Teacher Pensions Focus of Strikes in Multiple States
Teachers in Kentucky, West Virginia, and Oklahoma have been vocal in their demands for improvements in teacher pensions, salary levels, and educational budgets in recent months. Arizona teachers stayed away from schools at the end of April, despite an offer by Governor Doug Ducey for a 20 percent salary increase by school year 2020 coupled with increased educational funding levels.
Colorado teachers descended on the Colorado State Capitol in late April to express their dissatisfaction with inadequate educational funding levels and underfunded plans for teacher pensions.
Kentucky has a $14.5 billion funding deficit for teacher pensions, according to recent coverage by The Wall Street Journal. The state funded only 57% of its 2016 pension obligation, and state officials fear that the Kentucky teachers pension fund—covering176,500 active, inactive, and retired teachers—will run out of money in 13 years.
Municipal teacher pension funds nationwide are only 69% funded as of 2016, according to Public Plans Database, which tracks 170 large public plans. Connecticut is an example, where one teacher fund has only 52.3 percent of the assets needed to meet future pension obligations.
Many states are responding to underfunded teacher pensions and other municipal pensions by moving to hybrid plans that can be categorized as “defined contribution” plans rather than “defined benefit” plans.
Traditional defined benefit plans promised a certain level of future annual payouts to members who participated in a pension plan, based on salary, tenure, and other employment factors.
A defined contribution plan, in contrast, transfers the risk of future payments to the participant in the form of a 401(k) or 403(b) retirement plan. The pension plan participant in a defined contribution plan (a teacher, for example) only collects future retirement payments based on the amount they donate to the plan during their working years, coupled with corresponding interest and appreciation in the underlying securities value.
The plan participant in a defined contribution plan determines the level of risk they are willing to accept with their retirement assets, and directs the type of investment (i.e., stocks, bonds, or money market funds) for their savings. Pension funding levels in a defined contribution plan are often enhanced by a matching contribution from the employer.
STATE PENSIONS ON "UNSUSTAINABLE COURSE," SAYS PEW CHARITABLE TRUSTS
Nationwide, state pension funds have a $1.4 trillion gap between available assets of $2.6 trillion and promised pension benefits of $4.0 trillion, according to The Pew Charitable Trusts based on data from fiscal year 2016. This pension shortfall includes teachers, police, firefighters, and other municipal employees.
Multiple years of low interest rates have had an adverse impact on pension assets. This is compounded by the fact that pension managers optimistically projected a 7.5 percent assumed rate of return for 2016 but realized a median return of only 1 percent according to the Pew report. The difference between actual and budgeted rates of return only add to a plan’s underfunded status.
Pew calculates that municipal pension plans are generally only 66 percent funded for fiscal year 2016, consistent with estimates of the Public Plans Database. Funding levels vary by state, but only New York, South Dakota, Tennessee, and Wisconsin were at least 90 percent funded. New Jersey and Kentucky both have a 31 percent funding level, followed closely by Illinois with a 36 percent funding level. States with less than 50 percent of municipal pension obligations funded also include Colorado at 46 percent and Connecticut at 41 percent.
HYBRID MUNICIPAL PENSION PLANS EXPECTED TO INCREASE
Every year at least one state moves to replace a traditional defined benefit municipal pension plan with a defined contribution type plan, according to the National Association of State Retirement Administrators. States that have moved in this direction include Kentucky, Pennsylvania, Michigan, Rhode Island, and Tennessee.
As recent strikes over teacher pensions demonstrate, this is a challenging process that is likely to involve litigation and difficult budgeting decisions.
Mark Johnson, Ph.D., J.D., is a highly experienced ERISA expert, including matters relating to teacher pensions and municipal retirement plans. He is a former ERISA Plan Managing Director and plan fiduciary for a Fortune 500 company, Dr. Johnson has practical knowledge of plan documents as well as an in-depth understanding of ERISA obligations. He works as an expert consultant and witness on 401(k), ESOP and pension fiduciary liability; retiree medical benefit coverage; third party administrator disputes; individual benefit claims; pension benefits in bankruptcy; long term disability benefits; and cash conversion balances. He can be reached at 817-909-0778.
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Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.For specific technical or legal advice on the information provided and related topics, please contact the author.