Kentucky Pension Briefing Highlights Cost-Effectiveness of DB Plans
1. Pension Plan
Policy and Efficiencies
Kentucky Legislative Briefing
Wednesday, January 30, 2013
Diane Oakley
Executive Director
2. About NIRS
• Nonprofit, nonpartisan research organization
founded in 2007.
• Credible research and education programs
regarding retirement security with focus on
pensions – public and private sector.
• Reports, primers, commentary, conferences,
media interviews, testimony and more.
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3. Opportunities and Challenges
Opportunities:
• Better understanding of long-term nature of state/local
government pension financing.
• Appreciation of core elements of public pension design
that are most cost-effective way to accomplish human
resource, retirement security policies.
Challenges:
• Distinguishing assertions from facts.
• Legislation by anecdote.
• Short sighted policies that encourage a “race to the
bottom.”
Source: NASRA, The State Landscape on Pensions, 2011
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4. Public Pension Stakeholders
Purpose of providing retirement plan is to achieve
stakeholder objectives. Who are stakeholders in public
pension plan?
•Employers who seek to attract and retain qualified workers needed to
perform essential public services and have orderly workforce turnover.
•Taxpayers who seek the provision of public services at a cost that is
fair and reasonably stable and predictable; also seek to minimize
dependence on public assistance..
•Employees who seek compensation that is competitive and a
retirement benefit that promoted retirement security.
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5. Important to Keep Focus
on Retirement Policy
• Retirement security benefits everyone.
• Employer-sponsored retirement benefit is a workforce
management tool, old-age poverty insurance, and
stabilizing factor in the economy.
• As a stable employer, government is well-suited to
sponsor pensions.
• Core elements of pension promote retirement security:
– Mandatory participation
– Employee-employer cost-sharing
– Pooled assets invested by professionals
– Benefit adequacy
– Lifetime benefits
Source: NASRA, The State Landscape on Pensions, 2011
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6. Pensionomics 2012:
Nationally, DB pension plans expenditures in 2009…
• Provided a critical source of reliable
income for 18.9 million Americans.
• Supported 6.5 million jobs that paid
$314.8 billion in income.
• Created over $1 trillion in economic
output.
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7. Impact of Pension Payments to
Kentucky Public Retirees
Expenditures by state and local government retirees provide steady
economic stream to Kentucky and its communities. 2009
expenditures supported:
• 29,270 jobs that paid $1.1 billion in wages and salaries.
• $3.5 billion in total economic output.
• $510.4 million in federal, state, and local tax revenues.
• Each dollar paid in pension benefits supported $1.24 in total
economic activity in Kentucky.
• Each taxpayer dollar “invested” in plans supported $4.64 in total
economic activity in the state.
Source: NIRS, Pensionomics 2012
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8. Public Pensions Typically Are
Shared Funding Responsibility
Employee and Employer Pension Contributions, 1982 to 2009
Source: U.S. Census Bureau
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9. Professional Investment Managers
Achieve Higher Returns
• Pensions achieve better investment returns than
401(k) type plans.
• These additional returns really add up over time.
How $10,000 Invested Grows over 30 Years
Source: A Better Bang for the Buck, NIRS, 2008
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10. DB Plan Can Deliver Same Benefit
at About Half the Cost of DC Plans
Source: A Better Bang for the Buck, NIRS, 2008
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11. Public Pensions: Strong Financials for
Most Plans Going into Financial Crisis
Source: NASRA, The State Landscape on Pensions, 2011
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12. Lessons From Well-Funded Plans
Why We Did This Study
• Increased attention to pensions
and funding since financial crisis.
– Investors and pensions saw decline
in funded levels
– Misperception that taxpayers are
fully responsible for covering
investment losses
– Attention on public pension benefits
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13. Lessons Learned Study
Annual Required & Normal Cost Contributions
Paying the full ARC each year maintains a well-funded
plan with stable contributions.
• Texas TRS: Constitution mandates payment.
• Illinois MRF: Statute mandates local government payment.
• Idaho PRF: Statute mandates state government payment.
Paying the normal cost rate (NCR) leads to stability.
• Idaho: The employer rate cannot fall below the NCR.
• Illinois: Only when the funding ratio is substantially above 100%
can the excess amount be used to reduce the NCR.
• Texas: Requires that the employer contribution rate cannot fall
below a certain level.
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14. Lessons Learned Study
1. Employer pension contributions that pay full
ARC, and at least equal the normal cost.
2. Employee contributions to help share the
plan cost.
3. Benefit improvements that are actuarially
valued before adoption and properly funded
upon adoption.
4. COLAs granted responsibly.
5. Anti-spiking measures that ensure actuarial
integrity, transparency.
6. Economic actuarial assumptions that can
reasonably be expected to be achieved
long term.
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15. On the Right Track
Private and Public Sector Pensions
Comparison of change from prior year in
corporate and public pension
contributions, 1989 to 2009
80% *
• DB pensions persist among
60% C o rp o ra te largest private sector
employers.
40%
20%
P u b lic
• Federal regulations,
funding volatility killed
0%
Private Sector DB Plans,
-2 0 %
NOT Costs
89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09
U S D e p t o f L a b o r, * E s tim a te
U S C e n su s B u re a u ,
M illim a n
Source: National Institute on Retirement Security, On the Right Track
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16. Switch to Individual Accounts
Not a Viable Solution
• Closing/freezing DB plans and switching to
individual accounts does not address
underfunding, entails significant costs.
• Majority of states ensure long-term
sustainability by modifying DB plans.
• Pensions balance compensation, boost
retention and productivity, and enable
quality services for a lower cost.
• Hurt recruitment and retention of skilled
workers, or lead to higher compensation,
while undermining retirement readiness.
Source: National Institute on Retirement Security, On the Right Track
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17. Taxpayer Challenges When Individual
Account is Primary Benefit
• Loss of economic benefits emanating from
pension payments.
• Public pension funds account for nearly one-
half of the nation’s venture capital pool.
• General loss of retirement security: 12+
percent of the nations workforce is employed
by state or local government and 85% have a
pension plan.
Source: NASRA, The State Landscape on Pensions, 2011
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18. Employer Challenges When an
Individual Account is Primary Benefit
• Loss of a human resource management tool:
Pension is particularly helpful for retaining qualified
workers to perform essential public services.
Retention is key for certain groups: teachers, law
enforcement personnel, members of other career
oriented groups.
• Pension promotes human resource management
objective of orderly turnover, i.e., retirement, or ability
to retire, at an appropriate age. Orderly turnover
facilitates workforce management objectives.
Source: NASRA, The State Landscape on Pensions, 2011
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19. Distinguishing Features of the
Public Sector Workforce
• More public employees work in professions with
physical risk: law enforcement, firefighting,
corrections, hazardous materials.
• Many public sector positions are career-oriented, such
as education, finance, and public safety.
• Public sector worker median tenure is 7.0 years,
compared to 3.5 for the private sector.
• Public employee almost twice as likely to have college
degree compared to private sector.
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20. Public Sector Employees Are Paid Less
Than Private Sector Counterparts
• State and local workers are paid less than comparable
private sector workers. In 2008:
– State workers were paid 11% less than their private sector.
– Local workers were paid 12% less than their private sector.
• The major driver is that government workers have jobs
that demand more education. Percent of workers who
finished college:
– Private sector: 22.6%
– State sector: 48.1%
– Local sector: 47.9%
Source: National Institute on Retirement Security, Out of Balance:
Comparing Public and Private Sector Compensation Over 20 Years 20
21. Over Time, Pay Differential Has
Moved Against Public Workers
Source: National Institute on Retirement Security, Out of Balance:
Comparing Public and Private Sector Compensation Over 20 Years 21
22. Importance of Retirement Plans to
Attract Workers Under Age 40
Source: Towers Watson, Attraction and Retention; What Employees Value Most 22
23. Importance of Retirement Plans to
Retain Workers Under Age 40
Source: Towers Watson, Attraction and Retention; What Employees Value Most
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24. Most Important Factors in Attracting
Employees Younger Than 40 to Company
Source: Towers Watson, Attraction and Retention; What Employees Value Most
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25. Decisions, Decisions: Retirement Plan
Choices for Public Employees and Employers
KEY FINDING:
When given the choice between a
primary DB or DC plan, public
employees overwhelmingly choose
the DB pension plan.
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27. Employee Challenges When Individual
Account is Primary Benefit
• Inadequate savings and earnings reduces retirement readiness.
• Lower investment returns – DC plans underperform professionally
managed retirement pools by around one percent annually and
liquidity needs may force conservative portfolio cash balance plan.
• Timing – an employee who terminated or retires during a down
market will leave plan and drain plan assets
• Longevity risk – anti-selection as only retirees who are at risk of
outliving assets stay in the plan after retirement.
• Portability can generate Leakage – assets leaving the retirement
account before the account holder reaches retirement age.
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28. Pensions and Retirement Security,
2011 Public Opinion Research
• Americans highly anxious about
retirement.
• Americans have low retirement
expectations.
• U.S. retirement system
stressed, needs reform.
• Pensions relieve anxiety, are
reliable.
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29. Americans Wants Pensions
81% of Americans Say They Need Pensions For
Independence, Self-Reliance
Source: Pensions and Retirement Security 2011: A Roadmap for Policy Makers, NIRS
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The charts on this page compare corporate and public pension funding levels and costs. The chart on your left is a comparison of funding levels. Notice the volatility in corporate pension funding levels, shown in red, moving from more than 120 percent funded in 2000 to just above 80 percent in 2002, back up over 100 percent by 2007, then plunging again below 80 percent in 2008. Based on economic theory alone, the ability of these corporations to pay their obligations has vacillated wildly, from well over funded to well underfunded. Moving from 124 to 83 is a change of one-third. This volatility, in my view, grossly exaggerates the actual, underlying condition of these plans. I don ’t believe the actual ability of these corporations to pay their obligations changed by one-third in two years. Then the funding level rose again to 107 by 2007, a rise of nearly 30 percent from 2002. During this same period, public pension funding levels have generally drifted lower, based mostly on asset losses experienced from 2000 to 2002, then again in 2008 and early 2009. In my view, by basing their funding condition on long-term expected returns, the actual condition of public pension funds is much more accurately reflected in these charts than is the corporate funding level. Turning to the chart on your right-hand side, note the year-over-year change in corporate contributions to their pension plans. Up 40 percent one year, down 20 percent the next, up 70 percent the next. This is the result of linking pension contributions to current interest rates, which makes funding levels and costs more a reflection of current bond market dynamics than of the fundamentals of the plan. Public pension contributions, which are based on a long-term expected investment return and which permit more phasing in of asset gains and losses, have been relative paragons of stability, usually rising at a fairly predictable and reasonable rate.
