Smoke and mirrors: Part II
Defined-contribution plans offer retirees valuable flexibility
- Monday, January 3, 2011
With much anticipation, a new report prepared for the Nevada Public Employees' Retirement System (PERS) was released last month, detailing the potential impact of shifting public employees in the Silver State to a defined-contribution retirement plan — similar to private-sector 401(k) accounts.
Curiously, however, the report either fails to consider or blatantly misrepresents many important aspects of defined-contribution retirement plans that would be of obvious benefit to many public employees. Foremost among the relative benefits of a defined-contribution retirement plan is that this type of plan offers true asset ownership to its participants.
Under the current, defined-benefits pension scheme, participants are promised monthly payments based on a percentage of their highest-earning years, but they have no meaningful ownership rights over the assets accumulated by PERS on their behalf. If a retiree dies at an early age, for instance, the retiree forfeits those assets. This represents a potentially great financial loss for retirees who have contributed significant sums into PERS accounts over the course of a career.
PERS' report implicitly recognizes this fact when it says, "Members being promoted, terminating, retiring, becoming disabled, or dying at rates and ages other than expected cause actuarial gains and losses for a [defined-benefits] plan." In other words, PERS' financial standing benefits when its members die early because they have no claim over assets paid into the system.
Defined-contribution plans, on the other hand, give tangible ownership over those assets to retirees to dispose of as they please. A key concept to consider is that retirement savings, under a defined-contribution plan, are heritable. The retiree maintains control over those savings and can pass them on to loved ones in the event of death. This is not the case currently, because ownership over PERS' assets is collectively, and not individually, controlled.
Instead of acknowledging this fact, PERS' new report spins the merits of individual asset ownership into a negative. While ignoring the losses incurred by retirees who die early, the report focuses exclusively on retirees who lead abnormally long lives — highlighting the potential benefit they might receive by accumulating retirement payments in excess of their savings. The report says that, under a defined-contribution plan, these retirees would bear the "demographic risk" of outliving their savings. This phrasing is particularly curious, seen from the standpoint of all the private-sector workers who have to plan for their own retirement.
The report does recognize (although not until the final pages) that:
...the current [defined-benefits] plan provides small benefits to young, mobile employees...[because]...benefits are not portable in the sense that the accrued benefit can be transferred to a personal retirement account or a subsequent employer's account upon termination of employment.
This lack of portability can create unproductive "job lock" that prevents workers from seeking more gainful opportunities elsewhere. Under a defined-contribution retirement plan, this is not an issue because workers, maintaining their own, private savings accounts, can contribute toward that account wages paid by any employer.
Individual retirement accounts under a defined-contribution retirement system bestow an additional benefit on their owners: the flexibility to conform to each individual worker's lifestyle preferences and unique savings plans.
Every worker conceives of retirement differently. Some doubtlessly like receiving structured, fixed-income, monthly payments. Others might prefer immediate and complete access to their savings in order to have the freedom to purchase a retirement home or achieve some other life-long dream. Clearly, some people are willing to make such purchases later in life even when it means they must take on new part- or full-time employment.
Yet others might prefer more or less aggressive investment strategies, consciously weighing the risk of loss against potential returns. As the PERS report admits, "individuals with finite careers and life spans have different risk profiles." An important benefit of individualized retirement accounts is that retirees can plan according to their own tastes. And the freedom to make such decisions is essential to maximizing each individual's retirement satisfaction.
However, the PERS report derides individuals who may choose to withdraw their earned financial benefits from their retirement accounts, referring to this as "leakage." Perhaps PERS administrators' preference for delayed consumption is no coincidence, since the system's financials stand to benefit if retirees die with assets still trapped in the defined-benefits system.
Public employees in Nevada and their families could benefit greatly from several aspects of a defined-contribution retirement program, but this latest PERS report cynically glosses over those features.
In addition to eradicating taxpayers' cavernous unfunded liabilities, a move to a defined-contribution system would provide retirees with heritable assets that are portable — providing flexibility that allows the unique needs of each individual worker to be met.
PERS' neglect and misrepresentation of these issues is a disservice to both retirees and taxpayers.
Geoffrey Lawrence is a fiscal policy analyst at the Nevada Policy Research Institute. For more visit http://npri.org/.