State government pensions

I see all this as questionable at best for one simple reason. Scores, perhaps hundreds of employers have followed this strategy and it’s highly unlikely they did so to increase their costs or were concerned about attracting workers.

When a plan is closed liabilities do remain, but they gradually decline. Funding levels at closing are a big factor, there may be catching up to do. A cash balance plan is a defined benefit plan and funded the same as a traditional pension plan.

State pensions are the last bastion of traditional pensions. Only 15% of private sector workers have such plans. They are expensive for states and often generous and are sometimes accompanied by a defined contribution plan as well.

State pensions encourage job tenure which may or may not be a good thing. State pensions are paid for by citizen taxpayers who do not have such plan and often struggle to fund their own retirement.

WASHINGTON, D.C., December 4, 2023 – A new report tracks the experience of five states that shifted new employees away from defined benefit (DB) pensions to defined contribution (DC) or cash balance plans. Among states that switched to a DC plan, costs rose, negative cash flow grew, and employee turnover increased. Additionally, the retirement security of plan participants in DC plans was negatively impacted because of a high degree of “leakage” of retirement assets from the DC accounts that replaced pension plans.

These findings are detailed in a new report from the National Institute on Retirement Security (NIRS), No Quick Fix: Closing a Public Pension Plan Leads to Unexpected Challenges. This report examines the experience in five states: Alaska, Kentucky, Michigan, Oklahoma, and West Virginia. The report is authored by Dan Doonan, NIRS executive director, Tyler Bond, NIRS research director, and Celia Ringland, NIRS research associate. 

“These five states are a cautionary tale for policymakers considering changes to employee retirement plans in their states,” said Dan Doonan, NIRS executive director and report co-author. “The analysis shows clear patterns across the states studied: retention of workers is poor and closing a pension plan to new employees fails to address any funding shortfalls.”

Doonan added, “There often are claims that closing an existing pension to new hires will improve matters in a variety of ways, but it’s hard to find proof among the public pension plans that have closed in the past 27 years. Instead, switching away from a pension starves the plan of employee contributions while the liabilities

remain, creates higher negative cash flow, and leaves taxpayers supporting the costs of two plans for many decades. Moreover, moving away from pensions undermines employees’ retirement security and causes workforce challenges for states that already are struggling to attract and keep workers who deliver essential public services. In contrast, funding discipline produces results.”

The report’s key findings are as follows:

• Among the states studied, employer costs increased significantly after closing a pension plan. In some states, poor funding practices preceded the plan closure, with improved funding discipline only after closing the plan. Even 26 years after one of these plans was closed, employer costs remain high. In contrast, the ongoing contributions of new active members combined with sound funding practices show strong results. 

• In the closed plans, cash flows have become more negative over time as demographics shift and the plan begins to spend down its assets. The Michigan State Employees’ Retirement System plan is furthest along in this regard, as the plan pays a growing share of its assets as benefit payments. Despite higher costs and larger contributions, the plan’s high negative cash flow throughout the Great Recession forced more plan assets to be sold at a discount while markets took time to rebound.

• Despite claims that younger workers will be attracted to savings-based plans, including cash balance and DC plans, the available retention data shows poor retention in the new plans or tiers. Workforce management has become a challenge in many of these states with closed plans.

• Many workers are cashing out their DC plan account balances when leaving a public sector job, and the evidence indicates those dollars are unlikely to be used for producing retirement income. The available data suggests that DC plans are failing to help many workers accumulate sufficient retirement savings. 

• The West Virginia Teachers Retirement System, which was closed and then reopened, shows that reopening a closed pension plan is a viable option that can reverse many of the harmful trends documented in this report if reopening is combined with contribution discipline. In West Virginia, pension plan costs have stabilized and the funded status continues to climb.