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Pension check: Public pension study says all is well, but by what standard?

By   /   July 3, 2012  /   No Comments

By Ryan Ekvall | Wisconsin Reporter

MADISON — Hands off the Wisconsin Retirement System.

That’s the message from the people who handle Wisconsin’s $80 billion-plus public pension system study in a newly released study.

In short, the report recommends that no changes be implemented to WRS.

The study, commissioned by the Legislature last year, aimed to answer to big questions:

  • What would the impacts of implementing an optional defined contribution plan — or 401(k) — be to public employees and WRS?
  • How would the system fare if public employees could opt out of retirement contributions, choosing more take-home pay now and smaller pension checks later?

The government agencies assigned to the task — the Department of Employee Trust Funds, their actuaries and lawyers; Office of State Employment Relations; Department of Administration and State Workers Investment Board — determined no change was necessary.

There are “significant issues” with both options, and the “potential for negative effects on administrative costs, funding, long term investment strategy, contribution rates and individual benefits,” the report warns.

The status quo position comes after last week’s Pew Center on the States report that WRS is the best in the nation, 100 percent fully funded.

“Taxpayers and pensioners are getting a great deal with the WRS. Compared to other states, Wisconsin consistently rates among the best performing public pension systems in the country,” Gov. Scott Walker said in a statement.

There’s a caveat, however, not included in Walker’s pronouncement — or the WRS study.

Current Wisconsin taxpayers and pensioners are getting a great deal from WRS, but at the potential peril of future taxpayers.

ETF uses a 7.2 percent discount rate to determine its funding levels, because that’s what it thinks it can return on its assets over the long haul.

Using private-sector pension accounting — where the discount rate matches the guaranteed nature of pension benefits — Wisconsin’s retirement system is underfunded by 40 percent, or $60 billion, according to pension watchers.

“Here we are today’s taxpayers, elected officials, employees. We’re taking all the rewards and passing on the risk,” said Jeremy Gold, a public pension actuary and economist. “When we got higher returns (in the 1990s), we simply lowered tomorrow’s costs. The problem now is we’re lowering today’s costs. If the risk pans out, great. But if those risks go bad, the future is going to pay for it.”

The study concludes switching to a defined contribution plan would have “zero risk to taxpayers,” because it shifts investment risk to the public employee. However, it projects employees will retire with about 1.2 percent less retirement income. It also warns that a defined benefit plan may “negatively affect recruiting qualified employees, especially teachers and protective occupation employees, since they generally have a strong preference for DB (defined benefit) plans.”

Among the bigger concerns, according to the study, is if participants switch to a defined contribution plan, WRS may experience lower investment returns.

Wisconsin’s defined benefit plan works like this: After retirement, former public employees receive pension checks based on a formula — number of years worked, average salary of the last three years worked, and a formula multiplier.

These pension benefits start at a base level and can increase based on larger than expected investment returns. Benefits, by law, can never drop below the base level.

A defined contribution plan is what most Americans are familiar with today. The employee sets aside a percentage of salary into a tax-deferred savings account, which can be invested in any number of ways. Employers typically make a matching contribution of 3 percent to 6 percent.

A 2010 survey by Towers Watson, a global consulting firm, found that only 17 percent of Fortune 100 companies still offer a direct benefit plan, where 67 percent offered them in 1998. The WRS study reported only 45 percent of workers save for retirement at all.

“From the taxpayer perspective, DC (defined contribution) plans are very satisfying. From society more generally, DC plans pass all the risk to the employees. Personally, I would like risk to be accounted for or not taken,” Gold said.

Walker said the state and the WRS must be fiscally sustainable moving forward to ensure that both can meet the “outstanding benefit obligations.”

The governor said he’s confident in the system’s sustainability, thanks in large part to collective-bargaining reforms, which require most public employees to contribute more than 5.8 percent to their pensions. Walker’s reforms did reduce pension costs to taxpayers on the front end, but didn’t address long-term funding issues raised by economists like Gold.

But investments — including equities, hedge funds and other higher risk plans — account for three quarters of the retirement system’s revenue.

“I want to be clear: I am currently not planning to make any substantial changes to the WRS,” Walker said. “However, I will continue to work to ensure that the WRS is fiscally sustainable for both taxpayers and retirees.”

What his or the Legislature’s work may entail remains unclear. Walker’s spokesman Cullen Werwie did not return an email from Wisconsin Reporter requesting specifics. Neither did the state Department of Administration or state Rep. Robin Vos, R-Rochester, co-chairman of the Legislature’s Joint Finance Committee.