Public Employees Being Asked to Bear More Pension Burden, Risks

The burden and risk of state pension plans are increasingly being shouldered by employees, according to the National Association of State Retirement Administrators (NASRA), which reported that more than 70% of US states raised rates for employee contributions in the past 10 years.

According to an issue brief published by NASRA, the number of state and local government employees required to contribute to the cost of their pension benefit has grown in recent years as most states that previously administered non-contributory plans now require workers to contribute. It also said that many employees are also being required to contribute more toward the cost of their retirement benefit than in the past.

“A growing number of states are exposing employee contributions to risk,” said the brief, “either by tying the rate to such factors as the plan’s funding condition or cost, or by requiring participation in hybrid or 401k-type plans as a larger component of the employee’s retirement benefit.”

The main types of risk in a pension plan relate to investments, longevity, and inflation, and NASRA said employees who are required to contribute toward the cost of their pension assume part of one or more of these risks, depending on the design of the plan.

The brief said that since 2009 more than 35 states have raised the required employee contribution rates. As a result, NASRA said that the median contribution rate paid by employees has risen to 6% of pay today from 5% in 2011 for employees who also participate in Social Security, while it has remained unchanged at 8.0% for those who do not participate in Social Security. Approximately 25% to 30% of employees of state and local government do not participate in Social Security.

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Contribution requirements for certain employee groups in states such as Missouri and Florida, which previously did not require some employees to make pension contributions, were established in recent years for newly hired employees, existing workers, or both. And employees hired in Utah before July 1, 2011 are not required to contribute to the cost of their pension benefit, however, those hired after that date must contribute if that cost exceeds 10% of pay, or 12% for public safety workers. NASRA said that because the cost of the plan remains below those thresholds, the Utah Retirement System remains non-contributory for most plan participants.

Most employee contribution rate increases approved in recent years affected all workers regardless of when they were hired, such as in Virginia and Wisconsin where new and existing employees are now required to pay contributions that previously were made by employers in lieu of a salary increase.

The brief also said an increasing number of states are using plans that use variable employee contribution rates that can change depending on the pension plan’s actuarial condition or other factors. Changes made in recent years in Arizona, California, and Connecticut require some workers to pay at least half of the normal cost of the benefit, which can result in a variable contribution rate. And recent pension reforms in Michigan require newly hired school teachers to pay one-half of the full cost of the plan, said NASRA.

Meanwhile other states are placing a growing number of public employees in hybrid retirement plans that combine elements of defined benefit and defined contribution plans, and which transfer some risk from the employer to the employee. For one type of hybrid plan, known as a combination defined benefit-defined contribution plan, employees in most cases are responsible for contributing all or most of the cost of the defined contribution portion of the plan.

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Tags: employee contribution, NASRA, Pension, Risk

The accounting deficit of defined benefit pension plans for the UK’s 350 largest publicly traded companies widened by £16 billion ($19.7 billion) hitting a two-year high of £67 billion as of Aug. 30, from £51 billion at the end of July, according to consulting firm Mercer. The increased deficit lowered the plans’ aggregate funding level to 93% from 94%.

It was the second straight month that the deficit has risen and was more than five times larger than the £3 billion increase reported in July. During the month, liability values increased £30 billion to £914 billion compared with £884 billion at the end of July. At the same time, asset values increased £14 billion to £847 billion from £833 billion at the end of July.

“August saw the largest monthly increase in the deficit in 2019, bringing it to highs unseen for nearly two years,” Maria Johannessen, a partner and head of corporate consulting at Mercer, said in statement.

Johannessen said under-hedged plans took the biggest deficit hit, and that the overall increase was largely driven by a reduction in corporate bond yields. The liability values surged by more than 3% in just one month.

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“As political uncertainty is likely to escalate,” Johannessen said, “stakeholders need to take an active approach to monitoring the funding position and spotting opportunities to manage risks.”

Mercer warned that a no-deal Brexit has become more likely due to UK Prime Minister Boris Johnson’s decision to prorogue Parliament, which closes Parliament for five weeks. The firm said that this could result in a potential sterling crisis and a spike in inflation.

“Trustees and sponsors would be wise to prepare for political volatility and very difficult financial markets,” Charles Cowling, an actuary at Mercer, said in statement. “Combined with downward pressure on interest rates, as President Trump increases pressure on the Federal Reserve to cut rates far more aggressively, the months ahead could see serious implications on scheme finances and risk.”

Cowling also said that trustees will be nervous over how employer covenants are affected by a no-deal Brexit.

“Against a very uncertain backdrop, trustees will have real challenges in making effective decisions,” said Cowling. “It’s important that they examine the risks they are taking and work through various scenarios to establish whether their schemes face material dangers.”

In particular, he said trustees should look at the investment risks they are running, and should consider putting in place “pragmatic mitigating measures and investment de-risking at the earliest opportunity.”

Mercer’s data relates to approximately 50% of all UK pension plan liabilities and analyzes pension deficits calculated using the approach companies have to adopt for their corporate accounts.

Tags: Corporate Pension, Defined benefit (db) pension plans, FTSE 350, Mercer, UK