The state should ensure that pension systems are neutral, uniformly increasing pension wealth with each additional year of work.
Wisconsin's pension system offers two ways to calculate benefits; a traditional formula system and a money purchase method. While the money purchase method is neutral, the traditional formula is not, meaning that each year of work does not accrue pension wealth in a uniform way until teachers reach conventional retirement age, such as that associated with Social Security.
When teachers in Wisconsin retire, their benefits are calculated using both the traditional formula and the money purchase method, and they are entitled to receive whichever value is higher. The value of the money purchase benefit is based on the balance of a member's WRS account, which includes their contributions and the employer's required matching contributions, plus investment earnings. This account is actuarially converted into a monthly benefit, or the money purchase benefit. The money purchase method is a neutral formula because each year of work accrues wealth in a uniform way.
Teachers' retirement wealth under the traditional formula is determined by their monthly payments and the length of time they expect to receive those payments. Monthly payments are usually calculated as final average salary multiplied by years of service multiplied by a set multiplier (such as 1.5 percent). Higher salary, more years of service or a greater multiplier increases monthly payments and results in greater pension wealth. Earlier retirement eligibility with unreduced benefits also increases pension wealth (despite a lower monthly annuity), because more payments will be received.
To qualify as neutral, a pension formula must utilize a constant benefit multiplier and an eligibility timetable based solely on age, rather than years of service. Basing eligibility for retirement on years of service creates unnecessary and often unfair peaks in pension wealth, while allowing unreduced retirement at a young age creates incentives to retire early. Plans that change their multipliers for various years of service do not value each year of teaching equally. Therefore, plans with a constant multiplier and that base retirement on an age in line with Social Security are likely to create the most uniform accrual of wealth.
Within its traditional formula, Wisconsin's pension plan is commended for utilizing a constant benefit multiplier of 1.6 percent. Teachers, however, may retire before standard retirement age based on years of service without a reduction in benefits. Those with 30 years of service may retire at age 57 while other vested teachers with less than 30 years of service may not retire with unreduced benefits until age 65. Therefore, teachers who begin their careers at age 27 can reach 30 years of service by age 57, entitling them to eight additional years of unreduced retirement benefits beyond what other teachers with fewer years of service would receive who may not retire until age 65. Also, all teachers may retire with reduced benefits at age 55, but the reductions vary by years of service. These provisions may encourage effective teachers to retire earlier than they may otherwise, and they fail to treat equally those teachers who enter the system at a later age and give the same amount of service.
Although the same eligibility timetable is in use and allows teachers to retire early with unreduced benefits based on years of service, teachers' pension wealth does not decline after they reach eligibility because their pension wealth is tied directly to the balance of their personal accounts, rather than calculated by a traditional formula. Teachers must be 55 years old to calculate their benefits according to the money purchase method. Similar to a defined contribution plan, teachers' contributions fund their own individual accounts, and their contribution and the employer match remain constant for each year of service.
Wisconsin Department of Employee Trust Funds, Your Benefit Handbook, ET-2119, revised October 2013 Wisconsin Department of Employee Trust Funds, Calculating Your Retirement Benefits, ET-4107, revised September 2016.
End retirement eligibility based on years of service.
Wisconsin should change its practice of allowing teachers with 30 years of service to retire at age 57 with full benefits. If retirement at an earlier age is offered to some teachers, benefits should be reduced accordingly to compensate for the longer duration they will be awarded.
Align eligibility for retirement with unreduced benefits with Social Security retirement age.
Wisconsin allows all teachers to retire before conventional retirement age, some as young as 57 without reduced benefits. As life expectancies continue to increase, teachers may draw out of the system for many more years than they contributed. This is not compatible with a financially sustainable system (see pension sustainability goal).
Wisconsin did not respond to repeated requests to review this analysis.