Sustainability of the Teachers' Pensions

Lately, I have been asking questions related to the so-called “unsustainability” of the teachers’ pensions and its conjoined twin, “unfunded liability.”  What is an unfunded liability?   It’s a “calculation of the current value of future liabilities minus the available value of assets.”  What is the problem or debate regarding sustainability and public pensions?  It’s how the current value of future liabilities should be measured and addressed.  What is also behind the push for a radical, “surgical” pension reform in Illinois besides the Civic Committee of the Commercial Club of Chicago, et al?  It’s HR 567, a federal bill sponsored by U.S. Congressmen Devin Nunes and Paul Ryan that would require the state and local governments to report pension liabilities to the Federal Government using the “riskless rate” (or Treasury-Bond rate at 3-4 percent). 

Even without the passage of such a Bill, some state legislators are using this lower “riskless rate” for purposes of measuring the unfunded liability of pension funds.  According to The Center on Budget and Policy Priorities (May 2011), legislators believe that the amount of money needed for pension plans should be larger than the amounts necessary.  Recently, in Illinois, we have witnessed an insensitive and reactionary attempt to change the teachers’ pension system, as evident in the recent proposed SB 512 by elected Representative Tom Cross and House Speaker Michael Madigan, and the “unelected” Tyrone Fahner of the Civic Committee of the Commercial Club of Chicago.

It‘s true that the State of Illinois confronts a greater challenge than most states because of past-elected officials who had blatantly disregarded their legal and fiduciary responsibilities to fully fund the State’s public pension systems for several decades.  Now add to this fiasco the Market crash of 2008-09, the prior practice of “spiking” public-employees’ salaries in their last four years of service, the previous “special-interest” deals made by both sides, and wealthy businessmen writing and endorsing legislative bills in Illinois and we have a disastrous calculation precipitated by fiscal irresponsibility, incompetence, avarice, corruption, officiousness, and bad luck.   

It seems obvious that many current legislators do not want to uphold the State’s constitution. As a friend of mine said to me, “Legislators do not want to be in the pension-funding business anymore.” Why not?  One answer is that some legislators have used the Commission on Government Forecasting and Accountability report (2010) and the Buck Consultants’ valuation report of pension benefits (June 30, 2010) which predicts that the State contributions to the pension funds will exponentially increase despite an 8.5 percent Market rate of return and; thus, some legislators want to renege on the constitutionally-guaranteed contract (explicitly stated in Article XIII, Section 5 of the Illinois State Constitution) to avoid the anticipated increased payments in the future.

Despite the claim that Illinois is the worst state in the country regarding unfunded liabilities (and we know why it is), an essential question to ask is whether the State is in an imminent danger of a financial collapse?  The answer depends upon which recent analysis is used as proof.  According to the Center for Retirement Research at Boston College (May 2011), “The outlook for pension funding is mixed.  First, one concern is that states and localities are falling behind in their annual required contribution [ARC] payments.  They are generally covering normal costs but are not making the amortization payments required to fully fund their pensions.  Paying 100 percent of the ARC should be a priority for all plan sponsors.”  In Illinois, that also includes payments for an exorbitant debt service to the Teachers’ Retirement System (TRS) that is the result of not fully funding the pension system.

Is the only way to “save the pension system” through pervasive and uncompromising reform such as in destroying the existing defined-benefit plan?  The recent, unprecedented response to the spring legislative session proved enlightening, and perhaps an answer to this question is a perspective from the Center for Retirement Research: since actuaries use “smoothing” or the averaging procedure that includes both gains and losses over a five-year period, to determine funding data, why not wait a few more years before drawing further conclusions about what needs to be done to the teachers’ pension system?  

In other words, allow the State’s revenue to recover from the economic downturn of 2008-09.  After all, Illinois does not face an urgent liquidity crisis (because pension fund liabilities are long-term)!   Why not re-evaluate three or four years from now to see whether the economy and Market have recovered; furthermore, continue to use the accounting methods of the Government Accounting Standards Board (GASB).  The GASB actuarial model uses an eight percent discount rate which is more realistic and comparable to the average return of TRS investments since 1982 (at 9.83 percent).  

Moreover, Fitch Ratings states in its February 2011 report, “Enhancing the Analysis of U.S. State and Local Government Pension Obligations,” that “a funded ratio of 70 percent or above [and not 90 or 100 percent is] adequate” (National Conference on Public Employee Retirement Systems, May 2011).  Incidentally, the funded ratio for TRS has increased since 2010 and is approximately 50 percent.

Most states have enough assets (from investment returns, membership and “fully-funded” state contributions) for at least 30 years according to recent studies. Nevertheless, as stated by a report in March, 2011 from the Center for Retirement Research, “the exhaustion date for the state-local sector as a whole is 2023 with returns of six percent and 2033 with returns of eight percent.”   However, Bob Lyons, a TRS trustee, points out that no one knows with certainty how much the Illinois State budget will be in the future or how easy or difficult it might be to make a payment to the pension funds by the State. Most definitely, analyses must include an estimation of assets from State and federal funds, the State’s debt service on pension obligation bonds, the Market rate of return, membership contributions, and the rate of inflation, to name just a few variables.

It’s unfortunate that the State of Illinois has been pressured to address its more challenging unfunded liabilities ill-advisedly.  Indeed, it’s true that the “Pension Clause” guarantees that “benefits will be paid because they are contractual obligations of the employer,” even if the money must come out of a state’s general revenues.  Though a sobering inference to draw is perhaps that without a more scrupulous and reasonable solution for the problem from our “elected” legislators and the IEA’s and IFT’s leadership and their actuaries, the State’s general revenue fund may become the last source of income for retirees. 

One thing to remind these stakeholders is that it’s dishonest, illegal, and costly to ruthlessly amend an existing defined-benefit plan until it becomes unaffordable. Furthermore, teachers need to understand that switching to a defined-contribution savings plan offers no retirement guarantee and; therefore, it is a foolish and risky choice to make without having the needed pool of “fully-funded” financial resources of both State and employee contributions, professional investment managers, and several decades of the types of diversified investments that are not available for an individual retirement account.

The Center for Retirement Research (April 2011) maintains that “meaningful defined-benefit plans could remain as a secure base for the typical public employee, and defined-contribution [savings] plans could be ‘stacked’ on top to provide additional retirement income for those at the higher end of the pay scale. Such an approach would ensure a more equitable sharing of risks…” Three states already use a capped defined-benefit plan in combination with a defined-contribution savings plan for new employees; however, these states do not have constitutionally-protected pensions.

On a final note, it’s appalling to accuse teachers of not wanting to contribute to their pension fund when they have consistently subsidized it since 1939, despite the fact that annual contributions have increased seven times but not by more than one percent each time.  Yes, teachers have always paid their share and the State has not, and now some of our elected officials (and self-appointed, greedy businessmen) believe that “current contributions don’t cover the costs, [and] they also want to reduce the amount of the state budget that goes to funding pensions” (Chris Wetterich, Gate House News Service, June 3, 2011).  

-Glen Brown

An Open Letter to All Teachers and Retirees in Illinois

Challenges remain before us. We must never become complacent in our belief that justice exists for those who simply “fight the good fight”; nor should we become indifferent to political power and what exorbitant wealth can buy: a “democracy on the auction block, subject to the highest bidder” (Bill Moyers).  

Although we can infer that legislators will often pass laws for their own advantage, most of us still adhere to the belief that the legislators’ duty to act justly stems from their duty to keep a promise.  Perhaps we should recall that despite their pledges, the legislators’ criteria for justice are their consideration for what is most expedient for them—their re-election, which is concealed often by a counterfeit concern for the general welfare of their constituency and the state’s financial situation.   

Undoubtedly, our pension is not generally viewed as in the best interest of the welfare of a legislator’s entire electorate.  Our pension serves no purpose, except solely for our enviable, financial promise. How should we argue then for the expediency of our rights and benefits?  Is being just to a minority of citizens beneficial as a means for the majority’s attainment of happiness? Conversely, how can we argue that it is morally right that a minority of people should suffer so there is a net gain for the majority?  Should not “the minority [of individuals] possess their equal rights, which equal law must protect” (Thomas Jefferson)? 

There are no easy answers to these questions.  All of us claim certain beliefs as truths. Nevertheless, what we must remember is that we, both retired and working teachers, cannot abdicate our right to representation in a decision-making process that affects only us, and although our entitled pension conferred to us by the State and U.S. Constitutions is not “an inalienable right,” for most of us, it is our final and only source of income.   

It is up to us to secure what we have earned by opposing the wealthy influences of the Civic Committee of the Commercial Club of Chicago and their unethical legislators.  We must defend our dignity with stubborn resolve.  Our primary task is to enlist every teacher and every other public employee in a unification of wills to protect our “alienable” rights and benefits that we deem fair and equitable because they are earned, incentive payments for our life’s labor. This undertaking perhaps forestalls our pro-active and continual engagement with the bankrollers’ marionettes in the Illinois General Assembly. 

Indeed, our fortitude and knowledge give us power, and this power must motivate us to action.  Our pensions will continue to be attacked in the future.  We are intrinsically bound to one another in this regard.  As Martin Luther King eloquently stated, “We are caught in an inescapable network of mutuality, tied in a single garment of destiny.”   Let us also heed King’s message of “direct action” and unify our efforts to confront wealthy interests and unethical legislation; let us “arouse the conscience of not only our colleagues but our communities” by proving that our right to a defined-benefit pension is not to be "diminished or impaired" because it is the solution and template for the preservation of justice and dignity of all workers in Illinois.  

A demanding call for engagement will intensify for us in the future. We cannot remain on the sidelines. "Indifference is not an option," even though “It is so much easier to look away… so much easier to avoid such rude interruptions to our work, our dreams, our hopes” (Elie Wiesel). With concerted determination and indomitable courage, let us meet these challenges before us.  “What is required of us is a new… responsibility…; that we have duties to ourselves [and to others]; that there is nothing so satisfying to the spirit, so defining of character, than giving our all to a difficult task” (Barack Obama). Truly, “We Are One,” but only if we demonstrate a willingness to organize and to act upon principles that we believe are so valuable that to do nothing would be an injustice. 

-Glen Brown

SB 512

“This legislation seeks not only to increase the membership contribution one time, it seeks to put the membership contribution on an escalating scale that is recalculated every three years… It is important to stress that once a member has ceased participation in Tier One, he or she cannot rejoin that tier. If a member fails to make a selection, the member shall participate in Tier-Two. These periodic member choices every three years will result in increasing migration from the Tier-One Plan because of the rising cost. If a large amount of members migrate to the Tier-Three Plan, then contributions will not flow into [Tier-One and Tier-Two plans] and possibly endanger the solvency of these funds” (IFT).

Tier-One members must choose among the following if SB 512 is passed:

·         Remain in Tier-One with a contribution rate of 13.77 percent, an increase of 4.37 percent of salary

·         Select the Tier-Two option with a contribution rate of 6 percent, a retirement age of 67, a reduced COLA and a reduced final average salary (IEA); all service frozen as of June 30, 2012

·         Select the Tier-Three option, a Defined-Contribution Plan (401k), with a contribution rate of 6 percent; all service frozen as of June 30, 2012

Tier-Two membership must choose between the following if SB 512 is passed:

·         Remain in Tier Two with a new contribution rate of 6 percent, a retirement age of 67, a reduced COLA and a reduced final average salary

·         Select the Tier-Three option, a Defined-Contribution Plan (401k), with a contribution rate of 6 percent; all service frozen as of June 30, 2012

New hires will have to choose within six months of the date of employment between the following if SB 512 is passed:

·         Elect to participate in Tier Two with a contribution rate of 6 percent, a retirement age of 67, a reduced COLA and a reduced final average salary

·         Elect to participate in Tier Three option, a Defined-Contribution Plan (401k), with a contribution rate of 6 percent; all service frozen as of June 30, 2012

Sources: The Illinois Federation of Teachers (IFT) and the Illinois Education Association (IEA)

Defined-Contribution Savings Plan v. Defined-Benefit Plan

With a few exceptions, Defined-Contribution Savings Plans were not initially created as retirement vehicles but rather as supplementary savings accounts.

--With a Defined-Contribution Savings Plan (401k, 403b, 457), only your contributions are defined

--A Defined-Contribution Savings Plan shifts all the responsibilities and all the risk from the employer to the employee; thus, your benefit is not guaranteed

--Your benefit is based upon investment earnings

--A Defined-Contribution Savings Plan does not have the “pooled investments, professional money managers, and shared administrative costs” that a Defined-Benefit Plan provides

--Your benefit ends when your account is exhausted

--There are no survivor or disability guarantees

--This plan does allow for portable assets

--Changeover costs to this plan would be significant

--Investment fees are paid by member

--On-going costs would be higher: in 2006, the expense ratio was 1.29%, 4.3x’s higher than a Defined-Benefit Plan; in 2004, the median cost was 1.4%, 4.7x’s higher than a Defined-Benefit Plan

--The State of Illinois will not “save money.”  Most of the State’s obligation to TRS is for contributions not paid during the past several decades; therefore, the deferred cost of underfunding cannot be eliminated by switching to a Defined-Contribution Savings Plan

--Shifting to a Defined-Contribution Savings Plan can raise annual costs by making it more difficult for Illinois to pay down existing liabilities. The plan will include fewer employees and fewer contributions going forward

--Even with Defined-Con­tribution Savings Plan option, States and localities are still left to deal with past underfunding

--“There is a $6.6 trillion deficit between what 401k account holders should have and what they actually have.”

Defined-Benefit Pension Plans are more certain.

--You cannot outlive the benefit

--You are not affected by Market volatility

--Defined-Benefit Pension Plan’s assets are held in trust and managed by professional investors

--Survivor and disability benefits are part of this plan

--This plan encourages a long-term career and stable workforce

--Since most Illinois teachers have not paid into Social Security, it is perhaps their only retirement guarantee

--This plan is the best choice for middle-class retirement

--Teachers with a Defined-Benefit Pension Plan are more likely to be self-sufficient and less likely to need public assistance 

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

--Because teachers understand the value of such a plan, they are willing to give up higher wages

--TRS performance is well-diversified; it is in top ¼ of all public funds for the last 10 years

--Since 1982, the average rate of return has been 9.83 percent

--The costs for this plan are not excessive or expensive: 0.3% of total assets, and these costs are paid for by TRS.

Sources: The Teachers’ Retirement System, the Illinois Federation of Teachers, the National Institute on Retirement Security, Center for Retirement Research at Boston College, National Conference on Public Employee Retirement Systems, and Center on Budget and Policy Priorities    

"What we have already achieved gives us hope -- the audacity to hope..."

"Most working and middle-class... Americans don't feel that they have been particularly privileged... They've worked hard all their lives, many times only to see their jobs shipped overseas or their pension dumped after a lifetime of labor. They are anxious about their futures and feel their dreams slipping away; in an era of stagnant wages and global competition, opportunity comes to be seen as a zero sum game..."  from Barack Obama's Speech on Race, March 18, 2008