The Internal Revenue Service has issued rules that will possibly lower pension payouts for some retired Connecticut state employees, or force others to pay money back to the state retirement system, according to a memorandum from the Office of the State Comptroller. In some cases, the pensioner may see an ...
State Should Switch to 401k to Keep Up With Younger Workers
Recent news reports confirm what many have suspected for some time — young people are leaving Connecticut.
How does this relate to pension debt? As a current graduate student who would like to stay in Connecticut after I finish school, I’ll explain.
The state has accumulated billions of dollars of pension debt, and now it is trying to figure out how to pay that debt off.
Recently, Governor Malloy proposed several changes to the state employee and teacher pension plans. These changes were aimed at reducing the total amount owed to current and future retirees as well as the annual cost of paying for these promises, which will rise drastically under the current plan that pre-dates Malloy.
Malloy’s plan attempts to smooth out the cost of paying for these promises, but the effect is to push payments into the future because making them today would be difficult. As a result, the state would pay less over the next twenty years, but pay more over the next forty.
That means my generation — and our children, and likely even our grandchildren, will be paying for mistakes made in the 1970s and 1980s, before they were even born. This should raise ethical as well as fiscal concerns.
All sides of the political spectrum express disappointment in the low-levels of citizen participation, especially among the young. Yet, pushing responsibility for past promises onto younger generations is more dispiriting than inspiring because it will limit their choices for decades.
Before spreading out the costs of past pension promises, we need to have a discussion about whether this is the message we want to send to future generations.
Currently, the fight over how to the fund state employee pensions is dominated by actuaries and specialists, but beneath the technocratic terminology is a moral question that involves all of us.
This is not to say that the fight over actuarial assumptions isn’t important. The assumptions we make, from the predicted average life span of retirees to the predicted rate of return the pension fund will earn, are netted out to create a guess about how much we owe today.
Small changes in these assumptions can create very different outcomes. As a result, an unscrupulous politician can hide liability by manipulating assumptions.
For years the state used an assumed 8.5 percent interest rate, recently lowering it to 8 percent. However, the average rate of return since 2000 has been about 5.5 percent.
This high assumption is defended as the “norm” for state and local governments nationally. This is not a comforting fact, and probably plays a large role in the collapse or struggle of government pensions across the country.
Government regulations for pensions are actually far stricter for the private sector, limiting the assumed rate to 4.5 percent. If the government held itself to its own standards, the annual cost of pensions would be much higher.
What is clear is that the state’s estimate of $26 billion of pension debt is low — probably very low.
Moving forward, we have to pay off our current pension liability — it’s merely a matter of when and who pays it. However, this crisis is neither unique nor unexpected and is likely to repeat itself.
Pension costs are difficult to predict, particularly when it is politically advantageous to misrepresent the cost. However, retirement planning is important and an argument could be made that people don’t invest enough on their own. Luckily, the choice is not between pensions and no retirement assistance — a 401(k) plan offers the best of both worlds.
A 401(k) plan doesn’t generate long term liabilities like pensions, so this removes the possibility of underfunding or incorrect actuarial assumptions. Put another way, if the state had offered 401(k) plans to begin with, this crisis wouldn’t exist. This is because the cost of a 401(k) is paid in the present rather than the future.
These types of retirement plans are also more appealing than pensions to young professionals. Pensions require a long vesting period, typically around ten years. However, very few young people expect, or even want, to work in the same job for a decade.
They are also more flexible than pensions. While pensions are tied to an employer, 401(k) plans follow the employee from job to job, allowing them to build wealth over their working years regardless of where they are or who they work for.
The single, best change the state could make when it comes to state employees’ retirement is to switch to 401(k) plans for new hires and to phase out pension plans.
Thurston Powers is a student at the Robert F. Wagner Graduate School of Public Service at New York University. He is a resident of Greenwich.
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