Four states that shifted to defined contribution from defined benefit plans did not save money, said new and updated case studies from the National Institute on Retirement Security.
NIRS researchers updated prior case studies on Alaska, Michigan and West Virginia and created a new study on Kentucky. All of the states have switched new employees to defined contribution-only accounts to deal with pension underfunding and rising costs.
According to an NIRS report on the studies, the changes increased overall costs for the states, did not address existing pension underfunding and led to a loss of retirement security for employees.
The case studies covering Alaska, Michigan and West Virginia originally released in 2015 came to the same conclusions.
The fourth state, Kentucky, the most recent to remove new hires from its defined benefit plan, reflects the same findings as the other three states.
In 2013, Senate Bill 2 created a new tier of benefits for plans in the $18 billion Kentucky Retirement Systems, Frankfort. The case study concentrates on the KRS non-hazardous plan, which had a funding ratio of 23.2% as of June 30, 2013, three months after the legislation passed.
As of June 30, 2018, the funding ratio of the non-hazardous plan had dropped to 12.9%. The report cites the primary driver for the plummeting funding ratio as the KRS board continuing to drop the plan’s discount rate every year since, to 5.25% in 2017. In 2014, the discount rate was 7.75%.
The report also cites the plan’s drop in assets as a contributing factor to the declining funding ratio, because member and employee contributions are not sufficient to cover the amount of benefits paid out each year. According to KRS’ comprehensive annual financial reports, the non-hazardous plan had $2.9 billion as of June 30, 2018, down from $3 billion as of June 30, 2015.
“The combination of a large negative cash flow and poor funding makes this a particular problem for a plan already struggling with solvency problems,” the report said.
The updated case studies on Alaska, Michigan and West Virginia show their situations have not improved since the original studies were published in 2015.
In 2006, Alaska moved all new employees into DC accounts to address unfunded liabilities caused in part by inadequate employer contributions. The total unfunded liability had doubled to $12.4 billion at the time of the original study. Despite a $3 billion contribution to the closed plans in 2014, the new report said the combined unfunded liability in 2017 at $6.3 billion was still higher than it was in 2005 ($4.1 billion) before the plans were closed.
In 1997, Michigan closed its overfunded DB system to new state employees, who were offered a DC plan. The original report showed the DB plan’s funded status dropped to about 60% by 2012 but has been improving in recent years. The plan, however, was still only 66.5% funded as of Sept. 30, 2017, the new report said.
In 1991, West Virginia closed its State Teachers’ Retirement System to new employees, who were offered a DC plan. After the DB plan was reopened to all teachers in 2005 when the funding ratio was only 25%, the ratio improved to 50% by 2008, and was up to 70% in 2018.
“The data make it clear that closing a pension plan to new employees increases taxpayer costs and doesn’t close any funding shortfalls,” said Dan Doonan, NIRS executive director and co-author of the report, in a news release. “What’s important to understand is that switching away from pensions starves the plan of employee contributions while the liabilities remain. This can reduce the economic efficiencies of a pension system as the number of retirees grows compared to the number of employees paying in.”
The report is available on NIRS’ website.
Source: Pensions & Investments