Where are we? Where are we going?Pending Changes to the Public Employees' Retirement System (PERS) Prepared by
Sheri Heffelfinger, Research Analyst
Legislative Services DivisionFor the
Committee on Public Employee Retirement Systems
Public Meetings
November 13 and 15, 1997
First things first
Current members of PERS cannot be forced into a new PERS or mandated to accept changes to the current plan ifthose changes would reduce benefits. Members could, however, be given the option of transfering to a new ormodified PERS. Also, any changes to PERS can be made to apply mandatorily to all new members, i.e., employeeswho become PERS members after the changes become effective.
Who is covered under PERS?
The Public Employees' Retirement System (PERS) is the largest of Montana's ten different public employeeretirement systems. It covers more than 28,100 classified employees who work for participating counties, cities,school districts, and state agencies, including the universities. The combined total payroll of PERS-coveredmembers amounts to more than $644 million. PERS provides members with a monthly retirement benefit and hasdeath and disability benefits as well. More than 12,500 retirees and beneficiaries now receive some type of PERSbenefit.
PERS is a "hybrid" of a defined benefit plan
As currently designed, PERS is a defined benefit plan because it promises that members with at least 5 years ofservice and who remain PERS members will receive, at a minimum, a set benefit amount that is defined by astatutory formula. The defined benefit formula is based on a member's total years of service and final averagesalary. The defined benefit formula for PERS is 1/56 x yrs of service x final avg. salary. However, PERS also has amoney purchase feature, which means that each member's benefit is also calculated based on a different formula.The money purchase formula is (member's total contributions + interest) x 2 [which represents the employer'smatch], annuitized, using 8% annuity tables, for the member's lifetime. It is this money purchase feature thatmakes PERS a hybrid plan.
In PERS, after a member's benefit amount is calculated as a defined benefit and as a money purchase benefit, themember will receive whichever provides the higher benefit. In general, the defined benefit formula is better formembers who are older when they start public employment or who make a career of public service. The moneypurchase formula generally provides a better benefit for a member who is a shorter-term employee who leavespublic service with 10 years of service or less.
Contributions are pooled and invested
Under PERS' current plan design, both employees and employers share the plan's costs and each contribute to theplan. The employee contributes a percentage of the employee's salary, while the employer contributes as apercentage of total payroll. The statutorily required contribution rate is currently 6.8% for both the employer andthe employee. Contributions are deposited to a pension trust fund and invested by the Montana Board ofInvestments.
PERS assets, investment returns, and liabilities
For fiscal year 1996, the annual rate of return on the investment of PERS trust funds was 12.6%. (This percentagereflects market value, not the realized rate of return, i.e., cash income to the plan.) As of June 30, 1997, the actuarialvalue(1) of PERS assets was about $1.7 billion, while total liabilities (which includes benefits earned but not yetpayable) amounted to about $1.9 billion. The cost of providing current benefits under PERS is about 10.3% ofPERS payroll. With a total of 13.6% of salaries being contributed to the trust fund, 3.3% of the payroll is availableto pay off (amortize) the more than $200 million in liabilities that are not covered by the current actuarial value ofPERS assets. Therefore, current estimates are that this $200 million in "unfunded" liabilities will be entirely paidoff in 26-years. The 3.3% being used to pay off PERS unfunded liabilities comes from the employer contributions,not from employee contributions.
PERS is healthy and soundly funded
Having an unfunded liability is typical in defined benefit plans for several reasons. First, while the benefit level isknown, the cost of providing those benefits can only be estimated. The unfunded liability may increase or decreasedepending on how well estimates (actuarial assumptions about salary increases, mortality rates, age at retirement,length of service, investment rate of return, etc.) match actual experience. Secondly, certain benefit enhancementscan be made to apply to past service where contribution rates where sufficient only for the lower level of benefits.Also, when ad hoc postretirement adjustments have been made, which provide a benefit increase to retirees withoutthat increase having been pre-funded by contributions, unfunded liabilities have increased.
However, under sound pension policy guidelines, a defined benefit plan is considered healthy and soundly fundedso long as contributions are sufficient to pay off any unfunded liabilities in 30 years or less. PERS, with anamortization schedule of 26 years, meets that standard.
So, why talk about changes?
A defined benefit type of retirement plan provides a secure and predictable benefit for members who retire underthe plan, but this type of plan has some drawbacks. A defined benefit plan can be seen as paternalistic, that is,characterized by a "father knows best" mentality where the Legislature, the Retirement Board, and the Board ofInvestments make the decisions while the employee has no choice and no responsibility. The responsibility for thepension plan's design and the risk on the investment of pension fund assets falls not on the plan members, but on thegovernment employer, who is funded by tax dollars. Under the defined benefit plan arrangement, even if PERS ispoorly funded or if investments are poorly managed, the member's benefit remains secure. The government will bethe party held responsible to make up the shortfall in PERS assets.
Some plan members may be opposed to this arrangement and believe that employees should have the responsibility,and the risk, associated with managing the pension funds. Some may argue that employees could do a lot better than"big brother" if employees would be given more choice in investing their contributions and were not locked into aplan that may or may not benefit them in their particular circumstances.
These various views and concerns have lead to the current examination. These November public meetings areintended to explore the following questions: How satisfied are PERS members with the current plan design? Whatare plan members' goals and priorities with regard to risk and responsibility? Can plan design changes be made tobetter reflect the goals and priorities of all parties, (i.e., employees as well as employers, the legislature, and theretirement board? The Committee on Public Employee Retirement Systems (CPERS) is looking for the answers tothese questions.
What changes might be considered?
The alternative to a defined benefit plan such as PERS is a defined contribution plan, or a "hybrid" that is inbetween the two plan types (keeping in mind that PERS is already somewhat of a hybrid though it still provides adefined benefit). As previously mentioned, under a defined contribution plan, contribution amounts are defined andare made to individual accounts. The benefit amount for each member will vary and will depend on totalcontributions to the account and the investment return earned.
Under a defined contribution plan, employer contributions are not pooled (as under a defined benefit plan). Instead,employer contributions are made to each member's individual account. The employer has no financial responsibilityor obligation beyond making a contribution that member's account. However, a defined contribution plan's designfeatures, such as withdrawal provisions, rollover or transfer options, investment choices, etc., will still depend onhow the employer structures the plan and what company or board manages the investment of a member's pensionfund assets.
Although PERS is already a hybrid, i.e., a defined benefit plan with a defined contribution feature (the moneypurchase provision), PERS could be changed to function more like a defined contribution plan where memberswould have more choices. These choices might encompass members determining how much money to contribute tothe plan and how contributions are invested. Furthermore, instead of requiring members to keep their contributionsin PERS in order to qualify for a retirement benefit, changes may be considered to allow members to take fromPERS a portion of the employer's contribution when that member terminates public employment.
Change will likely alter costs and benefit levels. Some changes could increase the cost of benefits in PERS as wellas increase PERS unfunded liabilities and undermine the current plan's solvency. However, other changes may beless costly or could save money in the long run. Thus, it is important that there be a thorough examination of costsand the advantages and disadvantages of any proposed changes.
House Bill No. 90
The changes to be considered must be guided by the provisions of House Bill No. 90. This bill, passed by the 1997Legislature, directs CPERS to modify or replace the current PERS. The bill requires that the new or modified planmust provide for the following:
more portability of contributions (i.e., more ability by PERS plan members to transfer, rollover, or withdrawcontributions in PERS);
more plan flexibility to allow members choices in the areas of investments, contribution rates, and the form ofbenefit payout; and
a specified benefit in retirement (i.e., a plan component that still includes a defined benefit).
To help CPERS consider a range of options for fulfilling the directives of HB 90, CPERS hired a consulting firm.The consulting firm, Actuarial Sciences Associates (ASA), has the expertise and experience to objectively assessemployee, employer, legislative, and board priorities, develop options, analyze costs and impacts, and providerecommendations.
Public meetings to be followed by focus groups
The November 13 and 15, 1997, public meetings are the first step in assessing the goals and priorities of PERSmembers. These meetings are intentionally general and ask for a broad range of comment on PERS. CPERS and theconsulting team need to know how satisfied PERS members are with the plan as it is currently structured, what areplan members' priorities, and what changes plan members believe should or should not be considered.
Following the public meetings, the consulting team will be organizing focus groups for employees as well asemployers. Also, the consultants will meet with legislators and retirement board members to assess their policypriorities related to PERS.
Options, recommendations, and more opportunities for public comment
The consultants will present to CPERS on February 5, 1998, at the State Capitol (see note below), a reportsummarizing their assessment of plan member, employer, legislative, and board member priorities and goals, arange of options for changing PERS along with an analysis of the advantages and disadvantages of each option, andthe consultant's recommendations. This meeting is open to the public and CPERS will again welcome publiccomment on the consultant's recommendations.
Based on the consultant's recommendations, CPERS will identify what changes it would like to seriously consider.Then, the consultant will do an actuarial analysis ("crunch the numbers") to identify each change's cost and impacton plan members and employers. In other words, CPERS will get from the consultant the bottom line on the policyimplications and ultimate price tag. The consultant's analysis of costs and impacts will be presented in a publicmeeting on April 2, 1998, at the State Capitol (see note below). Again, this meeting, too, will present anopportunity for public comment.
The final step in this process is for the consultant to recommend to CPERS a plan for implementing the adoptedchanges and to set out a time line and provide cost estimates for the implementation. This plan is to be presented toCPERS on June 4, 1998, at the State Capitol (see note below). It, too, is a public meeting and public comment isinvited.
CPERS will conduct two additional meetings prior to the convening of the 1999 Legislature, during which CPERSwill introduce its final recommendations and implementation plan for changes to PERS.
For more information or to be added to the mailing list
For more information or to be added to the CPERS mailing list for meeting notices, please contact SheriHeffelfinger, Legislative Services Division, Room 138, State Capitol, Helena, MT 59620, telephone 444-3596,e-mail sheffelfinger@mt.gov, or state inter-agency ZIP mail.
[NOTE: To allow more time to conduct focus groups and to gather information, the dates for meetings listed inthis handout are in the process of being changed. We will publish new meeting dates as soon as they have beenset.]
1. The term "actuarial value" refers to the value of assets after an actuary has smoothed the market value of assets over 4 years. This lessens theimpact of market swings.
