BGR Cuts Paths for Pension Reform in the Metro Area

• Bureau of Governmental Research

Overview

Table: Rising Costs for Government EmployersIn Reducing the Cost of Tomorrow: A Practical Guide to Pension Reform in Jefferson, Orleans and St. Tammany Parishes, BGR explores the changes to public pension benefits policymakers can make to reduce the costs and risks associated with the pension plans. The report is the fourth installment in a series of BGR pension reports.

From 2009 to 2016, the public’s pension plan costs increased for all but one of the plans in which the governments in Jefferson, Orleans and St. Tammany parishes participate. In the City of New Orleans, pensions absorb 16 cents of every dollar citizens send to the general fund – a pot of money that also must be used to pay for basic services. In many cases, citizens are helping to pay for public sector retirement benefits that are far more generous and secure than their own. In fact, in the eight-parish New Orleans area, roughly half of the private sector workers lack access to any form of employer-supported retirement plan, much less a government-style defined benefit plan.

The fourth part in a series, Reducing the Cost of Tomorrow examines an array of potential reforms to the 18 public pension plans in which local government employers in Jefferson, Orleans and St. Tammany parishes participate. It advances the case for more efficient use of taxpayer dollars.

Paths to Reform

Options to Reform Defined Benefit Plans

Reducing the Cost of Tomorrow explores in detail the changes to public pension benefits policymakers can make to reduce the costs and risks associated with the pension plans. Among the options BGR sets forth:

  • Require employees to make contributions that at least match the national medians for public pension plans.
  • Set multipliers – the rate at which retirement benefits accrue – no higher than the national medians.
  • Consider implementing a longer final average compensation period and cap year-over-year salary increases for benefit calculation purposes at 10%.
  • Establish benefit caps on a sliding scale based on an employee’s pre-retirement income – generally targeting 70% income replacement.
  • Establish a fixed retirement age more in line with the normal retirement age under Social Security (with exceptions).
  • Eliminate publicly-funded cost of living adjustments.
  • Eliminate deferred retirement options.
Alternative Plan Structures

Alternatively, policymakers can reduce the costs and risks associated with public pension plans by moving to a different model entirely:

  • Defined contribution plans, the predominant private-sector model, shift the investment risks to employees.
  • Hybrid plans combine defined contributions with a reduced defined benefit component so that employers and employees share in the risks.
  • Cash balance plans function like defined contribution plans but provide a guaranteed minimum return – a floor – on employee contributions.

Table 6 from the report provides examples of the differences in employer costs as a percent of payroll under a defined contribution plan versus the existing state and local defined benefit Plans. In most cases, employers pay significantly more for a single year’s worth of benefits under a defined contribution plan (the normal cost). But the costs to employers of providing a defined contribution plan pale in comparison to the total amount employers owe in fiscal 2016. That year, employers will pay up to 10 times the normal cost because of past underfunding and the risks they’ve taken on by offering a defined benefit plan. In other words, if history is a guide, a defined contribution plan would be a much cheaper option in the long run.

Comparison of 2016 Employer Costs in Defined Benefit vs. Defined Contribution Plans

Conclusion

In looking to craft pension reforms, citizens and policymakers should keep in mind the vast gulf between public and private sector employees when it comes to retirement benefits. It is critical that reformers strive to provide public employee benefits that, as part of a total compensation package, will attract and retain high quality employees – while also ensuring that the level of benefits and their costs are fair to taxpayers.

Defined benefit pension plans for public employees in Louisiana as currently structured are in desperate need of reform. In most cases, the multipliers exceed the national median by wide margins, significantly increasing the rate at which employee benefits accrue and significantly reducing the amount of time that an employee needs to work in order to receive 100% of pre-retirement income.

It remains true that the Plans in which local governments participate are more generous than national public sector medians in most respects. That generosity has contributed to ballooning costs – with employer contributions as high as 118% of total employee pay – threatening state and local government budgets. In other words, the cost of yesterday’s pension promises can diminish government’s ability to provide public services today and in the future.

Both public employees and private citizens alike bear the cost of past generations’ pension excesses. Policymakers ought to consider alternative pension plan designs that, in the long run, halt this generational cost transfer.

These plan designs would shift some, if not all, risk away from public employers. While employees take on additional risk, they also would enjoy greater plan portability. Under a defined contribution or cash balance plan, changing jobs would not mean having to start saving for retirement all over again. These plan designs may also better reflect the evolving expectations and career patterns of the work force.

At a minimum, policymakers should pursue reforms to the existing defined benefit offerings to bring them to a more reasonable level. That implies lowering multipliers to at least the national public sector median, raising the minimum retirement age, eliminating perks such as lump sum payment programs, limiting the income replacement to a need-based percentage of an employee’s salary, implementing a cap on benefits and leaving it to employees to self-fund cost of living adjustments.

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