Pension Flexibility: Arizona

2011 Retaining Effective Teachers Policy

Goal

The state should ensure that pension systems are portable, flexible and fair to all teachers.

Meets a small part
Suggested Citation:
National Council on Teacher Quality. (2011). Pension Flexibility: Arizona results. State Teacher Policy Database. [Data set].
Retrieved from: https://www.nctq.org/yearbook/state/AZ-Pension-Flexibility-9

Analysis of Arizona's policies

Arizona only offers a defined benefit pension plan to its teachers as their mandatory pension plan. This plan is not fully portable, as the state eliminated the ability to withdraw employer contributions for teachers who choose to withdraw their account balances when leaving the system who were hired after July 1, 2011. It also limits flexibility by restricting the ability to purchase years of service. However, the state is commended for offering immediate vesting and a fully portable supplemental savings plan.

Teachers in Arizona also participate in Social Security, so they must contribute to the state's defined benefit plan in addition to Social Security. Although retirement savings in addition to Social Security are good and necessary for most individuals, the state's policy results in mandated contributions to two inflexible plans, rather than permitting teachers options for their state-provided savings plans.

Vesting in a defined benefit plan guarantees a teacher's eligibility to receive lifetime monthly benefit payments at retirement age. Nonvested teachers do not have a right to later retirement benefits; they may only withdraw the portion of their funds allowed by the plan. Arizona is commended for allowing immediate vesting.

However, Arizona eliminated an important portability provision for most new teachers hired after July 1, 2011. Employees hired prior to that date are allowed to withdraw an employer match on contributions made prior to July 1, 2011, which is rare among defined benefit plans. Arizona teachers with five years of experience who do not want to receive monthly payments at retirement age are allowed to withdraw their contributions and a 25 percent employer match, plus interest. The amount of employer match increases by 15 percent for each year of additional service, reaching 100 percent at 10 years of service. While ideally teachers would be entitled to their full employer contribution at time of vesting, Arizona's scale was moving in the right direction. There is no match, even for these teachers, on contributions made after July 1, 2011. 

Now, new hires and those teachers that retire with less than five years of experience accrue no benefits beyond what they might have earned had they simply put their contributions in basic savings accounts. Further, teachers who remain in the field of education but enter another pension plan (such as in another state) will find it difficult to purchase the time equivalent to their prior employment in the new system because they are not entitled to any employer contribution.

Arizona also recently changed important flexibility provisions, placing limits on teachers' purchase of years of service. The ability to purchase time is important because defined benefit plans' retirement eligibility and benefit payments are often tied to the number of years a teacher has worked. While the state is commended for allowing teachers to purchase time for previous teaching experience and approved leaves of absence, as of July 20, 2011, teachers may not initiate this purchase until they have 10 years of service in Arizona, which makes the purchase cost much more expensive than if calculated earlier in a teacher's career. While the ability to purchase time is valuable to any teacher who enters the system with previous service or needs to take a leave for personal reasons such as maternity or paternity care, the required wait may make the purchase price too expensive for teachers to take advantage of the provision. Additionally, as of July 20, 2011, teachers are limited to purchasing no more than 60 months per type of purchase. These restrictions do not apply to teachers purchasing previously forfeited service in the retirement system.

Arizona is commended for recently creating the Supplemental Retirement Savings Plan (SRSP). The SRSP is optional and allows teachers to contribute income before taxes to investment portfolios. Unlike other supplemental plans, the SRSP has unique restrictions placed on it by the IRS. Teachers only have a two-year window to decide whether to participate, and their decisions are final. Decisions about the manner and amount of participation cannot be changed, and account balances must be distributed upon retirement. Teachers may elect to defer up to 100 percent of pay or $45,000, whichever is lower. Also, employers must choose to join the SRSP, so participation by all local districts is not guaranteed.

Teachers may also have the option of participating in a Supplemental Salary Deferral Plan (SSDP), a 403b or 457, if their employer chooses to participate. The SSDP is more flexible and has fewer restrictions than the SRSP. 

Citation

Recommendations for Arizona

Offer teachers a pension plan that is fully portable, flexible and fair.
Arizona should offer teachers for their mandatory pension plan the option of either a defined contribution plan or a fully portable defined benefit plan, such as a cash balance plan. A well-structured defined benefit plan could be a suitable option among multiple plans. However, as the sole option, defined benefit plans severely disadvantage mobile teachers and those who enter the profession later in life. Because teachers in Arizona participate in Social Security, they are required to contribute to two defined benefit-style plans.

Increase the portability of its defined benefit plan.
If Arizona maintains its defined benefit plan, it should return to its previous policy of allowing teachers leaving the system to withdraw employer matching contributions. The state should also allow teachers to purchase previous teaching experience on the first day of employment and to purchase approved leaves of absence. A lack of portability is a disincentive to an increasingly mobile teaching force.  

Offer an employer contribution to the supplemental retirement savings plan.
While Arizona at least offers teachers the option of a supplemental defined contribution savings plan, this option would be more meaningful if the state required employers also to contribute. 

State response to our analysis

Arizona was helpful in providing NCTQ with facts that enhanced this analysis.

The state noted that select professionals at the three universities in Arizona (Arizona State University, University of Arizona, Northern Arizona University) have always had an option to participate in the University Optional Retirement Plan, which is a defined contribution plan, in lieu of Arizona State Retirement System coverage. This program is sponsored and managed by the Arizona State Board of Regents.

Arizona stated that employees forfeiting service and withdrawing their dollars from the ASRS may roll over their funds to a qualified retirement account, such as an IRA. Also, forfeiting members were credited with 8 percent interest for all contributions made prior to July 1, 2005. For all contributions made after that date, employees are credited 4 percent interest. Both amounts are typically higher than what is currently offered in a basic savings account.

Further, the state maintained that one of the statutory missions of the ASRS defined benefit plan is to be an incentive to attract and retain employees in the public sector, including teachers. The average years of service for retired educators in Arizona are approximately 20 years. Our feedback from stakeholders in the educational community indicates that they continue to view the ASRS defined benefit plan as a valuable part of their overall compensation package.

Last word

Arizona is commended for offering professionals at its universities the option of a defined contribution plan. This option should be extended to public school teachers.

The state does offer interest at a higher rate than current basic savings plans. This is a valuable aspect of the system for any teachers who choose to withdraw their contributions. The former 8 percent rate is similar to offering an employer match. However, interest rates credited to accounts are easily altered, as shown by the state's recent changes affecting all members, and returning to the previous policy of a guaranteed employer match of contributions would offer more security for teachers who withdraw their funds.

Some stakeholders may view a defined benefit plan as a valuable part of their overall compensation, but in addition to concerns about the financial sustainability of these plans (see Goal 4-H), the fact that the choice of other compensation methods is not offered certainly affects the feedback received. Similarly, local districts are not offered a choice of other ways to attract and retain teachers with the funds they must contribute to the defined benefit pension system.

How we graded

Anachronistic features of teacher pension plans disadvantage teachers early in their careers.

Nearly all states continue to provide teachers with a defined benefit pension system, an expensive and inflexible model that neither reflects the realities of the modern workforce nor provides equitable benefits to all teachers. To achieve the maximum benefits from such a plan, a teacher must begin and end his or her career in the same pension system. Teachers who leave before vesting—which is as much as 10 years in some states—are generally entitled to nothing more than their own contributions plus some interest. This approach may well serve as a retention strategy for some, but on a larger scale it fails to reflect the realities of the current workforce. At present, the United States is experiencing an explosion in school-age populations in some states, while other states are experiencing a decline. The nation's workforce needs to be able to respond to these changes. The current workforce is increasingly mobile, with most entering the workforce expecting to change jobs many times. All workers, including teachers, may move to jobs in other states with no intention of changing careers. To younger teachers in particular, a defined benefit plan may seem like a meaningless part of the compensation package and thus fail to attract young talent to the profession. A pension plan that cannot move across state lines and that requires a long-term commitment may not seem like much of a benefit at all.

There are alternatives. Defined contribution plans are fair to all teachers at all points in their careers. These plans are more equitable because each teacher's benefits are funded by his or her own contributions plus contributions from the employer specifically on the individual employee's behalf. This is fundamentally more equitable than defined benefit plans, which are generally structured to require new teachers to fund the benefits of retirees. Moreover, defined contribution plans are inherently portable and give employees flexibility and control over their retirement savings. It must also be noted that defined benefit plans can be portable and fair, if structured as cash balance plans or plans that permit the withdrawal of employer contributions.

Research rationale

NCTQ's analysis of the financial sustainability of state pension system is based on actuarial benchmarks promulgated by government and private accounting standards boards. For more information see U.S. Government Accountability Office, 2007, 30 and Government Accounting Standards Board Statement No. 25.

For an overview of the current state of teacher pensions, the various incentives they create, and suggested solutions, see Robert Costrell and Michael Podgursky. "Reforming K-12 Educator Pensions: A Labor Market Perspective." TIAA-CREF Institute (2011).

For evidence that retirement incentives do have a statistically significant effect on retirement decisions, see Joshua Furgeson, Robert P. Strauss, and William B. Vogt. "The Effects of Defined Benefit Pension Incentives and Working Conditions on Teacher Retirement Decisions", Education Finance and Policy (Summer, 2006).

For examples of how teacher pension systems inhibit teacher mobility, see Robert Costrell and Michael Podgursky, "Golden Handcuffs," Education Next, (Winter, 2010).

For additional information on state pension systems, see Susanna Loeb, and Luke Miller. "State Teacher Policies: What Are They, What Are Their Effects, and What Are Their Implications for School Finance?" Stanford University: Institute for Research on Education Policy and Practice (2006); and Janet Hansen, "Teacher Pensions: A Background Paper", published through the Committee for Economic Development (May, 2008).

For further evidence supporting NCTQ's teacher pension standards, see "Public Employees' Retirement System of the State of Nevada: Analysis and Comparison of Defined Benefit and Defined Contribution Retirement Plans." The Segal Group (2010).