Lawrence Msall of the Civic Federation, an Illinois budget watchdog group, says, "It's difficult to even call it a budget because it has a half-billion dollar hole that the district hopes will be filled by Springfield — and we have seen little positive evidence that that will happen. To call this spending plan a budget challenges the common notion of having your expenses match your known revenue."
With just a few weeks before school, the district may be in for a mad dash for more funds. CPS could start the year without balancing its budget, but then they will likely need to make even riskier borrowing and cuts later in the year and down the line. Meanwhile, Chicago’s teachers, taxpayers, and students will continue paying for a system that doesn’t benefit the majority of teachers.
One attractive selling point for the teaching profession is that there are schools everywhere; therefore there are teaching jobs everywhere. But that logic really only applies to first-time teachers. Once a teacher begins her career, she actually becomes very unlikely to teach in a different state.
In a recent paper for the Center for Education Data and Research, Dan Goldhaber, Cyrus Grout, and Nate Brown counted the number of teachers who moved across state lines to continue teaching. (Dan blogged about it here). The authors compiled a dataset of all teachers in the states of Oregon and Washington from 2001 to 2013, and then they counted how many teachers moved to a new school across the border. It turns out not many did--on average, just 0.07 percent of Oregon teachers made a switch into Washington, and just 0.03 percent of teachers in Washington made the reverse switch to Oregon.
But it's not like teachers are unwilling to move, period. Goldhaber, Grout, and Brown found that Oregon were about 24 times more likely to move within the state than across the border into Washington. Washington teachers were 64 times (!) more likely to move within the state than to cross into Oregon. The ratios were smaller, but still quite large, when they restricted the sample only to teachers working along the border. Even more, teachers were willing to move much longer distances within their state than cross the state line. Across both states, teachers were four times more likely to move 250 miles or more within their own state than they were to make a move of any distrance across the state boundary.
So why are teachers so reluctant to move across state lines? It can't just be about demographics. It may make sense, in theory, that the female-dominated teaching profession would be filled with workers who prefer to take fewer career risks. But that doesn't hold much explanatory power here. Nationally, men are only slightly more likely to move across states than women (1.92 versus 1.86 percent). And, although the teaching profession may attract workers who value stability more than other people, that can't explain teacher attrition rates generally speaking, or why teachers are willing to move so much more often and so much farther within their own state than across their state's border.
That leaves two likely factors unique to teachers and specific to states. First, each state imposes its own set of teacher licensing requirements that make it hard for teachers to seamlessly pursue jobs in a new state. Although many states have reciprocity agreements, these aren't always guaranteed and many teachers face burdensome and opaque licensure requirements if they want to move from one state to another.
Second, state pension plans are playing a role here as well. Pensions do not keep early-career teachers in the profession, and it's impossible for a statewide pension plans to act as a retention incentive for any particular district. But pensions do lock teachers into a particular state. If a teacher intends to remain teaching for her entire career, she's much better off, retirement-wise, staying in one state the whole time. By making just one move across state lines, teachers can cut their retirement wealth in half. These penalties limit the extent to which teachers can seamlessly transition across state lines.
Regardless of why teachers are unwilling to move across state lines, the data from Washington and Oregon suggest the conventional wisdom is wrong: Teachers may be able theoretically to teach anywhere, but in practice they choose not to.
The following is a guest post from James V. Shuls, Ph.D., an assistant professor of educational leadership and policy studies at the University of Missouri – St. Louis and a distinguished fellow of education policy at the Show-Me Institute. Follow him on Twitter at @Shulsie.
Pensions – once a topic only discussed by boring economists and old curmudgeons, are increasingly being discussed in political circles and popular publications. For example, last month The New York Times published “Bad Math and a Coming Public Pension Crisis,” which detailed how wrongheaded actuarial assumptions can wreak havoc on a pension plan’s financial health. As the article states, “The recommendations made by pension actuaries, like which mortality table to use, are largely hidden from public view, but each decision ripples across decades and can have an outsize effect.” In a recent paper with my colleague Michael Rathbone at the Show-Me Institute, I analyze another aspect of public employee pensions that can have a significant impact on a plan’s financial health, but often remain out of sight – pension investments.
Using data on four defined-benefit public school pension systems in Missouri, we analyzed the shift in investments between different asset classes from 1992 to 2014. This work follows a 2014 report by Pew Charitable Trusts and the Laura and John Arnold Foundation which analyzed aggregate economic and investment data from public employee pension systems. Similar to the Pew report, we found that Missouri’s teacher pension systems have shifted to riskier assets.
For example, the Public School Retirement System (PSRS), Missouri’s largest public employee pension system, held more than 80 percent of investments in fixed income and cash in 1992. That figure steadily dropped and by 2015, less than 25 percent of the plan was invested in fixed income and cash. Meanwhile investments in equities and alternatives have soared.
There is nothing inherently wrong with investing in riskier assets; indeed, riskier assets generally offer greater returns. However, they also offer greater volatility. This is another hidden problem which could spell disaster for public employee pensions. If the investments fail to generate the expected returns or even lose value, pension systems can lose a significant amount of money. Meanwhile, benefits for retirees are fixed, predictable, and effectively riskless. Despite this imbalance between riskier investing and guaranteed benefits, PSRS and the other Missouri teacher retirement plans continue to use high expected rates of return of 8 percent.
The findings of our paper reiterate the need for greater transparency and oversight of public employee pensions. For starters, plan actuaries should provide multiple funding scenarios using various expected rates of return, including what most economists agree is the risk-free rate--4, not 8, percent. This would give policymakers greater information in determining the appropriate contribution levels.
The need for greater caution in pension assumptions in Missouri is underscored by the fact that PSRS teachers are not part of Social Security. This means most Missouri teachers rely solely, or primarily, on their pension. If we want to ensure that teachers receive their promised benefits, we must keep a watchful eye on all of our plans assumptions, investments, and contributions. If we do not, we may hasten the “coming pension crisis.”Taxonomy:
*Today, marks the 80th anniversary of the Social Security Act passed in 1935. This blog is updated from an earlier TeacherPensions.org post.
Public sector unions praise Social Security. Except they don’t want it for all of their workers.
The National Education Association describes Social Security as the “cornerstone of economic security,” and Randi Weingarten, President of the American Federation of Teachers, describes it as “the healthiest part of our retirement system, keep[ing] tens of millions of seniors out of poverty [which] could help even more if it were expanded.” A couple of years ago, the Alliance of Retired Workers, affiliated with the American Federation of Teachers (AFT) and and American Federation of State, County and Municipal Employees (AFSCME), even made the Social Security Administration a blue and white frosted birthday cake for its 78th anniversary. This year marks Social Security's 80th birthday (and Medicare's 50th), and there will be events held across the country to celebrate. Also with cake.
But not all local government workers have Social Security. Over 6 million public sector workers are not covered by Social Security, including about 1.2 million public school teachers; in 15 states, public sector workers do not pay into or receive benefits from the system. If you were to ask, however, whether all state and local workers should have Social Security, most public sector unions would adamantly reply, no.
Why do unions hold such conflicting views on Social Security? The primary reason—pensions. Unions fear that extending Social Security coverage will signficantly cut into existing pensions, which are more generous to full-career workers in states that do not offer Social Security coverage.
However, public pensions in states without Social Security coverage offer more generous benefits because they were designed as a standalone benefit. Coordinating Social Security with state pension plans would likely result in equal or better retirement benefits overall for more teachers, especially those who do not qualify or receive much of a pension. What’s more, unlike pensions, Social Security is portable and does not penalize workers for moving across state lines. While the politics around teachers and Social Security coverage are at odds, Social Security could be a core part of improving teacher retirement plans. In particular, Social Security could provide a floor of retirement security for early career teachers who often leave the system with nothing.
See here for more information on teachers and Social Security coverage.