The state should ensure that pension systems are portable, flexible and fair to all teachers.
Indiana only offers a type of hybrid pension plan to its teachers as their mandatory pension plan. A hybrid plan has elements both of defined benefit and defined contribution plans. Even though Indiana's plan is a hybrid, it is not fully portable, does not vest until year 10, and does not provide any employer contribution for teachers who withdraw their accounts. It also limits flexibility by restricting the ability to purchase years of service. The state is commended, however, for allowing additional contributions to employee accounts and for offering a fully portable supplemental savings plan.
Indiana teachers are members of the Teachers' Retirement Fund, a traditional defined benefit plan. The mandatory employee contribution, however, is placed into a personal Annuity Savings Account (ASA). Teachers are immediately vested in their ASAs and may make additional contributions up to 10 percent of their salaries once they have five years of service if their employer participates. Teachers may allocate their ASAs between investment funds predetermined by the state, including one fund that guarantees a minimum rate of return. On its face, this is a laudable structure, as it has the portability, control and neutrality of a defined contribution plan. In practice, however, because there is no guaranteed employer contribution to the defined contribution component, the ASAs may still only amount to teachers' own contributions plus simple interest, as do most employee accounts in most traditional defined benefit plans.
Teachers in Indiana also participate in Social Security, so they must contribute to the state's hybrid-styled 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. Non-vested teachers do not have a right to later retirement benefits; they may only withdraw the portion of their funds allowed by the plan. Indiana's vesting at 10 years of service is very late and limits the options of teachers who leave the system prior to this point.
Many teachers will leave the system before they reach 10 years of service. According to a recent report, about 32 percent of employees in Indiana's teacher-covered pension plan vest, meaning that 68 percent do not become eligible for a pension. Non-vested teachers who choose to withdraw their contributions upon leaving receive their ASA account balance. This means that those who withdraw their funds may 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. Vested teachers who leave the system may withdraw their ASA accounts, while still maintaining their right to receive monthly benefits from the defined benefit portion of the pension plan once they reach retirement age.
Indiana limits teachers' flexibility to purchase 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. Indiana is commended for allowing teachers to add up to eight years of out-of-state service at no cost, conditional on the teacher having at least 10 years of service in Indiana. Indiana's plan also allows teachers who do not qualify for no-cost transfer of out-of-state credit and who have one year of service to purchase time for previous teaching experience, up to eight years. The purchase is not credited to the teachers' accounts until they have 10 years of service, so the purchase cannot be used for vesting. While better than not allowing any purchase at all, this provision disadvantages teachers who move to Indiana with more teaching experience. In addition, the mandatory one year of service before purchasing previous service makes the purchase cost slightly more expensive. The state's plan also allows teachers to purchase time for all approved leaves of absence, up to one-seventh of a teacher's total creditable service. This service may count toward vesting. This provision may be a disadvantage to those teachers who need to take more than one year of leave, such as for maternity or paternity leave, within a seven-year time frame.
Indiana is commended for offering an optional supplementary defined contribution plan, known as a Rollover Savings Account (RSA). Teachers may transfer funds from an IRA or other qualified retirement plan into an RSA.
Indiana Teachers' Retirement Fund, Actuarial Valuation Report as of June 30, 2015. Aldeman, C. and Rotherham, A. (2014). Friends without Benefits: How States Systematically Shortchange Teachers’ Retirement and Threaten Their Retirement Security, Bellwether Education Partners.
Offer teachers a pension plan that is fully portable, flexible and fair.
Indiana 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 Indiana participate in Social Security, they are required to contribute to two defined benefit-style plans. Although the state offers a plan that appears to have many features of a hybrid plan, the more portable defined contribution component has no guaranteed employer funding and therefore acts more like a personal savings account.
Increase the portability of its defined benefit plan.
If Indiana maintains its defined benefit plan with a hybrid component, it should allow teachers that leave the system to withdraw employer contributions as part of their ASA accounts. The state should also allow teachers to purchase their full amount of previous teaching experience upon the first day of employment, allow for the purchase of at least one year for each approved personal leave and decrease the vesting requirement to year three. A lack of portability is a disincentive to an increasingly mobile teaching force.
Offer an employer contribution to the supplemental retirement savings plan.
While Indiana at least offers teachers the option of a supplemental defined contribution savings option, it would be more meaningful if the state required employers also to contribute and if there were multiple investment options.
Indiana did not respond to repeated request to review this analysis.
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 takes as long 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 growth 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. However, it must be noted that defined benefit plans can also be portable and fair, so long as they are structured as cash balance plans or plans that permit the withdrawal of employer contributions.