The Honorable Mike Brubaker, Chair The Honorable John Blake ...
The Honorable Mike Brubaker, Chair The Honorable John Blake, Minority Chair Pennsylvania State Senate Finance Committee 168 Main Capitol Senate Box 203036 Harrisburg, Pennsylvania 17120 June 16, 2014 Dear Senator Brubaker and Senator Blake: We appreciated the opportunity to meet with your staff last week, as well as our discussions with eight other state legislators and their staff, and are writing to provide recommendations for your ongoing pension policy and budget discussions. A credible plan to fully fund the pension system remains the most urgent pension policy need in Pennsylvania, and benefit changes for new employees will not significantly address the state’s $48 billion unfunded liability. If, in addition to committing to develop a full funding plan, policymakers choose to pursue a hybrid benefit design for new workers, we suggest careful consideration of proven hybrid models used in other states that are similar in form to HB2135/SB1185, filed in 2010. Specifically, we recommend that policymakers: 1. Maintain a commitment to contributing to the pension system at the required level defined by Act 120, without further reductions (i.e., no further “collar tapering”). We applaud the statements of commitment to full pension payments by many leaders in the General Assembly, particularly in the face of an extremely challenging budget discussion, and urge policymakers to act accordingly in these final weeks of budget discussions. Making these payments would represent an important first step towards fully funding pension promises and begin to address specific concerns around pension funding noted by credit rating agencies. (Attachment 1) 2. Establish a Pension Funding Task Force or Study Commission, via the FY 2014-15 Fiscal Code bill, to evaluate strategies to address the unfunded liability and develop a credible long-term plan during FY 2014-15 in time for the FY 2015-16 budget. As our previous analysis demonstrates, underfunding of the state’s pension system over the past decade has been the primary source of the state’s current pension debt. Even if the state makes the full payment required in accordance with Act 120 this year, the need for a substantial increase in pension contributions – over $1 billion from the state budget alone – will remain. A task force or study commission could be charged with accomplishing two primary objectives: 1) to provide policymakers with further analysis and education on the level of pension funding contributions required in future years to address the state’s pension debt, as well as information on successful funding policies and strategies
Senator Brubaker and Senator Blake Pennsylvania Senate Finance Committee June 16, 2014 Page 2
implemented in other states; and 2) to examine options and potential budget solutions to address the funding gap over time. (Attachment 2) Pennsylvania has a history of using task forces and study commissions to effectively solve major policy problems. Examples in recent years include the Justice Reinvestment Working Group (which Pew supported with technical assistance 1), the Governor’s Transportation Funding Advisory Commission, and the Task Force on Child Protection. An effective task force or study commission on pension funding would require input from the state’s pension actuaries and pension plans, and could be supplemented by experts in pension policy with knowledge of effective funding policies employed by other states. Pew has extensive experience supporting a wide variety of policy task forces, and our pension policy team would welcome the opportunity to provide analytical support for a pension funding task force or study commission in Pennsylvania. Our ongoing research into the pension funding policies for more than 100 large pension plans in all 50 states, for example, could provide policymakers in Pennsylvania with critical insight and actionable recommendations for long-term pension funding. We readily acknowledge that addressing the current funding gap would require difficult choices and budget decisions to fully fund pensions while maintaining funding for core government services. As a result, the task force or study commission would likely require the leadership of legislative and executive branch officials with responsibility for budget policy, as the primary consumers of the pension funding analysis described above. 3. If policymakers choose to modify pension benefits for future employees with a hybrid plan design, consider a simple and proven hybrid model. The most established structure used by states with hybrid plans is referred to as a side-by-side hybrid plan. In its most common form, this design includes (1) a defined benefit pension with a one percent multiplier, and (2) a defined contribution account (i.e., a 401(k)-style component) with combined contributions of between four and one-half and eight percent of salary, with median total contributions for the state plans shown of six to seven percent. This potential plan design would substantially increase the predictability of Pennsylvania’s pension costs for new benefits while addressing some of the concerns of complexity and benefit changes in the current hybrid design included in amendment number 06916 to HB 1353. As we noted in our last letter, the Thrift Savings Plan model for defined contribution investments provides a useful model that includes a limited set of investment options that are professionally managed with low fees. In addition, all of the plans shown provide an annuity option (i.e., converting the career-end account balance into a guaranteed lifetime 1
Pew partnered with the Council for State Governments’ Justice Center to provide the technical assistance.
Senator Brubaker and Senator Blake Pennsylvania Senate Finance Committee June 16, 2014 Page 3
income stream). Attachment 3 provides a summary of the federal plan and the most common examples of hybrid designs in states. Further study of any hybrid proposal would include an assessment of both the impact on retirement security for different groups of public employees and on cost predictability for the state. HB2135/ SB1185, filed in 2010, may provide a helpful reference point for policymakers in Pennsylvania. This legislation proposed a side-by-side hybrid plan for new employees with a one percent defined benefit multiplier, matching the other state plans referenced in Attachment 3, and could be modified to align with the contribution levels and specifics on investment options and annuities described above. We previously provided summaries of our analysis of the current hybrid proposal and in response to requests from your staff and other legislators, will be providing additional benefit illustrations that include analyses of a side-by-side hybrid. We look forward to discussing these recommendations and our additional analyses and welcome any opportunity to work with policymakers in Pennsylvania to help put the pension system on a fiscally sustainable path. David Draine and Katie Selenski will follow-up with your staff and will continue to be our primary points of contact. Please do not hesitate to contact me with any questions via phone at (202) 569-4302 or via email at [email protected]. Thank you,
Greg Mennis Director, States’ Public Sector Retirement Systems The Pew Charitable Trusts
Cc:
Josh McGee, Vice President, Public Accountability Laura and John Arnold Foundation
Attachment 1
%ARC Paid vs 2012 Funded Ratio, plots scale WI –
100%
Funded Ratio in 2012
NC –
NY 80%
– ME CA NJ PA
WV –
60%
PA needs Additional $2B Annually to Get on Track
CT
50% –
KY IL
40% 50%
75%
I
I
80%
95%
100%
2010-2012 Average % ARC Paid
0
Attachment 2
PA Pension Funding Task Force or Study Commission Proposed Framework In order to develop a credible plan to fully fund the commonwealth’s pension promises and address the nearly $50 billion unfunded liability, a special pension funding task force or study commission should be established, via the FY 2014-15 Fiscal Code bill. The objectives of the task force or study commission would be: Objective 1: Direct expert-supported study group to determine exact size of funding gap. Order a study group consisting of the staff of PERC, SERS, and PSERS, supported by experts with comprehensive national knowledge of pension funding policy, to determine the exact size of the unfunded liability and projected future funding requirements under various assumptions. The study group should also assess and summarize effective funding policies in other states and recommend policies that may be appropriate for the commonwealth. The study group will at all times be responsive to the requests of the Pension Funding Task Force. Objective 2: Conduct assessment of potential budget solutions Determine the full range of budget solutions, including spending reductions and revenue increases, and assess the costs and benefits of each reasonable option. The primary goal of the exercise would be to provide the basis and justification for a final budget solution recommendation. Composition: The task force or study commission should be composed of a combination of gubernatorial appointees, members of the General Assembly, and representatives of SERS, PSERS, and PERC. In addition, policymakers could consider including designated seats for private citizens with knowledge of the subject matter or other stakeholders. Recommendations and Reporting: The pension funding task force or study commission would be required to summarize its findings and recommendations, agreed upon by a simple majority, and provide a report to the General Assembly during FY 2015-15, in time to include any changes in the FY 2015-16 budget. For example, the authorizing legislation could require that the task force or study commission report to the General Assembly by March 30, 2015. Use of Experts: In addition to the staff of PERC, SERS and PSERS, the task force or study commission should be supported by actuaries and others with expertise in pension policy and deep knowledge of effective policies employed by other states. However, decisions regarding potential budget reductions and/or revenue increases will require the leadership of legislative and executive branch individuals and entities with responsibility for budget policy. Transparency/Inclusiveness: Meetings of the Task Force would be open to the public with opportunities for public comment, and all documentation produced by the task force or study commission would be made available to the public.
Attachment 3
Summary of the Most Common Model of Hybrid Plans (1% Multiplier for DB ; 6-8% Combined Contributions to DC; Annuity Available for DC) Default Maximum DB Employer cont. employee cont. employee cont. Multiplier to DC to DC to DC
Number of investment options
Annuity offered for the DC?
Federal Government Retirement System
1%
5% matching 3% (optional) (1% mandatory)
Subject to IRS rules
10
Yes
Georgia Employee’s Retirement System
1%
3% matching 5% as of July 1, Subject to IRS (0% mandatory) 2014 (optional) rules
21
Yes
26
Yes
TN Consolidated Retirement System Rhode Island Employee Retirement System (state, local and teachers) Virginia Retirement System
1%
1%
1%
5% (5% mandatory)
2% (optional)
Subject to IRS rules
1% (1% mandatory)*
5% (mandatory)**
5%
22
Yes
5%
21
Yes
3.5% matching 1% (mandatory) (1% mandatory)
*3 percent if the employee is employed in a position that does not contribute to Social Security. **7 percent if the employee is employed in a position that does not contribute to Social Security.
Senator Brubaker and Senator Blake Pennsylvania Senate Finance Committee June 16, 2014 Page 2
implemented in other states; and 2) to examine options and potential budget solutions to address the funding gap over time. (Attachment 2) Pennsylvania has a history of using task forces and study commissions to effectively solve major policy problems. Examples in recent years include the Justice Reinvestment Working Group (which Pew supported with technical assistance 1), the Governor’s Transportation Funding Advisory Commission, and the Task Force on Child Protection. An effective task force or study commission on pension funding would require input from the state’s pension actuaries and pension plans, and could be supplemented by experts in pension policy with knowledge of effective funding policies employed by other states. Pew has extensive experience supporting a wide variety of policy task forces, and our pension policy team would welcome the opportunity to provide analytical support for a pension funding task force or study commission in Pennsylvania. Our ongoing research into the pension funding policies for more than 100 large pension plans in all 50 states, for example, could provide policymakers in Pennsylvania with critical insight and actionable recommendations for long-term pension funding. We readily acknowledge that addressing the current funding gap would require difficult choices and budget decisions to fully fund pensions while maintaining funding for core government services. As a result, the task force or study commission would likely require the leadership of legislative and executive branch officials with responsibility for budget policy, as the primary consumers of the pension funding analysis described above. 3. If policymakers choose to modify pension benefits for future employees with a hybrid plan design, consider a simple and proven hybrid model. The most established structure used by states with hybrid plans is referred to as a side-by-side hybrid plan. In its most common form, this design includes (1) a defined benefit pension with a one percent multiplier, and (2) a defined contribution account (i.e., a 401(k)-style component) with combined contributions of between four and one-half and eight percent of salary, with median total contributions for the state plans shown of six to seven percent. This potential plan design would substantially increase the predictability of Pennsylvania’s pension costs for new benefits while addressing some of the concerns of complexity and benefit changes in the current hybrid design included in amendment number 06916 to HB 1353. As we noted in our last letter, the Thrift Savings Plan model for defined contribution investments provides a useful model that includes a limited set of investment options that are professionally managed with low fees. In addition, all of the plans shown provide an annuity option (i.e., converting the career-end account balance into a guaranteed lifetime 1
Pew partnered with the Council for State Governments’ Justice Center to provide the technical assistance.
Senator Brubaker and Senator Blake Pennsylvania Senate Finance Committee June 16, 2014 Page 3
income stream). Attachment 3 provides a summary of the federal plan and the most common examples of hybrid designs in states. Further study of any hybrid proposal would include an assessment of both the impact on retirement security for different groups of public employees and on cost predictability for the state. HB2135/ SB1185, filed in 2010, may provide a helpful reference point for policymakers in Pennsylvania. This legislation proposed a side-by-side hybrid plan for new employees with a one percent defined benefit multiplier, matching the other state plans referenced in Attachment 3, and could be modified to align with the contribution levels and specifics on investment options and annuities described above. We previously provided summaries of our analysis of the current hybrid proposal and in response to requests from your staff and other legislators, will be providing additional benefit illustrations that include analyses of a side-by-side hybrid. We look forward to discussing these recommendations and our additional analyses and welcome any opportunity to work with policymakers in Pennsylvania to help put the pension system on a fiscally sustainable path. David Draine and Katie Selenski will follow-up with your staff and will continue to be our primary points of contact. Please do not hesitate to contact me with any questions via phone at (202) 569-4302 or via email at [email protected]. Thank you,
Greg Mennis Director, States’ Public Sector Retirement Systems The Pew Charitable Trusts
Cc:
Josh McGee, Vice President, Public Accountability Laura and John Arnold Foundation
Attachment 1
%ARC Paid vs 2012 Funded Ratio, plots scale WI –
100%
Funded Ratio in 2012
NC –
NY 80%
– ME CA NJ PA
WV –
60%
PA needs Additional $2B Annually to Get on Track
CT
50% –
KY IL
40% 50%
75%
I
I
80%
95%
100%
2010-2012 Average % ARC Paid
0
Attachment 2
PA Pension Funding Task Force or Study Commission Proposed Framework In order to develop a credible plan to fully fund the commonwealth’s pension promises and address the nearly $50 billion unfunded liability, a special pension funding task force or study commission should be established, via the FY 2014-15 Fiscal Code bill. The objectives of the task force or study commission would be: Objective 1: Direct expert-supported study group to determine exact size of funding gap. Order a study group consisting of the staff of PERC, SERS, and PSERS, supported by experts with comprehensive national knowledge of pension funding policy, to determine the exact size of the unfunded liability and projected future funding requirements under various assumptions. The study group should also assess and summarize effective funding policies in other states and recommend policies that may be appropriate for the commonwealth. The study group will at all times be responsive to the requests of the Pension Funding Task Force. Objective 2: Conduct assessment of potential budget solutions Determine the full range of budget solutions, including spending reductions and revenue increases, and assess the costs and benefits of each reasonable option. The primary goal of the exercise would be to provide the basis and justification for a final budget solution recommendation. Composition: The task force or study commission should be composed of a combination of gubernatorial appointees, members of the General Assembly, and representatives of SERS, PSERS, and PERC. In addition, policymakers could consider including designated seats for private citizens with knowledge of the subject matter or other stakeholders. Recommendations and Reporting: The pension funding task force or study commission would be required to summarize its findings and recommendations, agreed upon by a simple majority, and provide a report to the General Assembly during FY 2015-15, in time to include any changes in the FY 2015-16 budget. For example, the authorizing legislation could require that the task force or study commission report to the General Assembly by March 30, 2015. Use of Experts: In addition to the staff of PERC, SERS and PSERS, the task force or study commission should be supported by actuaries and others with expertise in pension policy and deep knowledge of effective policies employed by other states. However, decisions regarding potential budget reductions and/or revenue increases will require the leadership of legislative and executive branch individuals and entities with responsibility for budget policy. Transparency/Inclusiveness: Meetings of the Task Force would be open to the public with opportunities for public comment, and all documentation produced by the task force or study commission would be made available to the public.
Attachment 3
Summary of the Most Common Model of Hybrid Plans (1% Multiplier for DB ; 6-8% Combined Contributions to DC; Annuity Available for DC) Default Maximum DB Employer cont. employee cont. employee cont. Multiplier to DC to DC to DC
Number of investment options
Annuity offered for the DC?
Federal Government Retirement System
1%
5% matching 3% (optional) (1% mandatory)
Subject to IRS rules
10
Yes
Georgia Employee’s Retirement System
1%
3% matching 5% as of July 1, Subject to IRS (0% mandatory) 2014 (optional) rules
21
Yes
26
Yes
TN Consolidated Retirement System Rhode Island Employee Retirement System (state, local and teachers) Virginia Retirement System
1%
1%
1%
5% (5% mandatory)
2% (optional)
Subject to IRS rules
1% (1% mandatory)*
5% (mandatory)**
5%
22
Yes
5%
21
Yes
3.5% matching 1% (mandatory) (1% mandatory)
*3 percent if the employee is employed in a position that does not contribute to Social Security. **7 percent if the employee is employed in a position that does not contribute to Social Security.
