After spending a lot of time writing about Colorado’s teacher pension system (PERA), it becomes evident just how crazy the current system is. Here are the basic facts:
1. Members contribute 8.75 percent of their salary, which will rise to 10 percent next year;
2. School district employers contribute 20.40 percent of each teacher’s salary, rising to 20.90 percent next year;
3. The state assumes a 7.25 investment return (and has actually averaged 8.5 percent over the last 30 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 begins 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).
A 25-year-old teacher could have retirement savings worth… | |
At age 35: | $229,184 |
At age 50: | $1,2263,626 |
At age 60: | $2,950,023 |
These hypothetical results are quite outstanding. The teacher would become a millionaire by age 28, and she could make her second million if she continued teaching until age 56.
Colorado’s actual pension plan, however, provides a reasonably comfortable retirement only for the small fraction of people who remain teaching in the state for an entire career, but even that is not nearly as generous as this hypothetical 401(k). 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 $200,000 more than her pension.
How is it possible that contributions plus interest are worth more than pension benefits? There are 17.5 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 $17.5 billion for schools. Colorado has responded by cutting benefits and increasing employee and employer contribution rates. (In 2010 it also went after the benefits of current retirees and reduced the amount their pensions could adjust to inflation. After a protracted legal battle, the Colorado Supreme Court declared it legal.)
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.