Connelly-Tracy pension bills SB 2172 & SB 2173

“…This week two members of the Senate Republican Caucus, Senators Michael Connelly (R-Naperville) and Jil Tracy (R-Quincy), announced they were filing a statewide pension reform plan. This is an attempt to try to move a smaller measure that the legislature ‘agrees’ upon.  Although the last attempt to pass this type of legislation failed, pension reform seems to be the ideal starting place According to Tracy and Connelly. The Connelly-Tracy pension package consists of two bills: One which includes the consideration model portions and one which includes the Tier 3 pension system. 

“SB 2172 creates a defined contribution plan for all new annuitants, offers inactive members a buy-out option and shifts costs to local school districts.

“SB 2173 would require current teachers to make a choice of two diminished benefits.  Either receive a reduced COLA and be able to retire with your full salary or keep your compounded COLA and retire with the salary you have when this bill becomes law.  No other salary increases you may receive would be counted to your pensionable benefit. This would also prohibit collective bargaining for salary and benefits.

“After the Senators’ press conference on Wednesday, Governor Rauner tweeted ‘I will sign this bill when it reaches my desk, making changes to our pension system is critical to a balanced budget’” (Government Affairs Director Mary Shaw, Illinois Retired Teachers Association).

Commentary:

Re: SB 2172

Defined-Contribution Savings Plan (401k) v. Defined-Benefit Pension Plan

A Defined-Contribution Savings Plan (401k):

       With a defined-contribution savings plan (401k, 403b, 457), only the contributions are defined.

       A defined-contribution savings plan shifts all the responsibilities and all of the risk from the employer to the employee (unless negotiated otherwise); thus, the benefit is not guaranteed for life.

       Nearly 87% of public employees are not eligible for Social Security.

       A benefit is based upon individual investment earnings.

       The employee assumes all funding, investment, inflationary and longevity risks.

       A defined-contribution savings plan does not have the pooled investments, professional asset managers, and shared administrative costs that a defined-benefit pension plan provides.

       There are no survivor or disability benefits and guarantees.

       Though the employee bears no portability risks, accounts are not always rolled over when an employee changes jobs.

       The employer (state) will have to bear the administrative costs of both defined-benefit pension and defined-contribution savings plans when the employee switches over.

       Though not the employees problem, “payments to amortize unfunded liabilities for the defined-benefit pension plan may be accelerated” (National Institute on Retirement Security, NIRS, 2012).

       The Governmental Accounting Standards Board “requires [an] acceleration of unfunded liability payments when the defined-benefit pension plan is closed to be recognized on financial statements” (NIRS, 2012).

       When changing from a defined-benefit pension plan to a defined-contribution savings plan, “new members do not start with any unfunded obligation” (NIRS, 2012).

       “Projected defined-benefit savings contributions for new members are worth more than the projected defined-benefit pension costs for those members” (NIRS, 2012).

       “No unfunded obligations [liabilities] for existing members are reduced when new members go into a defined-contribution savings plan” (NIRS, 2012).

       “The loss of new members make it difficult to finance the unfunded obligations of the defined-benefit pension plan” (NIRS, 2012).

       It is nearly impossible for anyone to save enough money in a 401k to last a lifetime of retirement, except for the wealthy elite (who also receive Social Security).

A Defined-Benefit Pension Plan:      

       A defined-benefit pension plan is more cost efficient than the defined-contribution savings plan.

       A defined-benefit pension plan offers predictable, guaranteed monthly benefits for life.

       Funds are invested by professional asset managers in a diversified portfolio that follows long-term investment strategies.

       The large-pooled assets reduce asset management and miscellaneous fees.

       A defined-benefit pension plan provides spousal (survivor) financial benefits.

       A defined-benefit pension plan provides disability benefits.

       The state is responsible for funding, investment, inflationary and longevity risks.

       A defined-benefit pension plan is a more effective protection than the defined-contribution savings plan.

       A defined-benefit pension plan provides an employee with self-sufficiency in retirement.

       A defined-benefit pension plan is associated with far fewer households that experience food privation, shelter adversity and health care hardship.

       A defined-benefit pension plan is less expensive for taxpayers than Social Security – a reason why legislators had negotiated for Illinois teachers to not pay into Social Security.

       The Teachers Retirement System of Illinois is the 39th largest in the U.S. with over 406,000 members (TRS, 2016).

       The average rate-of-return for TRS: 8.8% (over last 30 years) (FY 2016, TRS).

       TRS assets: $45.6 billion (as of Sept. 30, 2016, TRS).

       A defined-benefit pension plan has an economic impact of over $4 billion on Illinois; the effect on Gross Domestic Product is $2.38 billion; jobs that are created: 30,448 (TRS, 2012).

       Defined-benefit pension plans contribute over $100 billion to annual local, state, and federal revenue in the U.S. and provide capital to financial markets (NIRS, 2012).

Pension plans enjoy higher investment returns and lower fees than individual accounts, generating a 27 percent cost savings (NIRS, 2014). 

         Unlike individual investors who generally enjoy high-risk, high-reward investment strategies when they're young but switch to lower-risk portfolios that yield far lower returns as they age, pension plans can maintain a balanced portfolio that yields consistently high returns, generating an 11 percent cost savings (NIRS, 2014). 

Pension plans pool longevity risk, meaning that they only have to save for the average life expectancy of a group of individuals. Workers in a 401(k) plan need an investment strategy that provides for the event that they live a longer than average life. Longevity risk pooling generates a 10 percent cost savings (NIRS, 2014).

Sources: the National Institute on Retirement Security (NIRS), the Teachers Retirement System of Illinois 

Placing Illinois Teachers in Social Security via 401k's (from the Teachers Retirement System)

“Issue: Requiring newly-hired Illinois teachers to become part of Social Security would help ease the burden on TRS, lower the state’s contribution to public pension systems, help ease the long-term financial problems facing Social Security, and create more income stability for retired teachers.

“Discussion: Making newly-hired teachers pay into Social Security and allowing them to be eligible for benefits would affect all current and retired teachers. Illinois teachers have never been part of the Social Security system. Most teachers rely almost solely on a TRS pension during retirement. Active teachers contribute 9.[0] percent of their paycheck to help fund TRS and school districts contribute 0.58 percent of every teacher’s salary to the System. Last year, all told, teachers contributed $917 million to TRS and school districts contributed $155 million.

“For new teachers to become part of Social Security this scenario would mean a mandatory 12.4 percent payroll deduction split evenly between the member and the employer, which in the case of Illinois teachers is school districts and state government. Teachers would still be required to contribute 9.[0] percent of salary to TRS.

“For school districts, the cost of teacher pensions would immediately rise by a considerable amount. Instead of contributing 0.58 percent per new teacher, every district would have to contribute 6.2 percent per teacher. It is estimated that this increased cost would equal $41 million for Illinois school districts in the first year and more than $2.4 billion over 10 years. Plus, districts would still have to contribute 0.58 percent for each participant in the current system.

“Finally, a 1999 study by the General Accounting Office found that adding teachers and other public employers from around the country who are not currently in Social Security would create, at best, a temporary surge in revenue for Social Security. Over the long term, adding teachers to Social Security would only increase the System’s total obligations and deepen the long-term funding problem.”

Buy-Out Option:

Your “Buy-out” will not last your lifetime! 

TRS Executive Director Dick Ingram told legislators in March 2016 that a “buyout” is a benefit cut that would “do little or nothing” to improve the financial health of TRS: “…[I]t must be stated that any buyout – whether it be full or partial, at retirement or before, rolled over into an IRA or used to purchase an annuity – is a reduction in the guaranteed benefit that the member may have earned up to the point of the buyout. You won’t see any significant relief for the unfunded burden we already have created. In fact, the buyouts may actually serve to accelerate the state’s pension obligations.”

Shifting Costs to Local School Districts:

If Illinois policymakers pass a bill to shift its responsibility of paying the “normal costs” to local school districts, many school districts would not be able to afford to pay these costs, even if they are phased over the years. 

“A shift would create a new and large financial requirement for school districts, which would be difficult for many to meet. Moreover, Illinois ranks last in terms of state spending on K-12 education, and school districts are already relying heavily on local property taxes. Shifting the state’s normal cost obligation onto school districts would only mean that an even higher proportion of school districts’ revenue would come from property taxes.

“[Furthermore,] property tax bases would not be sufficient to absorb any shift in the employer normal cost for teacher pensions…  School districts are demographically and financially varied, and it would be difficult to impose a uniform normal cost shift on them… While shifting the state’s normal cost obligations onto school districts may provide some relief to the state’s budget, it will not mitigate these financial obligations and will instead push them onto school districts that, on average, already derive the majority of their revenue from local sources” (The Center for Tax and Budget Accountability, March 2012).

What would be other probable effects? In cash-strapped school districts, of which there are many, teachers would not receive increases in their salaries; many teachers would lose their jobs; student programs would be reduced or eliminated; class sizes would increase; it would be more difficult to recruit, as well as retain and attract, the best teaching candidates (which is already happening)… (Education Sector Policy Briefs).

The public school system in Illinois would be jeopardized; the public school teacher’s dignity and guaranteed retirement security would be imperiled, and their students’ right to be taught by the very best teachers available in Illinois would be at risk.

Approximately one-third of the total pension payment is the normal costs; the other two-thirds of the payment is the interest owed on the debt that the state created for not fully funding the pension system for several decades. To transfer the normal costs of the teachers’ retirement system to the school districts is to diminish the state’s role in providing income retirement security to its public employees, which has been the intention all along (Pension Cost Shift). 

SB 2173:

It is unconstitutional. 

Please also read my letter: To the Sponsors of House Joint Resolution Constitutional Amendment 18.