The Pennsylvania Senate and House this week passed a pension reform bill for state and school district employees that is, believe it or not, a genuine reform.
Over time, it replaces the state’s current pension system – called defined benefit by the experts – with a new system that relies on 401(k)s.
It sounds technical, but it is significant: Under a defined benefit plan, pensions are determined by a formula that takes into account final salary and years of service. If the pension fund comes up short, the difference must be made up by taxpayers. The state employee and state teachers’ pension funds have come up short. Combined, they have long-term liabilities that total in the billions.
Under the new bill, Senate Bill 1, employees hired in 2019 will no longer be eligible for a defined benefits plan. They will have to choose among three hybrid plans, all of which include 401(k)s as a central component.
To put it simply, the bill shifts the risk from the employer to the employees. Today, if the stock market tanks and the state pension fund investments miss their mark, the taxpayers must make up the difference. Under SB1, a stock market downturn will lower the employee’s 401(k).
This is not a radical idea. Nearly every worker in America who has a 401(k) retirement fund takes the same risk. But, it is a big step for state government, where the Legislature, the governor and the state and teacher employee unions have wrangled over the issue for years – and years, and years.
Republicans embraced this change years ago, arguing that the old system could not be sustained and that state contributions toward its pension funds would grow and eat up more and more tax revenue.
Gov. Wolf was a convert to the idea – as long as it affected future employees, not current ones. SB1 does that. Most of the state employee and teacher unions have stepped back from direct opposition.
So, let’s applaud the governor, Pennsylvania lawmakers and the unions for having a meeting of the minds on this issue. But let’s not get carried away.
SB1 represents a long-term solution to the underfunding of the pension funds by channeling savings the state will realize to pay down the big deficits. But, by long-term we mean really, really long. The analyses of the bill project the current deficit – which totals $76 billion between the two pension systems — will be reduced to zero around 2048 – that’s 31 years from now.
The savings will accelerate as more employees hired after 2019 enter the system and employees under the older plan retire. When it comes to the public school employee’s retirement system the turning point is projected to be 2034. Until then, school district and state contributions will continue to increase at an alarming rate: from $4 billion today to $8 billion in 2033-34.
The state and local districts split the costs 50-50. Still, making these additional payments could break the back of local districts, as a bigger and bigger share of their budgets go to pension contributions. It will means less spent on education and higher local tax increases.
When it comes to public pensions, we are facing a solution in the long run. In the short run, we are facing a disaster.
The governor and the Legislature now need to find a way to ease the pain of local school districts.