On Board Online • March 21, 2011
Editor’s Note: NYSSBA supports the creation of retirement options beyond defined benefit plans. Below, another view.
By R. Michael Kraus
Board President, New York Staten Teachers’ Retirement System
The long-term viability of defined benefit pension plans like those administered by the New York State Teachers’ Retirement System (TRS) has come under much scrutiny of late. The cost to taxpayers for funding public pension benefits has also been questioned.
While I do not expect these concerns to abate anytime soon, I assure you that the defined benefit (DB) model used by TRS is sustainable. Despite the historic market downturn experienced just a few years ago, TRS has remained fully funded. An analysis of state retirement systems by the Pew Center on the States in February 2010 found New York was one of only four states in this position.
In aggregate, states’ systems were 84 percent funded, according to the Pew report. The researchers labeled this “a relatively positive outcome” since most pension experts agree that an 80 percent funding level is indicative of healthy funding progress.
There are several reasons that New York is graded well-above-average in funding, the most important of which is that the state’s employers have made consistent, uninterrupted contributions to the pension funds. While other states have taken “pension holidays,” serving only to imperil the long-term health of these plans, New York has been diligent about its funding obligations.
The numbers speak for themselves. Over a 20-year period ended June 30, 2010, TRS’ investment returns accounted for 86 percent of its income. During that same time period, employer contributions accounted for only 11 percent of income. Over that same 20-year period, TRS took in $14.4 billion in member and employer contributions but paid out $58.9 billion – all while net assets more than doubled, from $30 billion to $76.8 billion. (As of Dec. 31, 2010, our net assets had climbed to $86.2 billion.)
Stated differently, TRS paid out more than four times what it took in over the last 20 years – and the system’s net assets still more than doubled. That certainly speaks to the question of sustainability.
Other factors contributing to our success include:
- The ability to professionally and affordably manage a variety of risk-adjusted portfolios.
- A long-term investment strategy that affords portfolio managers the time needed to rebuild reserves following market downturns like those experienced recently.
- Regular contributions from both employees and employers.
Claims that DB plans like TRS are too burdensome for taxpayers do not take into account the economic efficiencies of DB plans compared to 401(k)-style plans. An exhaustive study conducted by the National Institute on Retirement Security – a non-partisan, non-profit research and education group based in Washington, D.C. – concluded the operating costs of DB plans are nearly half – 46 percent – of the costs of defined contribution (DC) plans such as 401(k) plans.
Part of the reason is that professionally managed DB plans historically have achieved higher investment returns than DC accounts, according to the report, called A Better Bang for the Buck: The Economic Efficiencies of Defined Benefit Pension Plans. A 1 percent improvement in annual investment returns results in a 26 percent cost savings over a person’s working career, according to the report.
Lower costs of DB plans also can be attributed to lower fees, more sophisticated risk-pooling and more diversified portfolios. As a result of these differences, DC plans require $549,903 in assets per employee at age 62 compared to just $342,962 for DB plans.
Public DB plans such as TRS have a particularly strong record. Figures from the National Association of State Retirement Administrators show since 1985 the median public pension plan rate of return was 9.25 percent, and TRS’s rate of return during the same period mirrors that figure (and comfortably exceeds our actuarially assumed rate of return of 8 percent). That performance is impressive considering that the period involved included three economic recessions and four years when median public pension fund investment returns were negative.
These statistics should halt any concerns of a so-called federal bailout of public retirement systems. On the contrary, state and local governments have taken many steps over the last few years to make pension-system changes that will further enhance the long-term sustainability of plans.
Last year, for example, New York instituted a new tier of public employee membership. Among other changes, Tier 5 requires TRS members who joined the system on or after Jan.1, 2010, to contribute 3.5 percent of their salary to TRS for the duration of their working careers. (Tier 1 and 2 members do not contribute; Tier 3 and 4 members contribute 3 percent of salary for their first 10 years of membership or service credit.) Over the long term, the additional revenues generated as a result of this change will have a positive impact on the overall health of the system.
The existing public sector pension model is not broken. To the contrary, the traditional public pension model – the defined benefit plan – is the most economical way to provide reliable retirement security. School board members can be confident that TRS is a secure and proven vehicle for providing retirement for more than 400,000 participants.