Category Archives: Pensions

Underfunding Annual Pension Contributions: Examining the Factors Behind an Ongoing Fiscal Phenomenon

Source: Michael Thom and Anthony Randazzo, State and Local Government Review, Vol. 47 no. 1, March 2015
(subscription required)

From the abstract:
Inadequate contributions are one factor behind the gap between pension assets and benefit liabilities. Each year, many states fail to meet their required pension contribution while others consistently meet or exceed their required amount. This study seeks to identify the factors that shape actual pension contributions across the states. Results suggest that states with smaller long-term funding gaps are more likely to fund required contributions. Legislative professionalism and constitutional collective bargaining privileges reduce annual funding. The effect of partisan and institutional traits was sensitive to methodology. Revenue changes and balanced budget requirements had no significant effect on pension contributions. These results suggest a number of reform avenues, including constitutional, institutional, and programmatic changes of varying political feasibility.

How Will Longer Lifespans Affect State and Local Pension Funding?

Source: Alicia Munnell, John-Pierre Aubrey, and Mark Cafarelli, Center for State and Local Government Excellence, Issue Brief, April 2015

From the summary:
Americans are living longer – and that creates new funding challenges for state and local pension plans. Private sector plans are already required to utilize new mortality tables which account for increased longevity when formulating their cost estimates. A new issue brief from the Center for State and Local Government Excellence, How Will Longer Lifespans Affect State and Local Pension Funding?, examines the impact that incorporating longevity improvements into their costs estimates would have on the funded status of state and local defined benefit plans.
The brief explores explores what public plan liabilities and funded ratios would look like under two alternative scenarios:
– if public plans were required to use the new mortality tables designed for private sector plans; and
– if public plans were required to go one step further and fully incorporate expected future mortality improvements.
Key findings include:
– Using the private sector standard, public plans underestimate life expectancy by only 0.5 years, reducing the 2013 funded status of state and local plans from 73 to 72 percent.
– Incorporating future mortality improvements would increase life expectancy by 2.3 years and reduce the funded ratio of public plans from 73 to 67 percent.
– Public sector plans appear to be making a serious effort to keep their life expectancy assumptions up to date

The In-State Equity Bias of State Pension Plans

Source: Jeffrey R. Brown, Joshua Matthew Pollet, Scott J. Weisbenner, National Bureau of Economic Research (NBER), NBER Working Paper No. w21020, March 2015
(subscription required)

From the abstract:
This paper provides evidence on the investment behavior of 27 state pension plans that manage their own equity portfolios. Even though these state plans typically hold broadly diversified portfolios, they substantially over-weight the equity of companies that are headquartered in-state. The over-weighting of within-state stocks by these plans is three times larger than that of other institutional investors. We explore three possible reasons for this in-state bias: familiarity bias, information-based investing, and political considerations. While there is a substantial preference for in-state stocks, there is no similar tilt toward holding stocks from neighboring states or out-of-state stocks in the state’s primary industry. States generate excess returns through their in-state investment activities, particularly among smaller stocks in the state’s primary industry. We also find that state pension plans are more likely to hold a within-state stock if the headquarters of the firm is located in a county that gave a high fraction of its campaign contributions to the current governor. These politically-motivated holdings yield excess returns for the pension fund.

CEO Pension Benefits: Bigger Than the Pay Advantage?

Source: Carol Hymowitz, Margaret Collins, Bloomberg Businessweek, January 8, 2015

For many new retirees, the biggest worry isn’t about how they’ll keep themselves busy after years of the 9-to-5 grind. It’s whether they’ll have enough money to get by during their golden years. Not so for Gregg Steinhafel, who stepped down as chief executive officer of Target last May following a massive credit card data breach. The 35-year veteran of the retailer received retirement plans valued at more than $47 million—1,044 times the average balance of $45,000 that workers have saved in the company’s 401(k) plan.

That’s far different from the experience of Ron Pierce, who worked from 2007 to 2012 at the retailer’s distribution center in Stuarts Draft, Va. At the time of his departure, he had $32,000 in his 401(k) account, which had been bolstered by Target’s 100 percent match of workers’ contributions up to 5 percent of their pay. Pierce also left the retailer with a one-time payout of about $4,600 from a pension, which the company ended for new employees in 2008. …

For years, public attention has been fixed on the rising gap in the U.S. between the highest- and lowest-paid workers. Less noticed has been the gulf in retirement savings, which has grown along with executive compensation. Most workers are left only with their 401(k) plans when they leave the workforce, but top managers often receive far more lucrative executive pensions….

Spotlight on the Annual Required Contributions Experience of State Retirement Plans, FY 01 to FY 13

Source: Keith Brainard and Alex Brown, National Association of State Retirement Administrators (NASRA), March 2015

From the introduction:
After its creation in the 1990s, the annual required contribution (ARC) quickly became recognized as the unofficial measuring stick of the effort states and local governments are making to fund their pension plans. A government that has paid the ARC in full has made an appropriation to the pension trust to cover the benefits accrued that year and to pay down a portion of any liabilities that were not pre-funded in previous years. Assuming projections of actuarial experience hold true, an allocation short of the full ARC means the unfunded liability will grow and require greater contributions in future years.
Related:
Press Release

Employee Contributions to Public Pension Plans

Source: National Association of State Retirement Administrators (NASRA), Issue Brief, February 2015

From the introduction:
Unlike in the private sector, nearly all employees of state and local government are required to share in the cost of their retirement benefit. Employee contributions typically are a percentage of salary as specified in statute. Although investment earnings and employer contributions account for a larger portion of total public pension fund revenues, by providing a reliable and predictable stream of revenue to public pension funds, contributions from employees fill a vital role in financing pension benefits. In the wake of the 2008-09 market decline, employee contribution rates in many states have increased. This issue brief examines employee contribution plan designs, policies and recent trends.

State and Local Government Spending on Public Employee Retirement Systems

Source: National Association of State Retirement Administrators (NASRA), Issue Brief, February 2015

From the introduction:
State and local government pension benefits are paid not from general operating revenues, but from trust funds to which public retirees and their employers contributed while they were working. On a nationwide basis, pension contributions made by state and local governments account for roughly 3.9 percent of direct general spending. Current pension spending levels, however, vary widely and are sufficient for some entities and insufficient for others.

In the wake of the 2008-09 market decline, nearly every state and many cities have taken steps to improve the financial condition of their retirement plans and to reduce costs although some lawmakers have considered closing existing pension plans to new hires, most determined that this would increase — rather than reduce — costs, particularly in the near-term. Instead, states and cities have made changes to the pension plan by adjusting employee and employer contribution levels, restructuring benefits, or both. Generally, adjustments to pension plans have been proportionate to the plan’s funding condition and the degree of change needed.

Will Switching Government Workers to Account-type Plans Save Taxpayers Money?

Source: Monique Morrissey, Economic Policy Institute, Briefing Paper #390, March 5, 2015

Although benefit cuts, increased employee contributions, and a rebound in stock prices have improved pension fund finances, severe underfunding remains a challenge in places where the problem predated the recession and was the result of lawmakers neglecting to make required contributions over many years.1 This is helping to sustain the idea that we can no longer afford to provide teachers, police, firefighters, and other civil servants with secure defined-benefit pensions.

Earlier would-be reformers pushed for 401(k)-style defined-contribution (DC) plans prevalent in the private sector. But disastrous results in West Virginia, Michigan, and Alaska have shifted attention to “hybrid” plans, such as cash balance plans, that combine elements of defined-benefit and defined-contribution systems. Advocates of these types of plans say they are a compromise between those who want to maintain traditional pension plans and those who push for a transition to a 401(k)-style system. However, DC and hybrid plans, which can collectively be referred to as account-type plans, fail on three important points:
· They do not help states save money. Traditional defined-benefit pensions are more efficient than DC plans and most hybrid plans due to economies of scale, risk pooling, and other factors. Moreover, changing plan type introduces transition costs. Thus, it is not surprising that states that switched to DC and hybrid plans did not save money except to the extent that they simply cut benefits or required workers to contribute more toward their retirement.
· They create more workforce management problems than they solve. For example, many cash balance plans provide the biggest benefits to job leavers, promoting high turnover in public-sector jobs, which require a high level of skill and experience.
· They increase retirement insecurity. Account-type plans introduced around the country threaten the retirement security of young and old alike. While a well-designed hybrid plan could theoretically help younger workers without undermining the retirement security of midcareer and older workers, none of the plans offered in the current political climate has done so.
Related:
Press release

De-Risking Pension Plans Revisited – 2015

Source: John G. Kilgour, Compensation Benefits Review, Vol. 46 no. 5-6, October/December 2014
(subscription required)

From the abstract:
The Pension Protection Act of 2006 changed the way in which the value of lump sum distributions is calculated. When the new method was fully implemented in 2012, it triggered a flood of de-risking activity by sponsors of defined benefit pension plans via one-time lump sum distributions, group annuity contracts with insurance companies and liability driven investing. Underlying these developments were a number of economic and demographic factors including a rising equity market, low interest rates, increased Pension Benefit Guaranty Corporation insurance premiums and a declining number of active participants. These forces are still there. Indeed, they have strengthened due to recent legislation (MAP-21 in 2012, BBA in 2013 and HATFA in 2014). In addition, a number of legal questions have been resolved by the Verizon Communications decision of 2014 and new mortality tables have just been published by the Society of Actuaries. The combination of these developments indicate that 2015 will be another big year for pension plan sponsors to transfer pension risk to participants through lump sum distributions and to insurance companies through group annuity contracts.