Pensions and risks you might not have thought about

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Teacher pension systems are getting to be a hot topic. After all, ignoring the ill health of pension systems in most places is no longer an option.

In the latest edition of our State Teacher Policy Yearbook, we found the systems in more than 30 states to be seriously underfunded. States are being forced to find solutions, such as big systemic changes recently enacted in New York and Rhode Island, and most recently, a bill in Michigan that would replace traditional pensions for new teachers with defined contribution plans that are similar in nature to 401(k)s.

Opponents to the Michigan bill have been criticizing the consequences of such a move, largely the fact that defined contribution plans shift the risk from the employer (in this case, the state) to the individual employee (the teacher).

But a new CALDER paper from the University of Missouri pension squad is now arguing that defined benefit systems also carry some risk to the employee.

The risk results from the behavior of state legislatures during economic good times--at least in Missouri. After the boom years of the mid-to-late 1990s, Missouri ended up with an extra $1.6 billion in its teacher pension coffers, and instead of saving it for lean times, just sweetened its pension payouts by giving teachers nearing retirement another $100,000 more than they had been originally promised. Newer teachers were also given better deals, but nothing close to $100,000 (more like $10,000 to $20,000).

A sweet deal, if unevenly so, but where does the risk come in? When investment returns plummeted, as they did in a dramatic fashion in 2008, states were forced to become a lot more stingy, and could only meet current pension obligations by putting the burden on the backs of the younger teachers. In Missouri, the legislature ended up significantly upping the contribution rate from 21 percent to its current rate of 29 percent. Bottom line is that younger teachers never got much of a payout during the good times, but anything they did reap was effectively wiped out by the state boosting contributions to the plan in order to continue to meet its obligations.