Comparing Retirement Program Alternatives Presenters: Moderator, Tina Leiss, Nevada Public Employees Retirement System Keith Brainard, National Association of State Retirement Administrators Barry Faison, Virginia Retirement System Brian Guthrie, Teacher Retirement System of Texas
Comparing Retirement Program Alternatives GFOA Annual Conference Keith Brainard Research Director National Association of State Retirement Administrators May 19, 2014
Retirement Plan Design The elements that define a retirement benefit, including rules for participation, the source and timing of contributions, responsibility for asset management, how and when benefits are available, valued and paid, etc. A key feature of retirement plan design is the assignment of risk among the employer and plan participants.
Employer-Sponsored Retirement Plans: Two Types Defined benefit Employer makes contributions Employer bears the risk of paying promised benefits Defined contribution Employee and employer may make contributions Employee bears all the risk All other types of employer-sponsored plans are variations or hybrids of these two
Retirement Plan Risk Continuum Employer Risk Employee Risk DB plan Hybrid Plans DC plan Key areas of risk: Investment Inflation Longevity
These elements are known to promote retirement security and NASRA believes they should be incorporated into every public employer-sponsored retirement plan. Distinguishing elements of public pension plans Mandatory participation Employee-employer cost sharing Benefit adequacy Assets that are pooled and professionally invested A benefit that cannot be outlived, i.e., mandatory annuitization
DB-DC Hybrid Plans Are proliferating among state-sponsored retirement plans Feature a traditional DB plan combined with participation in a DC plan Indiana has used this model for years Since the late 90s, other states have added these on an optional or mandatory basis Washington, Ohio, Oregon, Georgia, Michigan, Utah, Rhode Island, Virginia, Tennessee
Distinctive Features of DB-DC Plans: Oregon Six percent of pay is contributed to the DC plan component DC plan assets are pooled in an account that is invested similarly to the big DB fund Lower costs, pooled returns At retirement/termination, participants may cash out, roll over assets, or take benefits over periods certain
Distinctive Features of DB-DC Plans: Tennessee Effective for state workers and teachers hired on and after July 1, 2014 Employee default contribution is 2 percent of pay to DC component, which they may adjust, including to zero Employers contribute 5 percent to worker DC accounts, regardless of employee contribution rate
Distinctive Features of DB-DC Plans: Georgia Effective for new state workers as of January 1, 2009 Employer contribution to DC plan matches first 1 percent of employee contribution plus half of next 4 percent, up to max employer contribution to 3 percent Employees may opt out of DC component, and for those who do, they forgo the employer contribution Approximately 15 percent opt out
Distinctive Features of DB-DC Plans: Utah New hires since 7/1/11 may choose from a defined benefit or defined contribution plan Employer contributes 10 percent of pay For the DB plan, retirement multiplier = 1.5 percent Total cost of the plan = 7.59 percent (10.45 percent for public safety) Remaining 2.41 percent (1.55 percent for public safety) is deposited into employees defined contribution account Employees pay any cost of the DB plan above 10 percent (12 percent for public safety) Employers also contribute 5 percent to amortize UAL A defined benefit plan with a defined contribution
Variation on DB-DC Plan Establish a DB plan on a designated portion of salary For example, the first $50,000 Salary above the pensionable salary would be covered with a DC plan Focuses pension benefit on an amount needed to meet basic expenses in retirement Avoids paying pension on last dollar of salary Employer risk is on the core benefit Employee risk is on the benefit above pensionable salary limit
Cash Balance Plans Pooled assets, notional accounts, guaranteed annual return, possible access to excess returns, annuitized benefit Texas has used this model for decades for many municipal and county workers Nebraska established a new CB plan for state and county workers effective 1/1/03 Kentucky, for state and local workers (not teachers) effective 1/1/14 Kansas new hires will have a CB plan 1/1/15 CB plans are being promoted by some groups: Arnold Foundation, Pew Center on the States, Urban Institute: A stable accrual pattern of pension wealth
Defined Ambition Plans A Dutch term that refers to a retirement plan in which risk is shared: benefits are flexible and can be adjusted based on external events, e.g., investment returns, demographic changes, etc. A cash balance plan could be considered a DA plan So would the plan that limits pensionable salary, with a DC plan on top Other models: Employer pays an annuity, but the employee s date of eligibility can change if life expectancy rises Employees could be required to work longer to receive the same benefit. Original employer estimate for younger workers narrows as they approach retirement age based on plan s actuarial experience
Collective Defined Contribution Plans Used on a limited basis in Europe This is a form of a Defined Ambition plan Single fixed element is the employer cost, or contribution If or when actuarial experience varies from projections, plan is adjusted in one or more ways: Adjusted age/years of service to qualify for a retirement benefit Higher employee contribution Reduced benefit factor Adjustment is made by a group that represents employee participants
Other Interesting Variations Auto-enrollment in supplemental DC plan Employer supplemental DC plan match Employee contribution rates that vary based on the plan s actuarial experience Diversion of employer contributions to a DC plan account Cost-of-living adjustments based on investment performance, actuarial condition, or other factor
See Also NASRA: http://www.nasra.org NASRA Issue Briefs and Analysis: http://www.nasra.org/issuebriefs Keith Brainard: keith@nasra.org
Virginia Retirement System Pension Reform and the Hybrid Plan Government Finance Officers Association Minneapolis, Minnesota May 19, 2014 Barry C. Faison VRS Chief Financial Officer
Overview of The VRS System
VRS Membership As of March 31, 2014 Teachers 146,612 Political Subdivisions 105,588 State Employees 78,932 State Police Officers Retirement 1,984 System Judicial Retirement System 386 Virginia Law Officers Retirement 9,415 System Total Active Members 342,917 Retirees and Beneficiaries 176,269 Inactive and Deferred Members 124,578
Pension Benefits Administered Defined Benefit Pension Plans (Each of these plans has two tiers, identified as Plan 1 and Plan 2) VRS State employee, teachers, and local government employees SPORS State Police Officers Retirement System JRS Judicial Retirement System VaLORS Virginia Law Officers Retirement System (Corrections officers, Campus police, etc.) Hybrid Pension Plans (Effective January 1, 2014) VRS (State employee, teachers, and participating local government employees, except public safety) JRS (Judges appointed to an original term on or after January 1, 2014)
Other Benefits Administered Other Post-Employment Benefit Plans Group Life Insurance Program Basic Life Insurance (employee/employer paid) Optional Life Insurance (voluntary & employee paid) Retiree Health Insurance Credit Program Tax-free reimbursement based on service to offset part of the cost retiree health insurance premiums) Virginia Sickness and Disability Program (VSDP) Managed care program, provides short- and long-term disability and long-term care benefits Effective January 1, 1999 for new state employees Virginia Local Disability Program Similar to VSDP above For local employees in the Hybrid Plan January 1, 2014
Net Position Restricted for Benefits $63.9 $60 $58.3 $55.1 $54.6 $53.3 $58.4 $50 $48.7 $47.7 Assets in Billions $40 $30 $22.2 $26.9 $31.7 $35.7 $40.8 $37.7 $34.4 $34.7 $40.0 $44.1 $42.9 $20 $10 $0 1996 1998 2000 2002 2004 2006 2008 2010 2012 3/31/2014
Pension Reform and the Hybrid Plan
Pension Plans Prior to July 1, 2010 Generally all VRS employees had the same retirement benefit structure (exceptions for hazardous duty employees) Normal retirement age age 65 (60 for hazardous duty employees) Full unreduced benefit age 50 with 30 years service (50 with 25 years of service for hazardous duty) Multiplier 1.70% for each year of service (1.85% for certain hazardous duty employees) Average Final Compensation (AFC) highest 36 consecutive months Cost-of living increase (COLA) first 3.00% of CPI-U, plus 50% of next 4.00% with a maximum of 5.00%
Pension Reforms July 1, 2010 2010 General Assembly established new tier for new employees hired on or after July 1, 2010 (Plan 2) Normal retirement changed to Social Security normal retirement age Unreduced benefits commencing at Rule of 90 Reduced retirement moved to age 60 with at least 5 years of service Five-year AFC formula Revised COLA formula July 2011 VA General Assembly required Plan 1 state employees to begin paying the 5 percent member contribution and provided offsetting salary increase (reversed October 1983 pick-up vs salary increase)
Pension Reform: July 1, 2012 Pension Reform Passed by the 2012 General Assembly, effective July 1, 2012 (FY 2013) Local governments and schools systems required to begin imposing the 5 percent member contribution with offsetting salary increases: July 1, 2012 83% of local government employers opted to impose a 5 percent member contribution with a 5 percent offsetting salary increase -- increased to 86% July 1, 2013 July 1, 2012 60% of school boards opted to impose a 5 percent member contribution with a 5 percent offsetting salary increase -- increased to 73% July 1, 2013. Remaining employers have elected a phase-in schedule with full implementation no later than July 1, 2016
Pension Reform: July 1, 2012 (con t.) Pension Reform Passed by the 2012 General Assembly, effective July 1, 2012 (FY 2013) General Assembly proposes to phase-in full funding of contribution rates for state employee and teacher plans to achieve full funding of the VRS board-certified rates July 1, 2012 July 1, 2014 July 1, 2016 July 1, 2018 State 67.02% 78.02% 89.01% 100.00% Teachers 69.53% 79.69% 89.84% 100.00% Local governments allowed to elect either the VRS Board-certified contribution rate or an alternate rate: 90% of local governments elected the VRS Board-certified contribution rate Phase-in employers will have NPO under GASB 27
Pension Reform: January 1, 2013 Pension Reform Passed by the 2012 General Assembly, effective January 1, 2013 (FY 2013) Non-vested Plan 1 members became VRS Plan 2 members Benefit multiplier on new service for Plan 2 members was reduced from 1.70% to 1.65% Cost-of-Living Adjustment (COLA): No COLA until member who retires with less than 20 years of service has received an allowance for one full calendar year after reaching unreduced retirement age. All Plan 1 and Plan 2 members within 5 years of eligibility for an unreduced benefit as of 1/1/13 are grandfathered COLA capped at 3% (first 2% of CPI-U plus one-half of the next 2%, for a maximum total of 3%) for Plan 2 members
Pension Reform: January 1, 2014 Pension Reform Passed by the 2012 General Assembly, effective January 1, 2014 (FY 2014) Hybrid plan becomes the retirement plan for all general public employees hired on or after January 1, 2014 Hybrid plan members also covered by VRS-administered VLDP or comparable insured or self-funded plan provided by the employer Current general public employees in Plan 1 and Plan 2 may elect by April 30, 2014 to move to the Hybrid Plan on July 1, 2014 Hazardous duty members are exempt from the hybrid plan
What Is a Hybrid Retirement Plan? A defined benefit plan and a defined contribution plan form the components of the VRS Hybrid Retirement Plan: Defined Benefit Component Defined Contribution Component Disability Coverage Provides the foundation of member s future retirement benefit when he/she qualifies. Provides tax-deferred savings plans to build on the benefit under the defined benefit component. Virginia Local Disability Program, or employer-provided comparable plan. VRS manages the investments and related risk for this component. The member manages the investments and related risk for this component. Short-Term Disability ER paid benefit; income replacement begins at 60%; one-year waiting period Mandatory EE/ER contribution: 4.0% (EE) + actuarial determined rate (ER) Mandatory EE/ER contribution: 1.0% (EE) + 1.0% (ER) = 2.0% min. contribution Long-Term Disability begins after 6 months; provides 60% of predisability income; paid from trust 1.0 x years of service x AFC = Benefit Amount Voluntary contributions up to a 4% (EE) + 2.5% (ER) match = 6.5% Long-Term Care nursing/in-home care; not required in employer comparable plan
Estimated Income Replacement Ratio Final Pay $40,000 Age 60 with 30 Years of Service Age 67 with 37 Years of Service Assumptions & Methods: Replacement Ratios are equal to the annuity payable at selected retirement age divided by the compensation in final year before retirement. For purposes of calculating the social security replacement ratio at age 60, the replacement ratio is the expected benefit amount that will become payable at social security normal retirement date unadjusted. Salary increases are assumed to be 4% per year. Inflation/Cost of Living is assumed to be 2.5% per year. Social Security is assumed to commence beginning at social security normal retirement age. Prior to that date only retirement benefit would be payable. Mortality assumptions used to annuitize defined contribution balances are those prescribed by Internal Revenue Code 417e(3) for calculating minimum lump sum balances. Defined contribution plan balances assume 6% pre retirement investment returns. Defined contribution plan balances are converted to annuity at retirement assuming a 4% investment return and a 2.5% benefit increase annually in retirement. Hybrid Minimum contributions assume 1% employee contribution and corresponding 1% employer match. Maximum contributions assumes 5% employee contribution and corresponding 3.5% employer match. Assumes member works entire career under one benefit formula. (No transition)
Estimated Income Replacement Ratio Final Pay $80,000 Age 60 with 30 Years of Service Age 67 with 37 Years of Service
Hybrid Plan Implementation and Update
Hybrid Implementation Preparation Project Preparation Activities Scope: Establish all essential enhancements to VRS business applications for administering the hybrid plan such as eligibility, enrollments, contributions, accounting and general ledger. Phase I Issue RFP for a record keeper and investment services Transition record keeping and investment services to ICMA Modify VRS Systems (VNAV, RIMS, MUNIS, myvrs) Develop a new Hybrid Retirement Plan Calculator Train and communicate with external and internal stakeholders Hold VLDP election window for all locals and schools Phase II Develop/modify systems to accommodate the VLDP, retirement, purchase of prior service Enable systems to transfer Plan 1 and Plan 2 members to the hybrid plan 7/1/2014 Develop a Plan Determination Tool to enable employers to counsel and enroll members
Employer Outreach Employer Outreach (2013-2014) Employer Update Articles Ongoing, beginning in Jan. 2013 VRS Website (varetire.org) Ongoing, beginning in Jan. 2013 Employer Roadshow Meetings Employer Webinars Employer Resource Website Spring outreach 2013 32 sessions Fall outreach 2013 27 sessions Ongoing Tools and resources for employers to communicate with members on the DC plan
Member Outreach Member Outreach (January April 2014) Member Roadshow Meetings Hybrid Retirement Plan Handbook Webinars Plan Comparison Guide Hybrid Opt-in Period Communications Campaign VLDP Handbook Website for Members Hybrid Plan Calculator January - April Available on the VRS website and print Provide plan information and create awareness of the opt-in period Compares Plan 1, Plan 2 and hybrid Ongoing Provides members disability plan information Website designed exclusively for hybrid members Provides plan comparison
Hybrid Enrollments Hybrid Enrollment Statistics Total Hybrid Members (as of 5/1/2014) Total Balance in Hybrid 401(a) DC (as of 5/8/2014) Total Unique Employers with Hybrid Members (as of 5/1/2014) Total Voluntary Contributions % Elected During 1 st Quarter (as of 3/17/2014) Member Login - Account Access (ICMA-RC member portal) 4,914 (State 1,383, Non-State 3,531) Total Hybrid Assets Hybrid 401(a) - $547,618 balance Hybrid 457 - $21,709 493 (State 151, Non-State 342) 65 31 in January, 96 in February, 163 in March, 221 in April
Opt-in Overview Existing Plan 1 and Plan 2 employees could opt into the Hybrid Retirement Plan by April 30; hazardous duty members are not eligible for the hybrid. January 1, 2014 Early January April 30, 2014 July 1, 2014 Hybrid Plan Begins Plan 1 and Plan 2 Members Optin Period Begins Member Resources Available Member Opt-in Period Ends Opt-in Members Plan Effective Date
Hybrid Plan Calculator
Hybrid Opt-In Window Hybrid Calculator 10,960 unique member users 5,093 members clicked on election form PDF 1,366 employers have used the tool Hybrid Opt-Ins 204 submitted election forms 8 requested revocation forms 196 net elections on file May 1, 2014
Thank You
Teacher Retirement System of Texas Government Finance Officers Association Comparing Retirement Program Alternatives Brian Guthrie May 19, 2014
Pension Benefit Design Study: Background TRS was directed by the Texas legislature in 2011 to conduct a pension design study that evaluated the impact of plan design changes, including defined contribution and hybrid options, to improve long-term solvency of the plan. At the time of the study, the pension fund was not actuarially sound and had a funding period of never. However, the fund also had a funding ratio of 82.7% and enough assets on hand to pay benefits for several generations. TRS focused on sharing study information with stakeholders and garnering stakeholder participation. TRS presented study updates at four TRS Board meetings and two town hall meetings. Three of the six meetings offered the public an opportunity to provide input and ask questions, in person and on the web site. TRS delivered its pension design study in August 2012. The full study is available online at www.trs.state.tx.us. 44
Pension Benefit Design Study: Background 45 The pension benefit design study charge directed TRS to examine the actuarial and fiscal impacts of: Changing the benefit factors of the current plan, including changes in eligibility and the final average salary and benefit multiplier provisions of the current plan; and Moving to an alternative plan design, such as a cash balance plan or defined benefit-defined contribution hybrid plan. Given the national climate, TRS determined that the study should focus on the values and risks of both defined benefits plans and alternative plans, including answering questions such as: What is the value of a TRS benefit? What modifications can be made to the current plan to improve its funding? What is the cost of providing a benefit of the same value in an alternative plan? What are the risks of defined benefit plans vs. the risks of alternative plans? What is the impact on the members of moving to a defined-contribution type plan? What is the cost to the state of delaying action?
Pension Benefit Design Study: Finding 1 - Immediate Action Needed Finding 1: While the TRS Pension Fund can pay benefits through 2065, the state needs to begin addressing the unfunded liability. Delays will only increase costs. The current funded ratio (ratio of assets to liabilities) exceeds 80% but will trend downward over time without a change in contribution rates, investment returns, or benefit levels. Current funding policy of a 6.4% state contribution and 6.4% member contribution is insufficient to amortize the current $26.1 billion unfunded actuarially accrued liability (UAAL). Changing benefits only for new hires does not have an immediate impact on the current UAAL (may have a long-term impact). Adjusting benefits for active members does have immediate impact. 46
. Pension Benefit Design Study: Finding 2 - Benefits Are Modest Finding 2: The value of the TRS retirement benefit is 36% less than the average benefits of members of peer systems. A prototypical TRS career employee (retires at age 62 with 32 years of service credit) receives a lifetime benefit that equates to 52% of preretirement income (after losing purchasing power). The average peer plan benefit provides 82% of pre-retirement income. The main reason: TRS retirees do not have Social Security or COLAs. 47
. Pension Benefit Design Study: Finding 3 - Current Plan Design is Cost Effective Finding 3: The TRS defined benefit plan provides current benefits at a lower cost than alternative plans. The current defined benefit replaces roughly 68% of a career employee s pre-retirement income before loss of purchasing power. Other alternative plan structures are from 12% to 138% more expensive than the current plan (not including the cost to pay off any unfunded liability) to provide the same level of benefits. TRS determined that when the alternative plans were modeled to cost the same as the current plan, they replaced 27.7% to 59.7% of pre-retirement income for a career employee retiring at age 62. 48
Pension Benefit Design Study: Finding 3 - Current Plan Design is Cost Effective Source: Teacher Retirement System of Texas and Gabriel, Roeder, Smith & Company 49
Pension Benefit Design Study: Finding 3 - Current Plan Design is Cost Effective Source: Teacher Retirement System of Texas and Gabriel, Roeder, Smith & Company 50
. Pension Benefit Design Study: Finding 4 - Institutional Investors Generate Better Long-Term Returns Finding 4: The majority of TRS members will do significantly worse investing on their own in a plan with a defined contribution component. An estimated 2/3 s of the members would earn returns below 60% of the current defined benefit, while over 90% would accrue less than their estimated current annuity. Only about 8% of the members would accrue an annuity that exceeds the current defined benefit plan. The estimated underperformance is due to lower investment returns from a shorter investment horizon, access to fewer asset classes, less disciplined investment approaches, and potentially higher fees. 51
. Pension Benefit Design Study: Finding 4 - Institutional Investors Generate Better Long-Term Returns Source: Teacher Retirement System of Texas 52
. Pension Benefit Design Study: Additional Findings Finding 5: Alternative plan structures carry differing levels of risk for the state and TRS members. Finding 6: Other states changing structures have lowered benefits to realize savings. Finding 7: Moving new hires to an alternative plan will not eliminate existing plan liabilities. Finding 8: Approximately 95% of TRS public school members do not participate in Social Security, leaving the TRS benefit as their only lifetime annuity. 53
TRS Pension Benefit Design Study: Before and After Legislative Changes Before After (as of 8/31/13) State Contribution Rate 6.4% 6.8% in FY 14 and FY 15 Member Contribution Rate 6.4% 6.4% in FY 14 gradually increasing over four years to 7.7% in FY 17 Non Social Security School District Contribution Rate Normal Age Retirement None 1.5% Rule of 80 + either No minimum age or minimum age 60 depending on when member joined the system Pre 62 Retirement Penalty Varied 5% per year Funding Ratio 81.4% 80.8% Rule of 80 + 62 for new hires and non vested members Funded Period Never 28 Years (after COLA) UAAL $27.4 billion $28.9 billion Depletion Date 2069 None COLA Ad hoc 3% (capped at $100 /mo) for those retired on or before 8/31/2004. First COLA in over a decade was paid beginning 54 October 2013.
Pension Benefit Design Study: Lessons Learned The pension study allowed TRS to be proactive and take the issues head on, which impacted the dialogue during the legislative session. Involving stakeholders early in the process helped bring issues and concerns into focus and better craft palatable solutions. TRS increased its credibility with all parties by recognizing that the legislature, as a body, may have differing goals from TRS and our members, and we gained a seat at the negotiating table by objectively analyzing all the impacts of proposed changes. TRS member groups clearly preferred increasing contributions over any benefit reductions even though increased contributions may have a greater negative financial impact than having a longer working life. This attests to the protective feelings plan members have about their level of benefits. While not an initial focus for the legislature, mitigating the impacts of GASB 67 & 68 became one of the motivations for improving plan funding during the session. 55