The state should ensure that excessive resources are not committed to funding teachers' pension systems.
As of September 30, 2009, the most recent date for which an actuarial valuation is available, Michigan's defined benefit pension system for teachers is 78.9 percent funded and has a 27-year amortization period. This means that if the plan earns its assumed rate of return and maintains current contribution rates, it would take the state 27 years to pay off its unfunded liabilities. While its amortization period meets regulatory benchmarks, Michigan's funding level is just below the conventionally recommended minimum funding level of 80 percent. The state's system is just short of being financially sustainable according to actuarial benchmarks.
However, Michigan commits excessive resources toward its teachers' defined benefit retirement system. The current employer contribution rate to the defined benefit plan of 10.1 percent is too high, in light of the fact that local districts must also contribute 6.2 percent to Social Security. Participating employers are required to contribute at an actuarially determined rate. While this rate allows the state to pay off liabilities within 27 years, it does so at great cost, precluding Michigan from spending those funds on other, more immediate means to retain talented teachers. The mandatory employee contribution rate to the defined benefit plan of 3 percent on income up to $5,000, 3.6 percent on the next $10,000 of income, and 6.4 percent on all compensation above $15,000 is reasonable.
Michigan closed its defined benefit system to new members as of June 30, 2010. All teachers hired on or after July 1, 2010 are entered into the new hybrid system with a defined benefit component (which has the same benefit multiplier as the closed defined benefit system) and a small defined contribution component. Funding levels and employer contribution rates to the defined benefit component are not yet reported. Unfortunately, teachers now must commit excessive resources to the defined benefit component.
The mandatory employee rate to the defined benefit component of "about" 9.4 percent is too high, in light of the fact that teachers must also contribute 6.2 percent to Social Security. Additionally, this may leave teachers with very little flexible income to contribute to the optional defined contribution component. Employees are automatically enrolled to contribute 2 percent of salary; however, they may elect to increase or decrease this amount. Employers contribute a 50 percent match up to a total of 1 percent.
Ensure that the pension system is financially sustainable.
While the state is commended for closing its financially unsustainable defined benefit system, the remaining members and unfunded liability still place a burden on local districts. The state would be better off if its system was over 95 percent funded. However, Michigan should consider ways to improve its funding level without raising the contributions of school districts. In fact, the state should work to decrease employer contributions. Committing excessive resources to pension benefits can negatively affect teacher recruitment and retention. In addition, Michigan should ensure that its new system is financially sustainable without demanding excessive contributions from its teachers.
Michigan recognized the factual accuracy of this analysis.