Costs still unclear for Weatherford's pension reform
A report released Friday concludes that Florida would quickly recoup savings if House Speaker Will Weatherford succeeds in getting his pension reform plan approved.
But the report also makes some major assumptions and leaves out potential costs that raise questions about the accuracy of those projections and underscores just how tricky it can be to determine what it will cost to overhaul the Florida Retirement System’s $136 billion pension plan.
In other words, those who hoped the report would resolve the issue, think again.
Since becoming House Speaker, Weatherford has made it one of his top priorities to prohibit, after Jan. 1, 2014, new employees from enrolling in the pension plan and require them instead to choose defined contribution plans, where it’s up to each employees to choose an investment strategy.
Weatherford argues that the pension plan’s guaranteed benefit is a drag on state finances and could require a future massive bailout to remain solvent. The fund represents 145,000 current and future beneficiaries, who including state workers, teachers and college and local government employees.
Weatherford had been hoping he’d get an estimate on Feb. 15 from Milliman, a Vienna, VA actuarial firm about how much his reform proposal would cost. But the estimate didn’t compare the costs to keeping the pension system the same, so Milliman had to take another two weeks to make that comparison.
Friday’s report by Milliman, a Vieanna, VA actuarial firm, concluded that by the second year of switching from a pension system to a defined contribution system would produce $12.2 million in savings. The state would lose money, but not as much if it stayed with the pension system, the report states. In 20 years, those savings would grow to $2.1 billion.
Experts at the Capitol were scrutinizing the report Monday, and many people were waiting until they knew more before commenting. Weatherford’s spokesman, Ryan Duffy, said staff members in the House was still reviewing it.
Many actuaries also said they needed time to look at the 136-page study more closely. Among them was Bradley Heinrichs, CEO of an actuarial firm in Fort Myers. He said he did note that Milliman makes a major assumption that the pension system will continue to earn an average of 7.75 percent from its investments. That could be optimistic, and hides certain costs that would require contribution rates to climb, Heinrichs said.
“While every plan is different, as a rule of thumb, lowering the investment return assumption by 1 percent can cause contribution rates to increase by around 10 percent of payroll,” Heinrichs said.
One reason the investment return could fall from its current 7.75 percent assumption -- which is set by the Senate, House and Governor’s office -- is that the number of people enrolled in the pension plan will fall because new members will be prohibited from joining.
As the active population shrinks and the retired population continues to grow in the pension plan, benefit payments will exceed the contributions, requiring future changes in the plan’s assets so that it has enough cash for benefit payments. That would decrease the number of long-term investments the plan could make, which typically have higher returns.
A 2009 paper published by Milliman says as much. It concluded that defined contribution plans in Nebraska and West Virginia had lower returns than defined benefit pension plans, which it called more efficient.
“The biggest drivers of the cost advantages in (defined benefit) plans are longevity pooling and enhanced investment returns that derive from reduced expenses and professional management of assets,” it concluded.
In addition, Milliman mentions the risk associated with 401(k)-plans in the report it released Friday, but doesn’t calculate the associated costs.
For instance, it mentions that when pension plans come up short, then the employer (be it the state or a local government or agency) must pay the shortfall. But in 401(k)-plans, the report stated, ‘“if assets earn less than assumed, since contribution levels are usually fixed, the primary impact is that ...expected retirement benefits are less.”
But if retirement benefits help pay for the cost of growing old, who pays if those savings don’t cover those costs? How much would it increase Medicare or Medicaid costs?
Those costs aren’t tallied by the Milliman report.
“Shifting to a defined contribution plan produces lower retirement savings for workers like firefighters, police officers and teachers,” said Alan Stonecipher, director of the Florida Retirement Coalition. “They don’t look at the costs to Medicaid or food stamps. So it’s another incomplete. This raises more questions than it answers.”