In a recent draft bill, the JBC proposes that the state take $500 million from its dedicated emergency reserve fund and invest that money in the Public Employees Retirement Association (PERA) fund portfolio. The state would then look to pay out the $350 million law enforcement supplement over 10 years in equal annual installments. They would rely on PERA to earn at least its 7.25% target return to generate annual payments without, theoretically, reducing the emergency reserve fund. Instead of reimbursing the emergency fund from the assets invested in PERA, the state would replenish the fund by reducing its pension contributions to PERA. This is necessary because, by law, PERA cannot make payouts for any purpose other than pension payments to its members. 

While this proposal gets high marks for creativity, there are several reasons why it should be a non-starter. First, the proposal relies on the primary assumption that PERA will earn at least 7.25% per year over the 10 years of this scheme. With the financial turmoil being experienced in 2025, on top of the existing debt-related stress already on the PERA system, relying on these substantial returns places undue pressure on the plan to do something it has not been able to do historically. According to Reason’s analysis on the system’s investment returns, PERA has only achieved a 6.7% return over the last 23 years. 

A further look at PERA’s financial position clearly shows the risk in this assumption. Through 2024, Colorado PERA (State Division) had a projected funded ratio of just 69.2% and an unfunded actuarial liability of almost $9 billion. The School Division of PERA holds nearly $16 billion in pension debt.  

There also exists a mismatch in investment strategies and the guaranteed nature of lifetime pension promises. PERA is, by definition, a retirement system investing for the long term and paying out lifetime incomes to retired members. The investment pool is designed for this long-term investment horizon. The $350 million payout to supplement law enforcement over 10 years is a liability requiring an investment of a much shorter duration.  Asking PERA to use its fund to meet this obligation is putting it in an untenable position.   

Finally, why is the state even considering using the asset pool of a retirement system to produce a short-term investment return rather than a long-term, retirement-oriented return? If the state’s emergency reserves will be used to fund this mandate, it would seem appropriate for the state treasurer to invest in a liability-appropriate manner to satisfy the need. If the PERA fund does not meet its target return, the scheme falls apart, resulting in a loss to the state’s emergency reserve and leaving the law enforcement mandate short of the required supplement. 

Many state and local government pension funds, including PERA, are in precarious financial positions. Its problems include debilitating unfunded liabilities, questionable investment expectations, and continuing political interference. Adding the responsibility for completely unrelated and short-term investment mandates to these pension systems is simply improper. The idea alone suggests a fundamental lack of understanding of the pension system’s financial position and of investment management generally. The state, through the treasurer, has the mechanism to address situations such as this without involving the retirement funds of public workers. The state should use the proper channels and let PERA concentrate on its own goals and objectives. 

The post Colorado should not use PERA to invest in non-pension programs  appeared first on Reason Foundation.

To modernize retirement offerings to the workers the government hopes to attract today, government leadership and policymakers first need to clearly establish what they are trying to achieve. Anchoring to a retirement benefit that adequately advances the ultimate retirement security of all new hires is an objective that likely all stakeholders can agree upon. It’s a much better approach than merely sticking to an old plan design without considering what government employers want to get out of an employee retirement plan. 

As the last bastion of traditional defined benefit (DB) pensions, state and local government plans have not, by and large, adapted to meet the needs of changing workforce patterns. While reforms to these public pension plans have been numerous and ongoing, most reforms have primarily focused on shoring up financials rather than better meeting the needs of employees.

There are exceptions, of course. For example, the Arizona Public Safety Retirement System modernized its retirement benefits, and lawmakers enacted similar reforms for Michigan teachers. Unfortunately, most policymakers are usually focused on finding ways to pay for unexpected pension costs rather than reshaping retirement benefits to meet the evolving needs of today’s public workers. 

There has also been extensive debate over many years about what type of retirement plan is optimal for state and local governments to maintain. While there are valid points to be made for various plan types, it has become increasingly clear that only offering the ubiquitous traditional pension in the state and local governmental world is the wrong choice going forward. 

The data provided by the retirement systems themselves bears this truth out unambiguously. The following chart, compiled by the Pension Integrity Project at Reason Foundation, uses data from the Annual Comprehensive Financial Reports (ACFRs) of a selection of public retirement systems. The pension systems represented in this chart are geographically diverse across the country and were selected by Reason Foundation to represent both teachers and general public employees. The chart shows the probability of an employee remaining in each pension plan for any number of years following initial employment at the age of 30. 

There are several important takeaways from this data.   

• With variations in percentages, the pension systems are reporting almost identical retention curves.  As Reason Foundation compiles more system-provided data, the results will likely mirror those here. There will be outliers, with both better and worse retention experiences, but the consistency of experience is clear. 

• Of the 11 plans represented here, the probability of remaining in the plan at five years of employment ranges from a high of 58% to a low of 28%. At 10 years, the probability drops to 44% at the high and 17% at the low end. The probabilities continue to drop steadily even after that point. 

• Most employees will not remain in their state and local governmental pension plan long enough to become vested in future benefits. For those who do achieve full vesting but leave before reaching retirement, their ultimate income benefit will be based on their age, salary, and years of service when their employment is terminated with that system. This benefit will be further eroded by inflationary effects over the period during which the money was not working for the plan participant. 

The primary takeaway is clearly that if the objective of the state or local government’s retirement plan is to provide secure lifetime income for the portion of an employee’s career spent at that governmental entity, then a retirement plan that recognizes modern employee mobility must be offered. The traditional defined benefit pension is not that plan design. It was effective when remaining with one employer for a full career was common and desired. That’s no longer the case for most workers. 

Several government-run retirement plans—but far too few—have begun to adopt modernized plans that reflect the needs of a more mobile population of public workers. North Dakota recently adopted a defined contribution (DC) retirement approach for new hires, which gives state teachers and employees flexible individual accounts that they can take with them with no penalty in the increasingly probable chance that they will move on to another job within five to 10 years.  

Many states have found success in giving their employees multiple options, which allows new hires to choose which type of plan best suits their unique situation. Utah began providing a defined contribution option to new hires in 2011, and Colorado expanded a similar DC option in 2018. Florida made its DC option the primary retirement choice for most public employees and recently granted significant improvements to that plan to improve retirement security. 

The next frontier for public retirement plans will be optimized defined contribution plans, which employ modern strategies to significantly reduce the likelihood of retirees outliving their savings. All of these examples showcase a collective emphasis on shared goals—specifically, ensuring adequate retirement savings not only for career employees but also for the vast majority who will eventually find themselves in different jobs or locations. 

Politically motivated debates about the effectiveness of traditional pension plans usually overlook a retirement plan’s actual objectives. With greater employee mobility, offering a retirement plan that provides portability of benefits is necessary. Flexible plan designs tailored to today’s employment reality do exist and are constantly evolving to keep up with broader workforce trends, but these options are much more prevalent in the private sector than they are for government workers.

Stakeholders in public retirement systems should move to adopt effective retirement plans for new hires while maintaining their commitment to existing employees in current pension plans.

The post Why traditional government pension plans don’t work for today’s new employees  appeared first on Reason Foundation.

The answers to these questions, as they often do, lie in the history of how public retirement plans started and how they have evolved over the last 40-plus years.

In the early 1980s, the significant movement in state retirement plans was the wave of public university systems moving to defined contribution optional retirement plans (DC ORPs). Public university systems in many states already had optional retirement plans, including the University of Michigan (the first ORP dating to 1918).

Optional retirement plan is a generic term for a portable DC-based retirement plan where the individual participant owns his or her assets and can control them through a career with multiple employers. The two most common types of ORPs are the ones that give an option for an employee to make a one-time choice between the defined contribution plan or a traditional pension and the type where eligible employees can only participate in the DC plan.

Through the 1980s and into the 1990s, optional retirement plans were enacted by legislative action for university systems in Florida, Georgia, South Carolina, Idaho, Montana, Colorado, and New Mexico, among others.

The main reason for enacting optional retirement plans was the need to recruit faculty and administrators from a nationwide talent pool, and universities recognized that a non-portable traditional pension hampered recruiting. Higher education employees, especially faculty, were one of the most mobile professions at this time. By the end of this wave of ORP implementations, all but a small group of states had mobile, defined contribution-based retirement plans in place for higher-education employees. Of note is that these plans, with their DC structure, were still focused on providing stable lifetime income to participants after a career of employment. In most cases, at the time, lifetime annuity income was the primary distribution method from these plans.

The big news in the 1990s was the seemingly never-ending upward movement of equity markets. As the decade advanced, many state legislatures began implementing substantial benefit formula increases in their state’s traditional pensions. These increases were the result of increasing political influence on public pension plans, including a desire among legislators to attract votes from public employees and significant pressure from public employee unions. While the funding status of most traditional public pension plans was strong because of market conditions, these benefit formula increases were often adopted without proper consideration of potential funding impacts. Once promised, these increases could not be revoked. 

These changes subjected the financing of these plans to a great deal of risk that did not exist before the benefit increases were rewarded. The contribution formulas at the time were designed based on the actuarial analysis of what was needed to meet the benefit obligations before these unfunded increases were implemented. The fact that funding statuses at the time were high was not sufficient logic to not fund the changes. These actions exhibited either a monumental lack of understanding of market behavior or an arrogance that ‘it will not happen to us. The market downturn would prove extremely damaging to these public pension plans. There was a broadly held belief, however, that markets would continue growing and never slow down. Alan Greenspan, then chairman of the Federal Reserve in 1996, called this “irrational exuberance.”  

DC-based retirement systems, including many ORPs, were not immune from changes brought about by the rise in equity markets. Participants began demanding more investment options and distribution methods other than lifetime annuities. In plans that had investment strategies geared toward long-term retirement savings and income production, these pressures spurred a movement away from the core objectives of retirement security. Many plans became focused on wealth accumulation rather than income production. Some plans wound up with hundreds of investment choices among multiple providers, putting the average, non-investment-sophisticated plan member in a difficult spot. While investment choice in and of itself is not necessarily a bad thing, this kind of unchecked choice came with a general move away from the central objective of secure lifetime income production. The variety of options unfortunately opened the door to a rise in unclear and inappropriate goals, like prioritizing wealth accrual over lifetime retirement security.

The tech bubble bursting and the inevitable large market downturn, followed by a prolonged period of war and overall economic instability, was a dramatic wake-up call for retirement systems, both traditional pensions and ORP-type public plans. Inadequately funded benefit increases led to wholly predictable unfunded liabilities. Many retirement systems tried to address the shortcomings by becoming more aggressive with the investment of system assets. This attempt to chase returns led directly to even deeper unfunded liabilities when the subprime mortgage crisis prefaced the great recession later in the decade. States and municipalities were forced to find revenues to adequately fund their retirement systems, resulting in impacts on other government-provided services.

While no unfunded liabilities could accrue to employers with DC-based plans, individuals that had invested in an overly aggressive manner found themselves with inadequate assets as retirement approached. In numerous cases, this resulted in delayed retirements and certainly necessitated changes in personal retirement planning. Many retirement plan systems at this point were being advised by third-party investment and benefits consultants whose experience was largely in the DC corporate world.

By and large, corporations had moved away from pensions but had not moved to defined contribution plans designed around lifetime income security. While the seeds were planted for redesigning these DC plans along the lines that ORPs originally were, the implementation of better designs was still years away.

During this time, employment patterns in the state and local government workforce continued to change. At one time, many government employees remained with one employer for a full career. That was no longer the case, with governmental employment patterns more closely tracking private sector employment tenure.  

The recovery from the Great Recession was slow, but corporate balance sheets began to improve steadily in the 2010s. Employment, however, lagged. State and local governments were revenue-strapped, and unfunded pension liabilities were wreaking havoc on government budgets while employment tenure continued to decrease. Government retirement, long a back-burner political issue, became front-page news. Taxpayers were pushing for public pension reforms, while unions were demanding protections for public employees. 

This environment called for significant action in public pension plans. It was clear that the unfunded liability situation could not continue. It was also becoming increasingly clear that the changing employment patterns in the public sector made traditional pensions ineffective for the vast percentage of new employees entering public employment. Public employers were also having trouble recruiting qualified employees. To address all these challenges, a move—for new employees only—to an ORP-like DC-based retirement system should have been obvious. This would have prevented the creation of new unfunded liabilities, would have met the needs of an increasingly mobile workforce, and would have aided in recruiting–just like ORPs had done for higher education.

A few state governments, including Alaska, Oklahoma, and North Dakota, did just that, closing outdated pensions and enrolling all new employees in defined contribution plans. More states, like Florida, Arizona, Colorado, Michigan, and several others, added and expanded upon optional defined contribution plans so new hires could choose for themselves which approach would best fit their career path.

Most state and local governments, however, did very little to modernize their retirement plans, leaving the majority of public workers in defined benefit pensions despite their inability to accommodate an increasingly mobile workforce.

Amidst the need to modernize retirement plans, as evidenced by the clear preference to do so in the private sector, public employers largely ignored growing risks and costs. Unions and other anti-reform groups continued to insist that traditional public pensions serve as superior recruiting tools despite only between 30% and 50% of public employees even qualifying for these benefits.

Today, there are even efforts to undo modernizing public pension reforms and to bring government employers back to the defined benefit pensions of the early 2000s.

Examining the history and evolution of public retirement plans, one can see that today’s situation is actually not much different than it was in the 1980s. While market conditions and employee needs have changed, secure lifetime retirement income after a career of employment remains the primary objective of any retirement plan, along with aiding employers in recruiting and retaining employees in a financially viable manner. Luckily, there is a wealth of tools available in the marketplace to craft low-cost plans that are efficient in managing risks and flexible enough to meet individual employee needs, which was not the case 40 years ago.

As the DC-based, income-focused retirement plan is the best design to meet the needs of governmental employers and employees today, stakeholders in public retirement plans, including employers, employees, unions, legislators, and others, should consider expanding and emphasizing this approach for new hires.

One key lesson that policymakers should learn from the last 40 years is that they must maintain a focus on retirement plan objectives. Losing that focus, as has happened in both traditional pension and defined contribution designs, will lead to suboptimal outcomes for both employers and their workers.

The post Public retirement plans need to evolve appeared first on Reason Foundation.

Too often, whether a defined contribution (DC) plan is the default for new hires or is an alternative to a defined benefit (DB) plan, many public pension system administrators offer education about DC plans that does not properly explain the benefits such a plan can provide.  

For many pension plan administrators, their only exposure to a defined contribution approach has been as a supplemental tax-deferred savings plan like a 457 or 403(b) plan. These administrators might be unfamiliar with the design of a retirement-focused DC (not a supplemental one), and employee representative groups and related trade groups might have told them that DC plans are ineffective retirement plans.

Not every administrator understands that cutting-edge DC-based designs offer tremendous flexibility to meet individual participant financial needs while operating within plan sponsor-defined guardrails to produce and protect adequate lifetime income. 

To defend these administrators, the defined contribution retirement plans in some states or municipalities have been implemented to address crushing DB unfunded liability problems without properly designing the DC plan to focus on lifetime income and specific employee needs. In these situations, public pension plan administrators, employees, and candidates often were not effectively educated on the features and benefits of the new plans, leaving them susceptible to those influencers devoted to old-school, ineffective pensions. This fixation on pensions ignores the reality that in many public DB plans only one-third to one-half of current DB participants will ever get a benefit. 

Both private and public sector employees will likely change their employer multiple times during their careers. Traditional DB pension plans, ubiquitous in the public sector, are purposely designed to back-load their value to participants, penalizing non-full career employees. Similarly, 401(k)-style defined contribution plans, while attractive to early-career employees because of the portability of assets, are not designed to provide employees lifetime income after a full career, and are not an effective retirement plan design either. 

A robust communication, education, and advice strategy will enable an employer to educate employees and prospects on the plan’s features and benefits and how to use them to meet individual needs. Also, complete plan understanding can lead to greater employee satisfaction, positively impacting an employer’s ability to meet workplace goals around retaining workers.  

Through a comprehensive and targeted communication, education, and advice strategy tied to a properly designed retirement plan sitting on a defined contribution foundation, employees can better understand: 

• Provisions for guaranteed lifetime income 
• Plan flexibility to: 
  • Customize asset allocation
  • Customize distribution options
  • Incorporate other individual and family assets into planning
  • Choose active or passive management
  • Utilize advice and financial planning tools to structure the plan to meet individual needs

This education about pension plans should begin before employment starts. This could be based on written and web-based materials that describe the plan’s features and benefits, focusing on portability and flexibility. Starting early in an employee’s tenure an opportunity should be afforded for the employee to meet with a plan-provided financial planner. This session should include goal setting, risk tolerance, and additional assets and income sources.   

This “baseline-setting” session is important in providing non-financially sophisticated employees with the comfort and confidence they need in a plan. Group educational sessions, web tools, and periodic meetings with the planner should be provided throughout workers’ careers. Closer to retirement, the education and communication plan should shift to focus more on income planning rather than asset accumulation.

The product offered by the financial planner should always include specific fund-level advice (as opposed to guidance) independent of investment providers associated with the plan. Web-based advice should also be offered for individuals who choose not to utilize in-person financial planning sessions.  

Employees and prospects who are not educated on a plan’s features and benefits, especially how a plan can work for them, are subject to misinformation and dissatisfaction. An employee who understands the mobility possibilities and the lifetime income focus in a cutting-edge DC-foundational plan will be more engaged and satisfied. And having satisfied employees is one of the best ways for an employer to meet workplace goals. 

The post Public pension plans need to better communicate the benefits of their defined contribution plans   appeared first on Reason Foundation.

While all these changes fall under what is commonly considered pension reform, there is a crucial distinction between fixes to specific public pension problems and reforming a pension plan to better meet its core objectives. Understanding the difference between these actions is vital for policymakers undertaking pension reforms because, in most cases, a combination of both is needed.

Frequently, public pension reforms aim to improve the funding status of the traditional defined benefit plans still in use by most state and local governments. Many legacy defined benefit (DB) pension plans have been significantly underfunded due to years of market returns coming in well below the plans’ previous investment return expectations and a general slowness to act on new emerging costs. These shortfalls in funding for promised pension benefits can total millions and even billions of dollars. 

State and local governments, in many cases, have made various contribution-related changes to these plans to manage their budgets better and head off impending financial and benefit-related crises. While pension funding changes that improve the financial picture of a traditional DB plan are necessary reforms and should be applauded, they should be considered a partial reform effort. 

Funding reform may address one aspect of a broader issue, but it is only part of it. Any reform effort that tackles a single element relating to a retirement plan is not full pension reform because it has yet to ask the fundamental question: Is the current pension plan design working? Have circumstances changed to reconsider the design of the plan going forward?

With these questions in mind, any broad or full public pension reform effort should start by restating or redefining the objectives of the retirement plan itself. Once this task is done, the objectives should be measured against the design and performance of the existing plan. 

This process should paint a picture of the direction in which any needed pension reforms should go. The results could vary widely by plan, ranging from funding reform to a complete retirement plan redesign for newly hired employees. 

Rarely, if ever, especially for an initial pension reform effort, will only one type of needed change be identified. Public retirement plans are large and complex and, in most cases, have existed for decades. Along the way, the original goals of the plan have been clouded by political exigencies and short-term needs.

To foster a comprehensive pension reform effort, policymakers often must restate a retirement plan’s core objectives. Along with clearly stated goals, reform leaders must commit to addressing all necessary changes. Policymakers do not need to apply all necessary changes at the same time, but they should plan for and sequence reforms in the most efficient manner. The most important thing for leadership to accomplish is to address all issues identified by establishing the objectives of the retirement plan. Failure to apply this comprehensive approach leaves the door open for past problems to reemerge.

This issue often arises with funding reform. Policymakers will observe the growth of crippling unfunded liabilities impacting the pension plan and broader budgets and make changes that bring projected funding levels up to what is perceived to be manageable levels. These changes might include contribution increases by employers and employees and possibly even large capital infusions of assets into the plans. These actions could immediately improve the plan’s funding level and bring it out of crisis and into solvency. 

It is possible, however, that without further structural changes, the pension plan could slip back into an underfunded state for the same reasons it did initially. Often, issues with unrealistic actuarial assumptions, unpredictable costs, and unsustainable plan designs will bring a retirement plan right back to the funding crisis that policymakers assumed was already addressed in previous pension reforms. In many cases, policymakers fall into the trap of addressing only contributions, often merely buying them time before they must address larger concerns.

In this way, funding reform may be confused with overall pension reform in the public sector. In these cases, the most significant gap in the process is thoroughly examining how the pension plan realistically benefits employees and employers. Policymakers have failed if a traditional pension is brought up to a satisfactory funding level but still does not benefit most participants. This failure may not be immediately observable, but over time, it will become clear that a great deal of money and effort was spent to have a solvent pension plan that still does not meet the retirement security needs of many public workers, the plan’s most important objective.

Traditional public sector defined benefit plans were designed long ago to provide lifetime income to long-service employees. At one time, many, if not most, employees in these positions stayed with the same employer for 20 or 30 years or more. At the end of their careers, they retired with a benefit from the employer-sponsored pension plan that, when combined with Social Security (if applicable) and personal savings, provided an income in retirement that allowed them to maintain their accustomed standard of living.

For better or worse, the employment pattern in the public sector looks much like that in the private sector today (and has for more than a generation). Median employment tenure is around six years, with most workers having an increasing number of different employers throughout their careers, both in and out of the public sector. 

Actuarial data from the public DB systems consistently show that only about one-third of newly hired employees will qualify for a lifetime income pension benefit. A pension plan that does not meet basic employee needs cannot meet employer needs for recruiting and retaining qualified workers. With a retirement plan that recognizes the reality of the mobility of today’s workers and meets their needs, the needs of employers can also be met.

Funding reform without structural reform that recognizes the reality of modern employment patterns will often prove inadequate. To succeed over the long term, pension reform efforts need to include fixes for existing problems and accurately anticipate the future needs of a plan’s beneficiaries. To do one without the other is a fool’s errand.

Solutions that meet the needs of workers and employers today do exist. Many such retirement plan design examples are in use. These are not high-risk designs that imitate past efforts in the corporate sector. Rather, like the Pension Integrity Project’s Personal Retirement Optimization Plan, they are income-focused and risk-averse and include cost-appropriate designs focused on maximizing public employee and employer outcomes.

Policymakers need to look beyond politics and focus on true public pension reforms. This process must include examining whether the pension plan’s design must change to match the needs of current and future workers. It may entail implementing several reforms and certainly will take hard work. As the cliche goes, few things worthwhile are ever easy. Public pension reform is no different.

The post Public pension reforms often fall short of what is needed appeared first on Reason Foundation.

In Governing, Miller argues:

America needs a better system of “longevity insurance” whereby private-sector 401(k) and IRA savers can convert some of their nest eggs into annuities, providing guaranteed lifetime income with an earnings rate at least a little better than what insurance companies typically offer. There could be an important role for public pension systems in making that happen…

If your expectation is that the private sector will figure this all out and that competition will drive the economics for retirees so favorably that they can all get a maximum return on their annuity investments, then you will see no need whatsoever for a public-sector alternative. But if you harbor the average American’s distrust of insurance companies, then you might want to get behind the idea of a competitive yardstick to be provided by public pensions. The idea here is not to replace the insurance and annuity industries, just to keep them honest and price competitive.

This idea attempts to remove perceived impediments to using lifetime income products for private individuals in this country. However well-intentioned, the proposal would create new, complex, government-run enterprises in each state that would do little to improve retirement security for individuals.

Miller rightly points out that our country’s solutions supporting financial security in retirement are not working for too many people–particularly in the private sector. He notes the reality of poor retirement plan participation and savings rates, the relative absence of lifetime income products for 401(k) plans and IRAs, and the absence of retirement medical savings strategies for most private sector employees. If this situation is not fixed, there is a substantial risk that many workers will become elder-care welfare recipients, adding to the fiscal burdens of governments. 

By contrast, the piece notes that most state and local government employees receive defined benefit pension plans, which provide lifetime annuity income. Miller further acknowledges that retirement plans for educators, primarily in higher education and health care workers covered by 403(b) plans historically have long included lifetime income features through annuities issued by private sector insurance companies. The emergence of new retirement longevity insurance products, such as qualified life annuity contracts (QLACs) that provide income protection only if a person lives longer than age 85, is noted favorably.

Miller also argues that private-sector insurance companies cannot be relied on to solve this retirement income security problem for private-sector employees. The piece posits that many private sector workers elect not to use their retirement savings to buy lifetime income products because of a lack of trust in insurance companies and the cost of those products. Based on this theory, the proposed solution is to create an honest and price-competitive standard bearer deemed more trustworthy with lower costs. And in Miller’s piece, the candidate should be a public pension plan run by state governments.

But are the distrust and high annuity purchase pricing truly the core reasons for the low use of private sector insurance company annuity solutions?

Maybe this is true for individuals deciding whether to buy an individual retail annuity product. However, distrust does not explain why private-sector employers and their consultants often do not use group annuity solutions in their employer-based plans. 

Miller acknowledges the success of group annuity solutions in retirement plans when he notes that the traditional 403(b) plan market does not have these trust problems and offers price-competitive group lifetime income solutions. 

The main barriers to retirement income security in this country are actually more about poor retirement plan design than expensive annuity products and distrust of insurance companies. A great deal more could be accomplished if policymakers encouraged employers to offer good lifetime income-focused plan designs in the first place, similar to the higher education market, rather than adding another layer of government-run complexity. 

Even past the high hurdle of creating another government-run enterprise, a myriad of structural, regulatory, and public policy issues need to be examined before accepting the proposition that public pension plans should enter the private-sector lifetime-income product arena. Miller’s Governing piece touches on some. The government-run annuity enterprise would need to have a separate common trust account to manage the assets supporting the annuity products. This is critical because pension systems are fiduciary bodies and must legally keep their main business of providing pension benefits separate from this new private annuity enterprise. The new enterprise would, in effect, need to be run apart from and unsubsidized by the pension system.

Miller says he doesn’t “expect this idea to see the light of day anytime soon.” But it’s worth discussing the proposal, which is based on the premise that costs would be lower, assuming the new publicly owned and managed insurance company has no profit motive and somehow can be operated more efficiently. But will this be likely? In most cases, probably not.

Miller’s proposal would have each state creating its own new annuity trust company, which means it will not have the economies of scale to realize cost savings. Running this new government annuity trust company would not be the same as running the state pension plan. It would involve a great deal of added complexity and cost just to comply with state insurance regulatory requirements. Public pension administrative systems are not designed to handle these regulatory complexities.

The proposed new publicly-owned annuity trust could also run into financial difficulties if not managed properly–just like any other private sector insurance company. Miller argues that “who backstops any actuarial shortfalls” needs to be decided, but that backing might be less costly than letting elder-care welfare costs soar.  

The implication is that state governments and the public treasury should back this annuity enterprise managed by public pension systems. The troublesome reality is that there is no particular reason to think that the administrative bodies of public pension systems and the lawmakers overseeing these plans would be up to the task, given their track record of underfunded benefits and public pension debt. Under the oversight of state governments, unfunded pension liabilities of 118 state pension systems have exploded to an estimated $1.3 trillion by 2023. This does not inspire confidence in the government’s ability to manage additional retirement-related funds properly. 

The proposed new public annuity trust fund would be best set up to stand on its own two feet without recourse to the public taxpayer and should be subject to all the same regulatory, solvency, risk capital requirements, and state-required guaranty association membership rules as any private sector insurance company.

The idea of leveraging state public pension systems to provide lifetime annuity products to private sector individuals is interesting to explore because of the need to help protect people from outliving their retirement assets. Miller’s proposal, however, addresses only the longevity risk part of the retirement savings and security problems that too many are facing.

There are existing cost-efficient market-based annuity solutions that work but have not been widely adopted by employers. Reason Foundation’s Pension Integrity Project has proposed a retirement structure for public employees, the Personal Retirement Optimization Plan, or PRO Plan, that uses tested annuity strategies to address longevity risks, and similar options are available to the private sector.

Appropriately designed retirement plans that focus on the full range of retirement security issues: automatic participation, adequate savings levels, portability of benefits, managed investments, and prominently featured lifetime income solutions would do far more to solve retirement security issues than adding another layer of government with questionable results.

The post Public pension plans should not get into the private retirement annuity business appeared first on Reason Foundation.

In North Dakota, for example, only 33% of employees beginning service at age 22 still participate in the pension plan at age 27. Employees leaving before the five-year vesting requirement keep only their contributions, lose the employer contributions, and receive no pension benefits. In other words, two-thirds of newly hired North Dakota public employees will receive little or no retirement benefits from their North Dakota public employment once they reach the end of their working careers. 

Employee Retention: North Dakota Public Employees Retirement System

Data provided by North Dakota Public Employees Retirement System actuarial reports and compiled by the Pension Integrity Project at Reason Foundation.

The data for public workers looks similar in other states. According to Reason Foundation’s analysis of public reports, the Montana Public Employees Retirement System expects only 30% of employees hired at age 22 to still participate in the system at age 27. 

Another example is the school division of the Colorado Public Employees Retirement Association (PERA), where a Pension Integrity Project analysis in 2018 showed that only 37% of Colorado teachers hired at age 25 remain in the system after five years of service.

The reality that state and local government employees have become a more mobile group—frequently switching between several employers during a working career—has been known for years.  This pattern is consistent with the broader U.S. employment marketplace, and job mobility is only increasing within the modern workforce. Current employment trends, like working from home, add to this mobility.  

So, very few of today’s younger public employees will see a meaningful benefit from participating in a state or local government pension plan. Similar participation patterns in public pension plans throughout careers (i.e., moving from covered employment to non-covered employment or another shorter stay in a different public defined benefit plan) will leave an employee in desperate straits come retirement. Retiring with inadequate savings or benefits from public pension participation will place an even greater burden on personal savings and Social Security. Since many state and local employees do not participate in Social Security, the burden may fall on other publicly funded social service programs. 

Given this reality, why do public employee retirement systems, the unions representing state and local government employees, and the organizations that carry their messages continue to advocate for these traditional defined benefit pensions and shun other retirement plan design options? Isn’t it their responsibility to seek solutions that provide adequate retirement benefits (based on the employee’s employment tenure at that employer) to the most employees possible, and shouldn’t it be their objective to secure good post-employment income for all new hires, not just the ones who stay in jobs for decades? 

One oft-cited reason these groups give is not a defense of the DB plans but rather a condemnation of defined contribution (DC) plans. They posit pension reform efforts as a binary choice between traditional pensions and 401(k)-like defined contribution arrangements. To their point, there are many reasons to oppose using a typical 401(k) design as a core retirement plan. These could include employee-centered risk, lack of focus on income, and inappropriate and expensive investment choices. The 401(k) was designed to supplement a primary retirement plan in the corporate sector, not to be the entire retirement plan. 

A recent National Education Association article promotes some of these points perfectly, but it does not mention that few employees in a defined benefit pension system will stay long enough to see a meaningful retirement benefit. The article also fails to make the distinction that most defined contribution plans for public workers, while often described to be 401(k)-like, are not exactly like 401(k)s and usually do not suffer from the same shortcomings with savings and investment guidance. One novel approach introduced by the Pension Integrity Project is the Personal Retirement Optimization (PRO) Plan, which focuses on meeting individual participant needs while focusing on guaranteed lifetime income.

What public employee advocates often overlook is that there is no reason to frame public retirement plans into a binary framework. Plan designs other than traditional DB pensions or the typical 401(k) DC are available, and some can fit a government’s unique retirement plan needs. Plan sponsors should frame their decisions on what plan design provides the best risk-managed benefit to the broadest number of employees, irrespective of their tenure with that employer. The plan design should also aid the employer in meeting workplace goals. Perhaps the most important is recruiting and retaining quality employees from the marketplace. The plan that positively benefits the most employees is most assuredly the plan that will best meet employer needs as well. 

Promoting traditional pensions as the only appropriate retirement system for state and local government employees by unions, plan sponsors, and associated groups may stem from a need for more awareness about how other retirement plan options could benefit so many workers. When considering these crucial pension policy implications, lawmakers and policymakers should focus on long-term financial security for the broadest cohort of public employees. Fortunately, several excellent solutions are available today that would not leave today’s new hires with inadequate retirement savings when they reach that stage.

The post Public sector unions continue to advocate for pension plans that don’t benefit most members appeared first on Reason Foundation.

This analysis uses the standards set in Reason Foundation’s Defined Contribution Plans: Best Practices in Design and Utilization to review the Ohio Public Employee Retirement System’s Member Directed Plan’s major design features and efficacy for employees’ retirement. Overall, Reason Foundation’s evaluation determines that the Ohio Public Employee Retirement System Member Directed Plan meets several best practices but needs improvement in other key areas, as described below.

Summary of the Ohio PERS Member Directed Plan

The Ohio PERS Member Directed Plan (MDP) is one of two retirement plan options currently offered to non-law/non-public safety eligible employees.

New employees can choose between the standard defined benefit pension Traditional Plan or the defined contribution Member Directed Plan. The choice must be made within 180 days of covered employment. If no election is made, the default plan is the defined benefit (DB) plan. Members may change their plan election once during their career, but the change is irrevocable. The Ohio PERS website indicates only about 3% of members have elected to participate in the MDP.

The Member Directed Plan is a participant-directed IRC Section 401(a) money purchase defined contribution plan. Employers contribute 14%, and members contribute 10.0% of their annual salary for a total 24.09% gross contribution rate. Of the 14% employer contribution, 7.5% is credited to the member’s MDP retirement account, 4% is credited to the Retiree Medical Account, .26% is allocated for administrative costs, and 2.24% is allocated back to the DB plan as a “mitigating rate” payment to reduce the unfunded liabilities of the Traditional Plan. 

The vesting schedule for new MDP members is 20% per year, with full vesting after five years. Employees who leave before achieving full vesting can take their contributions with them (with interest applied) but lose the unvested portion of the contributions made by their employer.

Importantly, Ohio PERS members do not participate in the federal Social Security program. This means the defined contribution plan (combined with personal savings) must provide enough to meet post-employment goals.

Best Practice Analysis of the Ohio Public Employee Retirement System’s Defined Contribution Plan

Definition of Plan Benefit Objectives

The objectives of the Ohio PERS DC plan are addressed partially in Ohio Revised Code Section 145.81- 145.99, which authorizes the Ohio PERS retirement board to create and administer the MDP program. Ohio Revised Code Section 145.81 allows but does not mandate the board to include a range of potential investment and benefit products, including life insurance, annuities, variable annuities, regulated investment trusts, pooled investment funds, and other investment forms. The authorizing statutes do not appear to provide any additional statement of plan objectives or purpose to guide the Ohio PERS retirement board in designing the MDP.

The Ohio Public Employee Retirement System retirement board has indicated on the PERS website that its mission is: “To provide secure retirement benefits for our members.”

The MDP plan document contains no formal benefits policy or objectives statement. 

However, the MDP’s current design reflects the board’s implied intent to provide members with various investment options and strategies and a significant emphasis on lifetime income options, as further described in this analysis.

Ohio PERS MDP Partially Meets Best Plan Objectives Best Practices

The Ohio PERS MDP partially meets the best practice standard that clear statements be made articulating the benefit objectives and purposes for the plan regarding retirement security and employee recruitment and retention. While retirement benefit security is indirectly addressed in the authorizing statutes, board policies, and the program design, there is no formal and clear statement that the MDP is intended to deliver lifetime retirement income to members and beneficiaries.  

Communication and Education

Ohio PERS provides thorough education and communication to eligible employees to help them choose their initial plan. They do this through benefit comparison charts between the plan options and benefit projection scenario calculators. Communication and education services include web-based resources, brochures, videos, summary plan descriptions (SPDs), group seminars and meetings, individualized counseling, and guidance offerings.  

The initial Traditional Pension vs. Member Directed Plan choice materials on the PERS website are primarily self-serve. New employees must review the PERS benefit projection modeling tools using their situations and potential future work paths. It is unlikely that some workers will be willing and able to effectively consider which plan is most likely to be best for them. 

The plan choice modeling tools are only accessible on the member-only PERS website. PERS webinar material, however, does indicate the modeling tools allow a member to construct a side-by-side comparison of projected lifetime income from each under different salary, retirement age, and investment gain scenarios. A separate comparison tool is provided for members who do not expect to stay an entire career and expect only a payment of the Traditional Plan refund amount or the MDP account value.  

The benefit plan comparison charts clearly outline what is provided and what is not under each plan choice and address the different retiree healthcare and disability benefits that exist under each choice.

DCP participants can access online and call center services to assist with managing their retirement, investments, and distribution planning.

Meets Best Practices for Education and Communication

The Ohio PERS MDP provides comprehensive participant education and communication materials and services covering all aspects of initial plan choice, accumulation period tracking and planning, investment management, and distributions during retirement.  

Note: The extremely low 3% selection rate of the Member Directed Plan raises concerns that members may not fully avail themselves of the plan selection resources. Generally, a higher percentage of younger and shorter-service employees would be expected to earn a higher total benefit under the defined contribution plan than the Traditional Plan. Thus, consideration should be given to automatically offering base-level working-career scenario projections instead of only on a self-serve basis.

Automatic Enrollment

New employees are automatically enrolled in the Ohio PERS program with a 180-day window to choose the Traditional Plan or Member Directed Plan. The Traditional Plan is the default for those who do not otherwise make the MDP selection. Those who choose the MDP have mandatory employee and employer contributions directed into an age-appropriate target date fund with the option for the employee to elect a variety of other investment approaches. 

Does Not Meet Best Practices on Enrollment

Requiring all new members to enroll in either of the two retirement offerings is consistent with best practices, but having the pension option as the default—the automatic choice for those who do not make an active choice within the required timeframe—nudges most new hires into a plan that does not best fit their needs. As it would better suit the mobile nature of the modern workforce, the DC plan should be the default for new hires.

Contribution Adequacy

Ohio PERS Member Directed Plan participants have a gross employer contribution of 14% of pay and a member contribution of 10% of pay. However, only 7.5% of the employer contribution is credited to the MDB investment account. 4% is allocated to the Retirement Medical Account, and the rest is allocated to administrative expenses or the “mitigating” amount to help pay off unfunded liabilities in the Traditional Plan. Because Ohio PERS members do not participate in Social Security, the total contribution rate of 17.5% (7.5% employer and 10% employee) is likely inadequate to fund a retirement benefit that would enable a retiree to maintain their standard of living following a career of employment. The 4% Retirement Medical Account (RMA) contribution helps offset this contribution deficit, but it is subject to a stringent vesting schedule of 10% vested per year beginning at six years of service until fully vested after 15 years of service. This vesting schedule effectively means most employees will not receive significant RMA benefits.

Does Not Meet Best Practices for Contributions

The total employer and employee contribution rate of 17.5% specific to retirement benefits (not health or legacy pension related) is below the best practice standard for non-Social Security employees of 18%-to-25% of covered compensation.

Retirement-Specific Portfolio Design

The Member Directed Plan offers participants a choice of a set of standard target date funds (TDF), a group of “standalone funds,” which includes five passively managed funds and one actively managed fund covering the following major investment classes: stable value, fixed income, large-cap equity, mid-cap equity, small-cap equity, and a non-U.S. equity index fund.   

The TDF options are offered in standard five-year age increments. The default investment is an age-appropriate target date fund if the participant does not choose a different investment.

This evaluation could not identify any investment advice or other asset allocation assistance tool for the standalone options. Such may be provided in the member-only part of the OHIO PERS website but was not identified in the publicly available elements of the website.

A Self-Directed Brokerage Account (SDBA) is also available, offering a selection of 5,000 mutual funds. Members must have a $5,000 minimum account balance to invest in the SDBA and may not invest more than 90% of their account balance into this account to ensure the member shares in supporting the administrative expenses of the Member Directed Plan. SDBA offerings are not typically offered in core defined contribution plans due to the higher investment costs with retail-level investment funds and because very few participants are equipped to properly invest their retirement assets to this degree. SDBA offerings are more commonly available in voluntary deferred compensation plans where only employee money is involved.  

The Member Directed Plan offers no accumulation period (deferred) or immediate annuity options.

Partially Meets Best Practices on Portfolio Design

The Member Directed Plan target date funds and standalone investment menus provide an appropriate range of investment choices covering the risk and return spectrum. The TDF offering includes pre-built target date accounts for those who prefer to avoid managing their asset allocation. If not otherwise available, consideration should be given to providing investment advice or guidance for the standalone fund menu. The SDBA is not considered a best practice for a core defined contribution plan.

Portable Benefits

Accumulations attributable to employee contributions are immediately vested. Accumulations attributable to employer contributions are not fully vested for five years. Vesting is on a pro-rated scale, beginning with 20% vested per year until full vesting after five years. The portability feature is strongly emphasized in the employee communication material and contrasted with the more stringent Traditional Pension vesting and refund rules.

Partially Meets Best Practices for Portability

Full and immediate vesting of employer contributions would be preferred to meet the needs of today’s more mobile workforce. The 20% per-year vesting schedule partially meets this best practice standard.

Distribution Options

The MDP makes various distribution options available, including monthly lifetime annuity payments, full refunds, partial lump sums, and combinations of annuity and lump sums. Retirement annuity benefits are generally payable after attaining age 55 with vested benefits. Full refunds are payable at any age after termination of covered employment. The MDP annuities include a cost-of-living adjustment feature based on a Consumer Price Index inflation benchmark.

Meets Best Practices in Distribution

The distribution offerings meet best practices by including standard lump sum and periodic payment options and, importantly, lifetime annuity options. 

Disability Coverage

Member Directed Plan members are not eligible for any disability benefit from Ohio PERS. The Traditional Plan does provide a disability allowance. Under the closed hybrid Combined Plan, a portion of the employer contribution is used to purchase a disability benefit. There is no similar provision under the MDP.

Does Not Meet Best Practices on Disability Coverage

The absence of a disability benefit is an important missing feature protecting participants in the MDP. One option is to allocate a portion of the employer or employee contribution for this purpose in the same manner as exists under the now-closed Combined Plan.

Conclusion

The Ohio Public Employee Retirement System Member Directed Plan, the defined contribution plan available to all newly hired non-public safety workers, meets most of Reason Foundation’s best practice standards for defined contribution plan design, particularly the focus on providing lifetime income solutions. Still, improvements should be considered in some areas, including:

• Higher total retirement account contributions to at least 18% of compensation;
• A default that nudges new hires to the retirement plan that will best serve the majority of entrants; 
• A shorter vesting schedule;
• Automatic benefit comparison and projection scenarios for new employees for making their initial plan choice;
• The standalone fund investment menu should be examined to ensure members are provided asset allocation investment advice and guidance;
• The SDBA offering should be reconsidered as an investment offering for a core DC plan, and
• A portion of the employer or employee contribution should provide a disability benefit for those who choose the MDP. 

For more information and an in-depth scorecard summary, please see Reason Foundation’s evaluation of the Ohio Public Employee Retirement System’s defined contribution plan.

The post Comparing the Ohio PERS defined contribution plan to gold standards appeared first on Reason Foundation.

In this analysis, we’ve used the leading best practices from our 2022 Reason Foundation study, Defined Contribution Plans: Best Practices in Design and Utilization, which outlined a set of design gold standards as a measure of the plan’s effectiveness.

Overall, the Ohio State Teachers Retirement System’s defined contribution retirement plan meets best practices in most areas but needs some improvement in other areas.

Summary of the Ohio STRS DCP

The Ohio State Teachers Retirement System’s (STRS) defined contribution retirement plan (DCP) is one of three retirement plan options provided to teachers hired on or after July 1, 2001. New teachers are provided a choice between the standard defined benefit pension (DB), the defined contribution (DC) retirement plan, or a hybrid defined benefit/defined contribution (combined plan) alternative. The choice must be made within 180 days of covered employment. If no election is made, the default plan is the defined benefit plan. If the defined contribution retirement plan or hybrid DB/DC combined plan is elected, there is a window in the fifth year of coverage to change back to one of the alternative plans. 

The DCP is a participant-directed Internal Revenue Code Section 401(a) money purchase pension defined contribution plan with employer contributions of 11.09% of annual salary and teacher contributions of 14.0% of annual salary for a total 25.09% contribution rate. The vesting schedule is 20% per year, with full vesting after five years. 

Of note, Ohio STRS members do not participate nor contribute to the federal Social Security program.

Best Practices Analysis of Ohio STRS

Definition of Plan Benefit Objectives

The purpose and objectives of the Ohio STRS DCP are addressed partially in Ohio Revised Code Section 3307.81, which directs the Ohio STRS retirement board to create the DCP and allows the board to include in the plan design regulated investment trusts, pooled investment funds, annuities, variable annuities, life insurance, and other forms of investment. The authorizing statutes do not appear to provide any additional statement of plan objectives or purpose to guide the STRS retirement board in the design of the DCP.

The STRS retirement board has issued a set of board policies that state the purpose of the board is to ensure that statutorily defined current and long-term retirement and other benefits services are provided to covered teachers and beneficiaries.

The DCP plan document mirrors the statutory language about the allowed investments the retirement board may make available but does not contain a formal benefit policy objective statement.

Ohio STRS DCP Partially Meets Plan Objectives Best Practices

The Ohio STRS DCP partially meets the best practice standard that clear statements be made articulating the benefit objectives and purposes for the plan regarding retirement security and employee recruitment and retention. While retirement benefit security is indirectly addressed in the authorizing statutes, board policies, and the program design as described in the plan document, there is no formal and clear statement that the DCP is intended to deliver lifetime retirement income to members and beneficiaries. 

Communication and Education

The Ohio State Teachers Retirement System provides various communication and education services available to eligible teachers, covering the essential areas of initial plan choice, benefit comparison charts between the plan options, and benefit projection calculators. Communication and education services include web-based resources, brochures, videos, summary plan descriptions (SPDs), group seminars and meetings, individualized counseling, and other guidance offerings.  

The initial DB/DC/combined plan choice materials on the STRS website are primarily self-serve, and new teachers must go through each plan’s benefit projection modeling tool separately using their scenarios. The plan choice modeling tools allow comparison of projected lifetime income from each, which is the preferred practice. The benefit projection modeling tools are not highlighted in the overview materials or located in a single place that allows easy access. Benefit projection modeling on a side-by-side basis is not provided for easy comparison by new employees. 

The benefit plan comparison charts clearly outline what is provided and what is not under each plan choice. However, the charts do not include the employer and employee contribution rates. These are described separately under each plan option.

DCP participants have access to online and call center services to assist with managing their retirement planning, investments, and distribution planning, including the “My Interactive Retirement Planner” tool provided by the plan recordkeeper.

Meets Best Practices for Education and Communication

The Ohio STRS DCP provides a wide range of participant education and communication materials and services covering all aspects of initial plan choice, accumulation period tracking and planning, investment management, and distributions during retirement. The benefit comparison charts should be modified to include the benefit accrual and contribution structures and amounts. A more robust side-by-side initial plan choice benefit projection tool for different life career paths should be considered.

Automatic Enrollment

New employees are automatically enrolled in the Ohio State Teachers Retirement System with a 180-day window to choose the DB, DCP, or combined plan. Those who do not make a selection default into the defined-benefit pension plan. Those who choose the DCP have mandatory employee and employer contributions directed into an age-appropriate target date fund until the employee makes a positive election.

Does Not Meet Best Practices on Enrollment

Having new members who do not make a plan selection automatically enrolled in the defined benefit plan is not in line with best practices. The defined contribution plan would better suit most new hires and should be the default.

Contribution Adequacy

Given that Ohio STRS teachers do not participate in Social Security, total contribution rates of 25.09% (11.09% employer and 14% employee) are adequate to fund a retirement benefit that should enable a retiree to maintain their standard of living following a career of employment. 

Meets Best Practices for Contributions

The total employer and employee contribution rate of 25.09% meets the best practice standard for non-Social Security employees of between 18%-25% of covered compensation.

Retirement-Specific Portfolio Design

The DCP offers participants a broad array of 17 investment choices covering the spectrum of risk and return asset classes, as well as real estate and target date fund (referred to as “Target Choice”) options. The Target Choice options include five alternative personal risk profile choices ranging from conservative to aggressive. The default investment is an age-appropriate Target Choice fund. A member cannot purchase or invest in annuity options while working, but they can purchase a lifetime annuity option offered by the plan after retirement.

Partially Meets Best Practices on Portfolio Design

The DCP investment menu provides an appropriate range of choices covering a wide risk and return spectrum. It includes pre-built target date accounts for those who prefer to avoid managing their asset allocation. Some improvements could be made by offering accumulation period annuity options. 

Portable Benefits

Accumulations attributable to employee contributions are immediately vested. Accumulations attributable to employer contributions are gradually vested over five years. Vesting of employer contributions is pro-rated, from 20% vested per year until full vesting after five years. The portability feature is strongly emphasized in the employee communication materials.

Partially Meets Best Practices for Portability

Full and immediate vesting of employer contributions would be preferred to meet the needs of today’s more mobile workforce. The 20% per year vesting schedule partially meets this best practice standard.

Distribution Options

The DCP makes various distribution options available, ranging from leaving the assets in the plan to various fixed-period and lifetime annuities. 

Meets Best Practices on Distribution

The distribution offerings meet best practices by including both standard lump sum and periodic payment options and, importantly, lifetime annuity options.

Disability Coverage

The DCP members are not eligible for any disability benefit under STRS. The DB and combined plan options do provide a disability allowance. Under the combined plan, 2% of the participant’s 14% contribution is used to purchase a disability allowance. There is no similar provision under the DCP.

Does Not Meet Best Practices on Disability Coverage

The absence of a disability benefit is an important missing feature protecting participants in the DCP. One option is to allocate 2% of the employee contribution for this purpose in the same manner as exists under the combined plan.

Conclusion

Among public worker retirement systems, the Ohio State Teachers Retirement System is a national leader in flexibility and choice. The ability of each new teacher to choose the retirement structure that works best for them gives STRS a notable advantage in serving a wider variety of preferences and post-employment plans. The Ohio defined contribution plan meets most of Reason Foundation’s best practice standards for defined contribution plan design, particularly the focus on providing lifetime income solutions. 

The Ohio State Teachers Retirement System should consider improvements in some areas, including:

• Providing a shorter vesting schedule;
• More robust benefit comparison and projection scenarios for new employees for making their initial plan choice; and,
• Providing a disability benefit for those who choose the DCP. 

Most notably, Ohio policymakers should consider making the defined contribution plan the default plan for new hires who do not make a selection since this is the most advantageous option for most teachers, who aren’t likely to remain in the system for decades. 

For more information and an in-depth scorecard summary, please see Reason Foundation’s evaluation of the Ohio State Teachers Retirement System’s defined contribution plan.

The post Comparing the Ohio State Teachers Retirement System’s offerings to gold standards in retirement plan design appeared first on Reason Foundation.

However, the RAND brief comes up short in identifying common limitations in public retirement plan design. When addressing the ongoing funding challenges posed by public pension plans, policymakers must also seek modernized approaches to retirement policies that address the larger retirement crisis.

The RAND paper breaks the integral contributors of the crisis down into specific categories, with “assumptions,” “institutional setting,” and “poor governance” topping the list. The paper also identifies specific steps in a process to address the problem. In its list of solutions, RAND prescribes better defining the issues, understanding the causes of public pension underfunding, and implementing pension reforms to address the pressing underfunding of the pension systems.

There is nothing in the study to disagree with. It is clear and logical in its approach to addressing the issue. Importantly, it provides a useful framework for tackling public pension underfunding and debt, which is a complex and crippling economic issue for many states and municipalities. However, the blind spot of the RAND study is the lack of a broader discussion on the type of retirement benefits that should be offered and how they can best serve public employees.

Oliver Wendell Holmes Sr. once said, “For the simplicity on this side of complexity, I wouldn’t give you a fig. But for the simplicity on the other side of complexity, for that I would give you anything I have.”

The RAND paper sees the state and local government pension crisis as a funding crisis. They are not wrong, but a deeper study reveals that public retirement plans need more than additional funding. To find the simplicity on the other side of complexity, it is necessary to define the crisis by what else it is—a retirement crisis. The traditional pension system still used by most state and local governments no longer meets the needs of most workers or employers.   

Yes, many traditional pension plans are dangerously underfunded, and states and cities have declined to implement proper solutions for various politically expedient or fiscal reasons. The bottom line is that even if the funding crisis were to be solved, the retirement crisis—and all its inherent issues for employers and employees alike—would still exist. Instead of focusing purely on funding, policymakers need to adopt a two-step process that addresses the retirement crisis and a plan to address underfunding.

1. Cap the well: Limit the accrual of any future unfunded liabilities by putting new public employees (and possibly non-vested current employees) into a retirement plan that better meets their needs, addresses the more significant retirement crisis, and cannot accrue unfunded obligations.
2. Accept your pension obligations to current employees and retirees and make all necessary funds available to meet your promises. You must pay these pension benefits, accept these costs, and build them into budgets and long-term financial plans.

Policymakers have come to terms with limiting and addressing the extant funding problems (no small task), but they must also address the retirement crisis. Employees, plan sponsors, pension boards, legislators and other policymakers, labor unions, and citizen groups need to recognize that the legacy pension plans still in use in so many jurisdictions today simply no longer meet the needs of primary stakeholders. The basic premise of these plans is that as new workers enter the workforce, they will be drawn to state and local government employment, in part, by a pension plan, and that they will remain with that employer for an entire career. But this has not been the case for at least a generation and continues to be less true as time goes on. Most employees in the modern workforce will have multiple employers throughout their careers. Government employers must recognize this fact in their retirement plan designs if they hope to recruit and retain quality employees from the broader pool of talent.

Only when these parties acknowledge the reality of existing unfunded public pension obligations and take steps to stop the bleeding while understanding the truth about the modern workforce can they design and implement a retirement plan that meets both employer and employee needs without putting further strain on taxpayers and the government’s financial position.

Fortunately for state and local government retirement plan stakeholders, there are a variety of retirement plan designs and working examples that provide the improved flexibility in retirement benefits that the modern workforce needs. Defined contribution (DC) plans do not have to operate like supplemental 401(k) supplemental tax-sheltered savings plans. DC plans can, and do, operate as true risk-managed, income-focused retirement plans in many instances in both the public and private sectors. They do this through the use of annuities and other tools. More retirement-focused DC-based designs are emerging to better meet the needs of the modern workforce and their employers.

The Pension Integrity Project at Reason Foundation has iterated on this approach with the Personal Retirement Optimization Plan, or PRO Plan, which focuses explicitly on customizability and adequate lifetime benefits.          

The RAND study defines the public pension crisis as a funding crisis, which is correct but incomplete. While there is unquestionably a debt and funding crisis in public pensions, policymakers must also recognize that traditional pensions are becoming less compatible with the needs of modern workers and government employers. That is the simplicity on the other side of complexity: modern employment in the public sector requires flexible, employee-specific benefits in a risk-managed framework.

The post Public pension systems need to reduce debt and modernize design for today’s workforce appeared first on Reason Foundation.

Higher education institutions in the United States have long understood that their critical mission has been enhanced by continually bringing in new professors with different ideas and teaching methods. This ongoing renewal of the workforce has kept the learning environment fresh and the institutions themselves viable. However, early 20th-century public pension systems were not structured to recognize this academic mobility, so new retirement systems were designed and implemented to meet several key objectives. The first goal was to support the movement of academics between colleges and universities without the loss or interruption of future retirement benefits. A second key objective was to ensure secure lifetime retirement income for individuals following a career of employment regardless of the number of employers they worked for during their careers.

The resulting retirement plan design was based on defined contributions (DC) and included low-cost, individually-owned deferred annuities as the embedded investment vehicle. The individual ownership of the investment contracts enabled the needed portability between institutions. Even when employees moved to new jobs with different retirement plans, the assets in the individually-owned contract continued to gather investment returns and were available for later retirement income.

When professors made it across the finish lines of their careers, the assets from the contracts were distributed as lifetime income with built-in guarantees. The employer maintained the retirement plan itself and generally required that the individual participants and the employer alike make contributions. Some plans were noncontributory, meaning that the employer made the entire contribution, but most required employees to pitch in.

In the middle of the 20th century, additional investment options were added to address inflation risk. Eventually, more investment choices were included, and distribution options, in addition to lifetime income, were added to increase individual control. Building on the foundation of individual contracts and lifetime income, the national higher education retirement system network is very much alive today and has arguably been the most successful retirement network in the country for well over a century. After all, have you ever read about a ‘retirement crisis’ for college professors? 

In his 2006 book, A Country That Works, Andy Stern, then-president of the Service Employees International Union (SEIU) and founder of the Change to Win Federation, cited the need for a new type of retirement plan for the country. His plan included several key components: guaranteed and predictable employer contributions, no withdrawals during one’s working life, guaranteed lifetime benefits and limited cash-out, matching employee contributions, portable accounts, and pooled investment risk. In the book, Stern asks, “Is this type of new American retirement system a pipe dream?” He goes on to cite the higher education system that had been in existence for decades before his writing as a potential model.

While higher education retirement plans were developed to meet the needs of a then-unique group of university employees, today’s reality is that most public workers, not just professors, now have multiple employers during a working career. A traditional defined benefit pension, designed to reward long-service employees and act as a punitive employee retention tool, is the wrong choice in the modern world. In fact, with the dramatic increase in work-from-home employment, where employees can change employers and jobs without ever leaving home, the defined benefit pension is increasingly ill-suited to meet today’s retirement needs.

The higher education retirement approach is a defined contribution construct but is very different from the typical 401(k)-style plan that became popular in the private sector. When corporations moved away from defined benefit plans due to the failure to meet employee needs and the financial strain of growing unfunded liabilities, they often used their existing 401(k) supplemental savings plans as the new primary retirement vehicle by adding an employer contribution. This misguided approach ignored several key elements of sound retirement plan design, including a commitment to adequate contributions and lifetime income protection. While there has been some dilution in proper design over the years, the higher education model addressed each of these key components.

The Pension Integrity Project recently introduced a new retirement plan design called the Personal Retirement Optimization Plan, or PRO Plan. This enlightened new approach addresses the retirement portability needs of the modern workforce and—like the plans found in higher education—is focused on providing appropriate lifetime income. It even goes beyond the higher education model by using sophisticated financial technologies and tools to tailor the plan to meet specific individual situations. 

The adoption of DC plans with income options, unlike the typical 401(k) design, is already happening in several states, making these plans look similar to traditional higher education plans. The next evolution in retirement plan design will recognize that not all individuals in seemingly similar situations (e.g., similar ages or incomes) have the same financial needs. Differences in family assets, sources of income, and other factors suggest that retirement plans should have the flexibility to approach a wide variety of situations with products that are largely available already in the financial marketplace today.

No single type of retirement plan will completely solve an employer’s recruitment and retention challenges. This is true for defined benefit and defined contribution plans. If, however, an employer builds a flexible and portable retirement plan and communicates that plan as part of a recruiting package, it may help. That employer can cast a wider net and improve the chances of appealing to a wider pool of prospective employees. If employers are to optimize their ability to attract quality workers, modern public retirement plans need to reflect realistic employment patterns, focus on income replacement, and meet individual needs. Going back to old defined-benefit pension plans is not the answer.

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In the piece, Siedle mentions that “flawed 401(k) defined contribution plans” could not produce adequate retirement results. This is based on a poor understanding of what a defined contribution (DC) plan can accomplish, and it is not the case in Alaska. In the corporate world, 401(k) plans were originally intended to be tax-deferred savings plans designed only to supplement existing defined benefit pensions. But when the private sector largely moved away from defined benefit pension plans because of funding risks and a changing workforce, they often replaced them with broader 401(k)-style defined contribution plans that were intended to replace the level of benefits being offered previously.  

Unfortunately, the retirement income focus of the defined benefit pension designs was typically not carried forward in these new 401(k) plans, with wealth accumulation being the default focus. Siedle rightly identifies this as a fault. The typical 401(k) plan does not have the income-focused design necessary to be a true retirement plan. Make no mistake—this is not a fundamental shortcoming of all DC funds. Rather it is an absence of articulated plan objectives that led to plan designs with suboptimal outcomes. The mistake he makes is in stopping there as if no other inquiry should be made. Many DC retirement plans have, and do, focus on income and are excellent designs.

If a proper inquiry is to be made, it should be understood that the ultimate benefit to a participant from a retirement plan is not determined just by whether the plan is DC-based or defined-benefit-based. That over-simplification ignores a large list of other factors, including benefit accrual structures, vesting rules, the level of funding from the employer and employee, the employee’s tenure, age at entry into the plan, investment performance, and work and compensation patterns as major examples. 

The commentary uses an analysis from the Alaska Division of Retirement and Benefits (DRB) to conclude that the state’s DC plan is providing “significantly smaller benefits than the pension-style system discontinued in 2006.” Again, Siedle takes this as evidence to make a categorical judgment about the evils of DC plans. But he fails to ask a simple question: To whom is this DRB analysis relevant?  

The Alaska Division of Retirement and Benefits comparison was addressing only a narrow cohort of longer-term employees, and it did not purport to say that all employees in all circumstances would be better off under the old pension plan than the new DC plan. If one looks at a broader set of employees with different lengths of service, the result is quite different. 

Pension Integrity Project analysis (Figure 1) compares the defined benefit (DB) pension proposed in a bill being considered in the Alaska legislature and the state’s current defined contribution plan. The analysis projects annuity values for regular public employees (teachers and public safety modeling show slightly different results) with an entry age of 30. The results clearly show that for any employee the DC plan will provide higher lifetime income benefits for the first 20 years of service. It is only the small number of very long-service employees who may be earning a higher benefit amount. For the vast majority of Alaska’s employees, the DC plan can be a more effective way to provide retirement benefits than the DB plan.

Figure 1: Comparing the Value of Alaska’s Defined Contribution Plan to the Proposed Defined Benefit Plan at Different Years of Service

Source: Pension Integrity Project actuarial modeling of Alaska’s existing defined contribution plan benefits compared to the pension benefits being considered in the proposed Senate Bill 88. This analysis displays results for non-teacher, non-public safety employees. The analysis assumes entry age 30, 6% DC investment return, 5% annuity payout rate, and 2.75% annual salary growth, and that DC benefits are not annuitized until normal retirement age.

The reality is that defined contribution plans can and are often used as the foundation for well-designed and effective retirement plans. Just look to Alaska’s higher education system for a local example. In fact, the primarily DC-based national higher education retirement system (for both public and private institutions) is arguably the most successful retirement system the country has ever produced because of adequate contribution rates, portability of benefits, and the flexibility to take retirement benefits as lifetime income, a position validated by a recent survey of higher education institutions.

This key point missing from the article is that it is very rare for employees in any industry to spend a full career with any single employer today. This anachronistic notion is a primary reason defined benefit plans have dwindled, although it remains the basis for defining success in remaining public sector DB plans today. The problem (aside from potential ongoing crippling unfunded liabilities) with most DB plans is that the employee must spend a full career with the same employer to receive a lifestyle-sustaining income in retirement. Public defined benefit plans, like the old Alaska plans, are designed to heap up benefits in later years and are not portable. It is only in the later years nearing retirement that an employee’s benefits would accrue significantly. Those benefits and accrued assets do not travel with the employees as they change employers throughout their careers, they sit in the pension fund until the employee reaches the retirement age set by the plan.

Alaska’s defined contribution plan, however, is designed to be portable and move with employees as their careers span several employers and there is no backloading of benefits. The issue of benefit portability is critical when determining effective retirement plan designs today. In Jan. 2022, median state employee tenure nationally was measured at only 6.3 years. It is clear that most employees in the modern workforce will have a fair number of employers during a 30–40-year career. Another example of this comes from the Pension Integrity Project analysis of the Colorado PERA School Division, which shows that only 37% of hires remain in the system after five years of service. Benefits that are illustrated based on formulas may look adequate on paper, but if only about a third of workers will actually get that level of benefit the illustrations are essentially meaningless.

Siedle also makes the misleading argument that in defined contribution plans Wall Street bankers make money at the expense of retirement plan participants. We retort: Are Wall Street investment firms not involved in managing the hundreds of billions of dollars in state and local governments’ defined benefit pension plans? Of course, they are. Large pools of pension money enjoy the benefit of favorable rate classes of investments. This is true for DB plans and should be for DC plans as well. 

While the portable nature of DC plan benefits fits the modern workforce better than traditional DB plans, typical 401(k)-style DC plans do have their own shortcomings. As previously acknowledged, a DC plan design that is focused on wealth accumulation rather than income replacement may be overlooking its primary purpose. The Pension Integrity Project recently introduced a new plan design called the Personal Retirement Optimization Plan (or PRO Plan) that uses existing market-available products and is built on a DC foundation but is focused on income replacement. The PRO Plan further focuses on DB-type lifetime income benefits at the individual participant level—producing previously unavailable customized benefits. 

Whether or not a retirement plan is DB or DC logically has no direct impact on plan effectiveness. While the defined contribution plan in place in Alaska could be enhanced, it is a plan that recognizes the reality of the modern workforce and works to meet employee needs. A theoretical and flawed comparison of defined benefit and defined contribution plans does not shed light on the reality facing public employees and employers in Alaska today. Responsible retirement plan experts should honestly focus on how retirement plan objectives and design, not defined benefits vs. defined contributions, can combine to meet the needs of both employers and employees in the modern environment.

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As with most defined benefit (DB) pension plans, the main problem with this DB proposal is that the employee must spend their entire career (20-to-25 years for public safety workers and 30 years for teachers and other public employees) in Alaska state employment to receive a lifestyle-sustaining income in retirement. This length of employment with a public employee rarely happens today. In Jan. 2022, the median state employee tenure was only 6.3 years nationally, so most employees will have several employers during their 30-to-35-year careers. 

Public defined benefit pension plans, like the old Alaska pension plans, are designed to be backloaded and are not portable. In other words, only in the later years, when a worker is nearing retirement, would an employee’s benefits significantly accrue. Those benefits and accrued assets do not travel with the employees as they change employers throughout their careers. Instead, they remain static with the fund while the employee waits to become eligible for retirement.

Defined contribution (DC) plans like the current Alaska retirement plan, however, are designed to be portable and move with employees as they switch jobs, and there is no backloading of benefits. The value of benefit portability to modern workers should not be overlooked or minimized. A retirement plan that does not recognize this reality may seem to provide adequate benefits on paper, but the benefits are often below what members could be getting in other plan types. 

A complete view of retirement benefits examines who is best served by a particular plan design. A Pension Integrity Project analysis of Colorado Public Employees’ Retirement Association (PERA) School Division data, for example, shows that only 37% of newly hired teachers remain in the pension system after five years of service. 

In Alaska itself, the Alaska Beacon recently reported that some 20% of state jobs are vacant. Governments around the country are seeing high rates of separation in the 15 years after employees are hired, but this isn’t the result of the retirement systems they offer. Rather, it reflects the ongoing national trend—both in the public and private sectors—of workers becoming more mobile and less likely to stick with one employer for as long as they once might have. The inescapable reality is that Alaska’s public employees are not remaining in their state positions long enough to receive a meaningful DB benefit, so why bring back that type of plan in Alaska right now?

One reason given by DB proponents in Alaska for reinstating a DB plan is to address the challenge of recruiting employees into vacant state positions. With its strengths in portability, however, the existing defined contribution plan is the optimal approach to meeting the real needs of employees in the modern workforce.

The portable nature of defined contribution retirement plan benefits better fits the modern workforce than traditional defined benefit plans. But typical 401(k)-style defined contribution plans still could be improved. Alaska’s DC plan and most other government-run DC plans are focused on wealth accumulation rather than income replacement, which is needed in an effective retirement plan. 

Reason Foundation’s Pension Integrity Project recently released a proposed new plan design called the Personal Retirement Optimization Plan, or PRO Plan, that is built on a defined contribution foundation but is focused on income replacement. The PRO Plan further focuses on DB-type lifetime income benefits at the individual participant level–producing previously unavailable customized benefits. The PRO Plan can be implemented today using market-available products and is not cost prohibitive.

Employees care if a retirement plan fits within their career plans and lifestyle. The PRO Plan is designed to meet the needs of today’s employees and, when communicated properly, could prove to be a substantial recruiting aid. Making the PRO Plan part of employee recruiting efforts would express to prospective employees that Alaska, as an employer, understands them and wants to meet their needs.

Retirement plans that can move with employees from job to job and meet their long-term financial needs are more critical than ever. Instead of shoehorning Alaska’s employees into a retirement plan design that does not suit the majority of new hires, policymakers should focus on realistic retirement benefits and meet workers where they are in order to recruit quality employees.

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Environmental, social, and governance issues are commonly packaged together in investment discussions through the ESG acronym, but a closer examination of these components raises questions about the value of grouping these things together.

It is evident that the concept of ESG investing owes its existence to politics by simply looking at its components. Why else would environmental, social, and governance criteria be lumped together other than for political positioning? Why not past, present, and future?  Or animal, vegetable, or mineral? 

Some idealists with a political agenda made the determination that these separate elements, ESG, were, in total, critical for long-term investing success, as well as other broader goals. They were also successful in positioning these three elements as a singular, necessary approach to investing success. ESG opponents then emerged, and the debate commenced. Through years of engagement, even opponents contributed to the idea that these three elements should be treated as one. Their position then became one where absolutely no credence could be given to any ESG investing criteria.

A prudent person, on the other hand, can see elements in standalone environmental, social, and governance issues that should be considered when public pension systems are making investment decisions. That same prudent person would also see that not every one of these issues should be applied to each and every investment decision. In fact, it is just as foolish to eliminate all such criteria from investing as it is foolish to include all such criteria. 

Fortunately, public pension fund trustees must follow prudent fiduciary standards, which set boundaries on how investment decisions are to be made. Given this, public pension fund trustees are afforded a perfect path to avoid the purely political argument that ESG investing has become. Fiduciary standards require that pension fund trustees make investment decisions based on providing the best possible financial outcomes consistent with the pension plan’s objectives for the plan’s participants and for the plan itself. 

All-in or all-out ESG investing is not sound, prudent fiduciary policy.  Therefore, public pension fund trustees should make investment decisions based on practical and sound financial criteria, not based on political ESG classifications that prioritize other factors above returns and volatility. The likely outcome of prudent decision-making is that some decisions will be made that align with the ESG approach, and others will not. All of these decisions, however, must be made for the good of the pension plan’s members and not to satisfy political agendas. 

The practical approach to responsible public pension system governance is there, fiduciaries just need to follow it.

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Beyond the growing pressures of crippling unfunded liabilities, DB plans suffer from a fatal flaw – they are unable to meet the portability needs of today’s highly mobile workforce. Only about one-third of plan participants will ever receive a meaningful benefit from a public DB plan.  

Another significant shortcoming of DB retirement plans is a failure to address specific individual needs. In a traditional DB plan, every person with the same salary and length of service is eligible for the exact same annual benefit. But treating everyone the same ignores the reality that individuals are almost never average. Individuals have different needs based on many factors, such as health or other sources of income.   

A typical DC arrangement suffers many of the same shortcomings. Managing investment risk is often solely on the shoulders of participants. Default investments often use target date funds, so every person with the same birthdate has the same investment mix regardless of circumstances.   

Neither DB nor DC plans are able to meet the needs of broad swaths of individuals. Historically, cost restrictions have made it difficult to design a plan that recognizes individual needs while covering a wide range of participants. Fortunately, that is no longer the case. 

To address these traditional design shortcomings, and in partnership with the Pension Integrity Project at Reason Foundation, we applied decades of retirement plan-related experience to develop a new design approach: The Personalized Retirement Optimization Plan (PRO Plan). This new plan design uses a mix of tested and proven options, making it easy for policymakers to implement. Offering a wide range of individual flexibility in contributions and annuities, the Pro Plan can better fit the unique retirement needs of each individual, making the plan advantageous not only for employees but for employers looking to better serve and retain their workers. 

The PRO Plan starts with the endgame in mind: a lifetime of inflation-protected replacement income. With immediate or very short vesting periods, the plan allows all participants (not just a few) to earn meaningful benefits. It also allows individuals to tailor and structure funding of the target benefit and benefit distribution strategy by first using independent financial advisors and/or advice tools to determine the appropriate investment strategy.  

All other assets available to the individual are considered, including other retirement plans, spousal assets, inheritance, and others. While participant input is critical for success, it is not overly burdensome and only needs periodic updating. This input enables the creation of an appropriately risk-managed and liability-driven portfolio that is adjusted as appropriate throughout the working career. Utilizing a combination of plan-provided annuities and other distribution methods, a default income plan is created that is specifically tailored to the individual.   

Our analysis comparing this new design to existing options finds that the PRO Plan addresses many of the common shortcomings and enables each participant to address their specific retirement needs. Using existing market-based products and modern financial technology, the PRO Plan enables government employers to provide lifetime-guaranteed benefits to their employees, and in a way that is cost-effective. Our research indicates that our new plan design could meet the needs of retirees at 28 to 38 percent lower cost than it would be for an individual covering lifetime benefits on their own. 

Applying some of the best features found in DB and DC plans, along with modern financial technology, the PRO Plan can meet both employer and individual employee needs for a more effective retirement plan. Rather than attempting to fix current plans, the PRO Plan is a design that should be considered throughout the public sector as a plan that policymakers can fully implement today. 

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With most private firms shifting workers to 401(k)-style defined contribution (DC) retirement plans since the 1980s, the state and local government market is effectively the last bastion of traditional defined benefit (DB) pension plans. However, even among governments, the ubiquity of traditional pension plans has been slipping. And much of the movement away from traditional DB plan designs has been caused by accumulated unfunded liabilities that are fiscally burdening both the pension plan and jurisdictions’ budgets.

Public pension reform has been seen as a binary choice: the traditional DB or a 401(k)-style DC plan, with the latter option frequently presented as a standalone retirement option. In practice, a traditional 401(k) on its own will rarely comprise a core, or primary, retirement plan. This is because this type of plan was designed, and functions best, as a supplemental, employer-sponsored, tax-deferred savings plan.

This study presents a new retirement plan design, the Personal Retirement Optimization— or PRO Plan, which is built on a DC foundation but designed to operate more like a traditional pension. The DC foundation for the PRO Plan was chosen because it allows more public employees to accrue valuable retirement benefits regardless of length of service compared to defined benefit approaches. The design uses cutting-edge financial technologies to focus on providing plan participants with a predictable and customizable retirement income. It uses a liability-driven contribution (LDC) approach, tailored to individual situations and needs, for determining necessary contribution levels. Primarily concerned with risk-managed income adequacy in retirement, it addresses wealth accumulation only as a secondary objective. The PRO Plan provides participants the flexibility to choose an asset distribution methodology but uses several types of currently available annuities as a default method. The annuity default, combined with proper financial education and advice, tailor the PRO Plan income to an individual’s unique situation.

This study illustrates the effectiveness of the PRO Plan design in meeting individual retirement needs while effectively managing employer workplace expectations. To do so, the study elaborates on various scenarios that are relevant for the public sector. This analysis compares the relative funding requirements for three separate longevity scenarios:

• Scenario 1: Do-It-Yourself (DIY) – the individual self-insures their personal longevity for the entire period until age 95.
• Scenario 2: QLAC (deferred annuity) – the individual purchases an IRS Qualified Longevity Annuity Contract to address longevity risk from 85 to 95.
• Scenario 3: 100% Immediate Annuity – the individual purchases an immediate life annuity at retirement age 67 for the entire stream of payments.

Each scenario’s funding requirement is based on an actuarial analysis of net present value of a stream of inflation-adjusted payments starting at age 67 until age 95 (or death). We found that a DIY scenario was the costliest PRO Plan alternative. Our analysis shows that a typical mid-level earner at age 67 would require $1,050,000 under the DIY scenario. The QLAC scenario requires 28% less funding, or only $760,000. The 100% Immediate Annuity scenario requires 38% less funding than the DIY scenario, or $652,000, to achieve the same retirement income.

To show how the PRO Plan would work when the target benefit accumulation is greater or lesser than needed, we analyzed both a shortfall and excess $100,000 in plan accumulations at age 50. These scenarios showed that PRO Plans would better protect individuals by positioning them to adjust savings rates up or down as needed. Similar to the baseline scenarios, the QLAC and 100% Immediate Annuity options require lower additional contributions to allow participants in shortfall situations to reach the target retirement benefits.

This study serves as a hands-on tool for public fund managers willing to implement the PRO Plan option. In addition to providing the reader with various scenarios, it details all the plan features necessary for its successful implementation. The PRO Plan is an innovative way of incorporating the benefits of 401(k)-style solutions into modern-day public sector retirement plans that give their workers flexibility and predictability of their benefits.

A state or local government employer seeking to implement a new retirement plan or redesign their existing retirement plan should always begin by clearly identifying sound retirement benefit design principles and using those principles to determine and articulate the objectives of that plan. The principles and resulting design should include as the primary objective providing a share of lifetime income, attributable to the employee’s tenure, enabling the employee to maintain their standard of living in retirement. The design of the plan should provide the flexibility to meet the needs of employees in varying circumstances. Of course, other workplace objectives of the employer and financial realities for plan sponsors should also be considered.

Standard DB and 401(k)-type DC plans are often compared with little regard to the simple question of what design elements provide the greatest utility to the greatest number of employees while still serving the employer’s workforce management objectives. Many arguments have been advanced on all sides of the issue, some valid, others not so much. The real answer to the question of what type of plan most aids recruiting and retention is a plan that best meets the varying needs of most employees.

This analysis concludes that providing retirement benefits and savings solutions that adjust to meet the different and changing needs of employees is what will more likely aid employers in attracting and retaining quality employees.

The PRO Plan design is specifically crafted to be adaptable to the needs of the broadest cross-section of employees possible. The focus of the plan is on providing employees with the target retirement income replacement ratio determined by the employer. Income replacement is the primary objective, with wealth accumulation a secondary consideration. Importantly, the plan, based on employer-specific criteria, can have a longevity annuity default that can be opted out of by employees meeting certain specific criteria. The mandatory contribution rates for both employer and employee, as defined by the employer, combined with the investment design and distribution controls, are all designed to minimize risks for the employee while meeting employer workplace objectives.

The Personal Retirement Optimization Plan: An Optimized Design For State And Local Government Employees

Frequently asked questions about the Personal Optimization Retirement Plan

Webinar: The Personal Retirement Optimization Plan

The post Designing an optimized retirement plan for today’s state and local government employees appeared first on Reason Foundation.

Built on a defined contribution foundation, the Personal Retirement Optimization Plan described fully in this new study improves on traditional designs with clear and measurable objectives on maximizing benefits for a wide range of individual situations, flexibility in both investment and benefit distribution options, and an emphasis on guaranteed lifetime income through annuities.

In short, the PRO Plan blends the risk management benefits to employers associated with DC plans with the lifetime income protections public workers value in pension plans. Executed correctly, the PRO Plan could provide a more secure DC benefit at a lower cost to governments and taxpayers.

Full Study: Designing an optimized retirement plan for today’s state and local government employees

Webinar: The Personal Retirement Optimization Plan

The post Frequently asked questions about the Personal Retirement Optimization Plan appeared first on Reason Foundation.

The PRO Plan is built on a defined contribution foundation but is designed to operate more like a traditional pension plan. The DC foundation for the PRO Plan was chosen because it allows more public employees to accrue valuable retirement benefits regardless of the length of service compared to defined benefit approaches. 

This discussion and study serves as a hands-on tool for public fund managers willing to implement the PRO Plan option. The Personal Retirement Optimization Plan is a way of incorporating the benefits of 401(k)-style solutions into modern-day public sector retirement plans that give their workers flexibility and predictability of their benefits.

Full Study: The Personal Retirement Optimization Plan: An optimized design for state and local government employees

Frequently asked questions about the Personal Optimization Retirement Plan

The post Webinar: The Personal Retirement Optimization Plan appeared first on Reason Foundation.