Legislature(2011 - 2012)Anch LIO Rm 220
09/15/2011 09:00 AM Senate STATE AFFAIRS
| Audio | Topic |
|---|---|
| Start | |
| SB121 | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
| += | SB 121 | TELECONFERENCED | |
ALASKA STATE LEGISLATURE
SENATE STATE AFFAIRS STANDING COMMITTEE
September 15, 2011
9:05 a.m.
MEMBERS PRESENT
Senator Bill Wielechowski, Chair
Senator Joe Paskvan, Vice Chair - via teleconference
Senator Kevin Meyer
Senator Cathy Giessel
MEMBERS ABSENT
Senator Albert Kookesh
OTHER LEGISLATORS PRESENT
Senator Hollis French
Representative Mike Hawker
Representative Bob Lynn
COMMITTEE CALENDAR
SENATE BILL NO. 121
"An Act relating to the public employees' retirement system and
the teachers' retirement system; and providing for an effective
date."
- HEARD AND HELD
PREVIOUS COMMITTEE ACTION
BILL: SB 121
SHORT TITLE: TEACHERS & PUB EMPLOYEE RETIREMENT PLANS
SPONSOR(s): SENATOR(s) EGAN
04/07/11 (S) READ THE FIRST TIME - REFERRALS
04/07/11 (S) STA, FIN
04/14/11 (S) STA AT 9:00 AM BUTROVICH 205
04/14/11 (S) Heard & Held
04/14/11 (S) MINUTE(STA)
09/15/11 (S) STA AT 9:00 AM Anch LIO Rm 220
WITNESS REGISTER
JESSE KIEHL, Staff
Senator Dennis Egan
Alaska State Legislature
Juneau, AK
POSITION STATEMENT: Presented SB 121 on behalf of the sponsor.
DANIEL GRISWOLD, representing himself
Anchorage, AK
POSITION STATEMENT: Testified in support of SB 121.
BRIAN WILSON, representing himself
Anchorage, AK
POSITION STATEMENT: Testified in support of SB 121
ABRY RABY, representing herself
Anchorage, Alaska
POSITION STATEMENT: Testified in support of SB 121
WILLIAM B. FORNIA, President
Pension Trustee Advisors
POSITION STATEMENT: Provided an actuarial analysis in support of
SB 121.
MIKE BARNHILL, Deputy Commissioner
Department of Administration (DOA)
Juneau, AK
POSITION STATEMENT: Testified on behalf of the Parnell
Administration in opposition to SB 121.
ACTION NARRATIVE
9:05:19 AM
CHAIR BILL WIELECHOWSKI called the Senate State Affairs Standing
Committee meeting to order at 9:05 a.m. Present at the call to
order were Senators Davis, Meyer, Giessel, and Wielechowski;
Senator Paskvan attended via teleconference. Senator French and
Representatives Hawker and Lynn also attended the meeting.
SB 121-TEACHERS & PUB EMPLOYEE RETIREMENT PLANS
9:05:43 AM
CHAIR WIELECHOWSKI announced the committee was meeting to
continue its discussion on the type of retirement plan the State
of Alaska and its municipalities [and school districts] should
offer their long-term employees. He reminded everyone that in
2006 the Alaska Legislature changed the retirement system from a
defined benefit (DB) plan to a defined contribution (DC) plan.
Under a DB plan, retired employees receive a defined monthly
check based on salary and years of service. He noted that most
state, municipal, and school employees around the nation belong
to such plans. To his knowledge, Alaska is the only state that
offers its new employees neither a DB plan nor the opportunity
to participate in the U.S. Social Security program.
CHAIR WIELECHOWSKI explained that under a DC system, employees
and their employers contribute to a retirement account and the
individual employees make their own investment decisions. If
those investments perform poorly, the employee receives less
money at retirement. While this system provides less security to
workers, it has the advantage of portability; these employees
have the ability to take their retirement accounts with them
when they change jobs. This system works well for individuals
who may wish to work for a particular employer for a relatively
short period of time.
SB 121 will give Alaska public employees a choice between the
two systems. The sponsor's objective was to design a system that
would cost the State of Alaska and its municipalities and school
districts less than the current Tier III DB system.
9:07:48 AM
JESSE KIEHL, Staff to Senator Dennis Egan, prime sponsor of SB
121, extended apologies on behalf of Senator Egan who was
fulfilling a prior commitment to attend the Southeast Conference
meeting in Ketchikan.
MR. KIEHL explained that SB 121 creates a new defined benefit
tier in both the Teacher Retirement System (TRS) and the Public
Employee Retirement System (PERS). While the accounting for TRS
and PERS is separate, both are Alaska's public retirement
systems that apply to state, municipal, and school district
employees. The new tier created by SB 121 is designed to be more
predictable and less costly than previous defined benefit tiers.
It will be more stable and should provide fewer surprises in
years to come.
9:10:05 AM
CHAIR WIELECHOWSKI recognized that Senator French had joined the
committee.
MR. KIEHL explained that SB 121 aims to take a balanced approach
and provide new employees a choice between the current defined
contribution (DC) system and a new defined benefit (DB) tier.
The bill also provides employees who were hired into the DC
system, one opportunity to switch to the new DB tier. He pointed
out that each system has its strengths and each appeals to
different employees. Giving new employees this choice increases
the government's tools to deliver the best services for the same
dollars.
MR. KIEHL stated that a DB system means security; the employee
knows how much he or she will have at retirement and that
employee knows whether health insurance will be part of the
package. While a DB benefit is guaranteed, it takes a long time
to earn and is not designed to be a windfall. Under the proposed
new DB tier, employees will have to work a minimum of 10 years
to earn the retirement-check benefit and a full [25 years for
TRS employees] or 30 years for PERS employees (25 years for
police officers and firefighters) or be Medicare eligible,
before the retiree health insurance benefit kicks in. This
reduces the cost of the benefit to the state and provides
predictability to the employee.
9:12:47 AM
The DC system gives the employee control over his or her
investments and provides a wide variety of investment options.
This system offers portability and the potential to work the
market and "beat the street." This is attractive to employees
who do not intend stay over the long term. Retaining the option
of a DC system gives public employers and school districts an
additional tool to attract people that have unique skills and
prefer to move from job to job. The down side to a DC system is
that it provides no guarantees. The employee may not only not
"beat the street," but actually lag the street dramatically and
not have the funds to retire.
MR. KIEHL said it's important to point out that neither defined
benefit employees nor defined contribution employees of the
State of Alaska its municipalities or its school districts
participate in Social Security. In fact, the PERS/TRS benefit
reduces any Social Security benefit the employee may have earned
before he or she came to public employment. This significant
tradeoff does not change under SB 121.
The DB and DC systems appeal to different people and the sponsor
wanted to ensure that the strengths of both systems were
available to the employees who chose them.
9:15:24 AM
MR. KIEHL displayed a list of employees to demonstrate that the
public servants that serve Alaska do so in different ways. The
list included: commissioner, highway maintenance worker,
research biologist, management biologist, teacher, city manager,
state trooper, eligibility tech, nurse, and investment officer.
He pointed out that the average tenure for a commissioner of the
Department of Health and Social Services (DHSS) is just less
than two years, and observed that someone coming into that
position might reasonably expect they wouldn't stay in the job
long enough to qualify for a pension check or medical benefits.
The idea of a DC system where retirement money is portable may
be very appealing in this instance and may, in fact, help future
governors in recruiting the best commissioners.
By contrast, highway maintenance workers tend to have long
careers in public service and their longevity is an asset. They
fix potholes and plow the streets. These workers know where that
raised manhole cover is so they don't catch the plow blade on it
every time. This work can be physically demanding and these
folks may very well find great appeal in the idea of health
insurance as part of their retirement package.
Research biologists and management biologists provide additional
examples of how employees differ. The state may decide it wants
to do additional research to find out more about Polar Bear
habitat, breeding habits, and eating habits. It may not matter
if the very best research comes from internationally renowned
biologists who may not want to spend their entire career as a
state employee. By having a DC system, the state is well served
and these folks are able to take their retirement money when
they move on to do research for other entities.
By contrast, the longevity of a management biologist may be a
great asset to the state. It may be important that he or she has
great familiarity with moose stocks or the population of a given
caribou herd. The institutional knowledge of how a particular
population reacts in a particularly rough winter may be very
important. In this case, the state derives greater benefit for
the people of Alaska by having long-term employees and they may
well choose a DB system.
MR. KIEHL said there are employees on the list that fit each
category, but the point is that all Alaskans benefit from having
both the DC and DB systems available. It will be beneficial for
the state to have all the tools it can to attract the best
teachers, the best scientists, and all the other best workers on
that list to serve the people of Alaska.
9:20:24 AM
MR. KIEHL highlighted the things that stay the same under SB
121.
· The current defined contribution system remains intact.
· The defined benefit safeguards that were implemented about
six years ago remain in place.
· The formulas and qualifications for the defined benefit
pension do not change.
MR. KIEHL highlighted some differences under SB 121.
· It will take longer to earn the retiree health insurance
benefit. Employees in the new DB tier must reach the
Medicare age threshold and have 10 years of service before
they get retiree medical. A public employee who has ten
years of service, but is not yet Medicare eligible, can
retire and receive a pension check, but not the health
insurance benefit. In the old tiers the age threshold is
younger than Medicare eligibility so the pension system is
on the hook for the full cost of that retiree health until
the retiree reaches Medicare age. That tremendous cost to
the system goes away under the new tier.
· The retirement eligibility in the new DB tier is
dramatically different than PERS/TRS Tier I. The state made
responsible changes to that system some years back and
those should be kept. The reason is straightforward; the
actuarially accrued liabilities of PERS/TRS Tier I are
roughly equivalent to the entire DB pension trust.
· The new DB tier operates at a lower cost as a function of
the medical eligibility.
· Employees that were hired after July 1, 2006 are given a
one-time opportunity to convert to the new DB plan. There
is a 60-day window for making this choice. At the time of
conversion, all employee and employer dollars in the DC
accounts will be rolled into the DB trust funds. If there
is a gap, the state would be required to make up the
difference at the time of conversion. It is not the
sponsor's intent to create any kind of liability problem
with this bill.
MR. KIEHL noted that the Division of Retirement and Benefits
raised questions as to whether it could process the conversions
in 60 days as the bill requires. He assured the committee that
the sponsor was willing to work with the division to make the
mechanics work at the lowest administrative cost to the state.
9:25:56 AM
MR. KIEHL said SB 121 takes a responsible approach. The new DB
tier for public employees and teachers has costs that are
comparable to the DC tiers and it offers public servants the
option to earn the retirement that best fits their public
service. The changes to the retiree health insurance should make
the system more predictable than past systems. He noted that
medical cost escalation has been difficult to predict, and
reminded the committee that it was one of the elements in an
actuarial malpractice lawsuit that the state recently settled.
MR. KIEHL highlighted that all the 2004 safeguards for the
pension system remain in place.
· A second actuary will continue to review the work of the
first to ensure that the assumptions are reasonable and
that the math is correct.
· There will still be a minimum salary threshold for elected
officials to earn retirement credit. The days of serving on
a school board with a $100 per month honorarium and earning
a full year of retirement credit for that are not returning
under SB 121.
· Alaska experience studies will continue. Research based on
Alaska data will show whether the mortality tables are
correct and will ensure that the contribution rates are at
the right level. Liabilities will be prefunded.
· The Alaska Retirement Management Board (ARM Board) will
continue to be primarily disinterested members. This was
contentious initially, but it has proven to be a very good
reform and an important safeguard to the system.
· The law that requires payment of the normal costs as they
accrue today will remain in effect. The trust funds will
not be shorted.
MR. KIEHL said the sponsor firmly believes that under SB 121,
the state and public employers will get more for Alaskans'
money. A plethora of research shows that DB pension systems
consistently earn more at lower cost and generally lose less in
downturns than individual accounts. However, those public
servants who prefer portability will have an excellent DC plan
available to them. Running two systems will not add cost; the
state is doing this today and will continue to do so for some
time to come.
9:29:58 AM
MR. KIEHL highlighted that Alaskans receive $800 million per
year in defined benefit checks from state, federal, and private
sources. This is a great shock absorber for the Alaska economy
because that money is spent in Alaska to support businesses and
private sector jobs.
MR. KIEHL stressed that public employers in Alaska cannot
eliminate the risks inherent in retirement. Some people will
outlive their savings and others will pay into a defined benefit
system for years and die young. There are risks of underfunding
whether the risk is pooled and spread across thousands of
employees in a DB system or whether an individual employee takes
on that risk him or herself. But SB 121 shifts the risk and lets
employees choose between the pooled risk system with potentially
lower personal returns and the individual risk system with the
potential to beat the numbers.
MR. KIEHL acknowledged that there is a 70-80 year horizon
between the time that someone is hired right out of school and
their retirement ends. But, he said, the State of Alaska is here
for the long term and legislators, as the state's board of
directors, have an obligation to get Alaskans the best return on
their money and the best public service possible for their
public dollars. SB 121 attempts to do that and to do it
responsibly.
9:33:09 AM
SENATOR GIESSEL referred to the $800 million per year in DB
benefits that Alaskans receive and asked if he's asserting that
retired Alaskans spend their retirement benefits in Alaska.
MR. KIEHL replied more and more Alaskans are staying in Alaska
after retirement, which is better for families, communities, and
the economy. An Alaska cost of living allowance is built into
the current DB system and SB 121 does not change that. That
system is designed to keep as many Alaskan retirees here as
possible. He restated that the $800 million per year is a
combination of PERS/TRS benefits, federal employee retiree
benefits including military, Social Security, and private sector
defined benefit pension plans. It's an Alaska number; it is not
extrapolated from national trends.
SENATOR GIESSEL said she found that 24 percent of the masters,
pilots, and engineers in the Alaska Marine Highway System are
not Alaska residents. Noting that the salaries for the positions
start at $120,000, she asked if those employees were accruing a
defined benefit retirement.
MR. KIEHL replied he would follow up with specifics, but his
understanding was that those are DOTPF employees. Depending on
their date of hire they would be earning either a DB retirement
or a DC retirement under PERS. He cautioned that the bill was
not a panacea. It was designed to attract and retain the best
employees to Alaska's public service jobs, but it certainly did
not fix all the problems.
9:37:18 AM
SENATOR MEYER said his understanding was that the State of
Alaska opted out of Social Security and instead offered the SBS
program to its employees. He asked how that factors into the
public employee retirement program.
MR. KIEHL confirmed that the State of Alaska opted out of Social
Security. The Supplemental Benefit System (SBS) was implemented
for state employees as an attempted replacement for Social
Security. It is a defined contribution system whereas Social
Security is a defined benefit program. He added that it's
important to understand that most Alaska municipalities do not
provide a Social Security replacement and no Alaska school
districts that he knows of provide a replacement. Those
employees are dependent on PERS or TRS and personal savings for
their retirement income. It is therefore particularly valuable
in attracting and retaining teachers to offer the option of a
defined benefit retirement system.
CHAIR WIELECHOWSKI observed that the actuary may add to that
response when he testifies.
9:39:50 AM
REPRESENTATIVE LYNN asked if new employees would have the option
of switching systems.
MR. KIEHL answered no. If employees were allowed to flip back
and forth it would be difficult to predict today what it will
cost to fund tomorrow's retirement benefits. Predictability is
essential to the system.
REPRESENTATIVE LYNN said he wanted to be sure that was on the
record.
CHAIR WIELECHOWSKI informed the committee that most of the
hearing would be devoted to a review of the financial impacts of
the bill, but first he wanted a couple of Alaskans to testify
about how the DC system has affected them.
9:41:45 AM
DANIEL GRISWOLD, representing himself, said he was born and
raised in Anchorage and was in his fifth year as a highly-
qualified math teacher at East Anchorage High School. He comes
from a teaching family; his mother was a teacher in the TRS Tier
I plan, his sister is a teacher in the TRS Tier II plan and he
is in the TRS Tier III plan.
MR. GRISWOLD said he had enjoyed Alaska's wonderful bounty over
the years and he wanted to continue to live here, but under the
current DC system it was hard not to explore other
possibilities. The TRS Tier III DC system was designed such that
at the end of the fifth year of teaching he can leave and take
all the money he had contributed as well as the state match. He
has to look at other options because his retirement is based on
the things he does to make it work and he knows that the TRS
Tier III plan offers no safeguards. As a math teacher he feels
he's lucky that he can follow and work with the stock market,
but a lot of teachers can't do that. They just trust that their
funds are being managed adequately.
MR. GRISWOLD said all TRS Tier III teachers know that after
their fifth year they will look at other options because there
are states that have more attractive retirement systems. He said
he likes the option that SB 121 offers and if he's presented
with the option he will change to the defined benefit plan and
spend his entire teaching career in Alaska.
9:46:52 AM
SENATOR GIESSEL noted that an article from the 9/13/11 Juneau
Empire reported that in FY11 the defined benefit investments for
TRS earned 21.51 percent and PERS earned 21.41 percent; the
defined contribution investments for TRS earned 22.6 percent and
for PERS 23.1 percent. She asked if he had any thoughts about
the fact that the DC investments did better than the DB
investments.
MR. GRISWOLD replied the plans are structured very differently
and the real difference lies in what the two plans actually
provide.
9:48:39 AM
BRIAN WILSON, representing himself, said he was an Anchorage
police officer, a husband, a father, and a contributor to PERS
Tier IV defined contribution retirement. He expressed enthusiasm
at the potential to participate in a defined benefit program.
That is a powerful retention tool for the state and
municipalities. It provides financial security, reduces stress,
improves quality of life, and provides a more productive
employee.
MR. WILSON said he was born in Fairbanks and when he graduated
from high school he received a Chancellor's Scholarship, which
was designed to retain Alaska's graduates. It certainly worked
in his case; this is where he wants to live and raise his
daughter.
He explained that he joined the Anchorage Police Department in
2007 with 30 other recruits and now just 20 of those officers
are still in Anchorage. All the officers he's spoken to have
said they've explored employment in other states because of the
retirement system. When other officers learn that he's PERS Tier
IV they question why he's still here. His response is that
Alaska is his home and he wants to stay here.
MR. WILSON said police cadets are told that it takes about five
years to become a productive police officer. He noted that he
was about to enter year five at APD and at that point he and his
academy mates will be vested. That means that all the money that
he and the municipality have contributed is portable. But he
wants to stay at APD and he'd like all his academy mates to stay
as well. These are experienced officers and that experience
enhances safety for the municipality and its citizens, he
stated.
MR. WILSON highlighted that PERS Tier IV police officers do not
contribute to Social Security. His retirement is reliant on his
personal savings and his PERS DC account that ebbs and flows
with the stock market. He noted that he's contributed to PERS
for about four years and his account has just a little more in
it than the bonus potential he gave up in 2007 to become a
police officer. Watching the stock market isn't something he
wants to do; he wants to focus on public safety, plan for his
family, and retire in Alaska.
MR. WILSON said there are a lot of tradeoffs for a police
officer who also tries to have a family life, but he loves his
job. When he retires he hopes his family can count on a defined
benefit. Incentives matter, he said, and a DB program is an
incentive to retain experienced employees over the long term. It
will help them make the decision to build their lives in Alaska
and stay through retirement.
9:55:16 AM
SENATOR GIESSEL asked if he had an investment advisor to help
determine where to invest his defined contribution money.
MR. WILSON replied he understands that he can pay extra to have
someone rebalance his portfolio, but he doesn't know that
person's credentials and isn't comfortable asking someone at the
other end of a computer to rebalance his portfolio based on a
questionnaire. He'd prefer to have something he can count on
even if it returns less.
9:56:53 AM
ABRY RABY, representing herself, said she moved to Alaska three
years ago and had worked for the Alaska Fire Standards Council
since she arrived. She described herself as a model employee and
noted that after the first year of employment she was nominated
for the Governor's Denali Peak Performer award. The retirement
package is the only thing that makes the job less than perfect,
and had she understood it fully she would never have applied.
However, she said, the job would be perfect if she were given
the option to change to a defined benefit plan.
MS. RABY stated that SB 121 would give public service employees
the ability to choose the plan that meets their career goals and
retirement needs. She is motivated by security, consistency, and
predictability and she would select the defined benefit plan,
but she knows that everyone isn't similarly motivated. The key,
she said, is to give employees the option to select the plan
that best fits their needs. Meeting employees' needs makes them
feel more valued, which makes them more committed and more
inclined to stay.
Social Security gives retirees a stable means around which to
budget and it also provides an off-work disability benefit. But
the State of Alaska opted out of Social Security so that's not
available and PERS Tier IV and TRS Tier II employees do not have
the option of a defined benefit plan. They have neither a secure
component in their retirement portfolio nor a disability benefit
if they're injured after work hours. At this point, PERS Tier IV
and TRS Tier III employees have less security than private
sector employees.
10:01:16 AM
MS. RABY said when she's asked if the state is a good employer,
she points out that the retirement package for new employees
does not have a safeguarded component. She believes that without
a defined benefit option, the state is losing valuable long-term
employees and this hurts on many levels. The quality of service
to the public is diminished if only short-term workers are
recruited because many don't stay long enough to become
efficient. Continually hiring and training front-line workers
makes it difficult to maintain the workload.
If the state were to again offer a defined benefit option, she
would enthusiastically recommend state employment to her peers.
Recruiting long-term employees will save the state money through
increased productivity. She urged passage of SB 121 to give
public service workers the option to choose the package that
works best for them.
10:03:23 AM
SENATOR FRENCH commented that he's attended a lot of hearings
over the years and it was gratifying to hear from a highly
talented teacher, a highly motivated APD officer, and an award-
winning state employee about the conscious choices they are
making about their retirements and the difficult choices they're
going to be forced to make if the Legislature doesn't do
something.
CHAIR WIELECHOWSKI recognized Mr. Fornia and asked him to
incorporate in his testimony responses to the questions that
committee members posed earlier.
10:04:29 AM
WILLIAM B. FORNIA, President, Pension Trustee Advisors, stated
that he was a fully credentialed actuary who had worked in
Alaska off and on since 2002. He's a fellow of the Society of
Actuaries, an enrolled actuary under ERISA - the Employee
Retirement Income Security Act of 1976, a member of the American
Academy of Actuaries, and he's active in several national
actuarial organizations. He's currently vice chair of the
Conference of Consulting Actuaries Public Plans Committee, the
leading organization for public pension actuaries.
In 2008 he worked with the National Institute on Retirement
Security to author the report "A Better Bang for the Buck;" in
2002 he spoke in Anchorage to the National Council on Teacher
Retirement on the topic of new developments in DB/DC plans; and
he frequently testifies before state legislatures and city
councils as an expert witness. He described several ongoing
cases and said he represents both sides in order to maintain a
balanced perspective. He highlighted additional work history and
said that for the past 15 years he's focused on governmental
pensions.
10:07:41 AM
MR. FORNIA reminded the committee that one of the safeguards put
in place by Senate Bill 141 was an independent and ongoing
actuarial review. The Division of Retirement and Benefits hired
Buck Consulting as the system actuary and the ARM Board hired
him as the ongoing review actuary. The first review audit was in
2009 and he and his staff basically duplicated Buck's numbers.
He opined that his comprehensive understanding of the system was
the reason the Alaska Public Pension Coalition chose to hire him
now.
10:13:07 AM
MR. FORNIA explained that his plan was to discuss the advantages
of defined benefit plans and to analyze reverting to a DB plan
as set forth in SB 121. The discussion would not include the
fiscal note because it had been withdrawn.
He highlighted four basic findings: 1) Senate Bill 141 did not
solve the unfunded liability; 2) defined benefit plans tend to
be more economical; 3) defined contribution retirement costs are
comparable to PERS Tier III and TRS Tier II costs; and 4) it's
possible to structure a reversion to a defined benefit plan at
very little or no additional cost.
10:14:46 AM
MR. FORNIA stated that DB plans are more appropriate for public
servants than defined contribution plans. DB plans precisely
define what the benefits will be when someone retires, they
provide workers what they need for retirement, and they are also
more efficient than DC plans. Alaska public employees and
teachers do not have the Social Security safety net so it seems
even more imperative to consider a defined benefit arrangement
for these employees. He pointed out that Alaska is probably the
largest employer in the country that offers neither Social
Security nor a defined benefit plan to its employees.
10:16:02 AM
MR. FORNIA said that under DB arrangements employees don't need
to be as worried about investment volatility. DB arrangements
are professionally managed and the returns tend to be better
than under DC arrangements. DB arrangements are therefore more
economical.
MR. FORNIA paused to explain the basic concept of both the
defined benefit and defined contribution retirement plans. A
defined benefit is like a pension or Social Security. A formula
is used to define what the benefit will be so an individual can
figure out exactly what he or she will get every month. Most
public servants across the country have both a DB plan and
Social Security. Alaskan public employees [and teachers] do not
have Social Security.
The other type of retirement plan is a defined contribution. The
classic example of this is a 401(k). The only thing that's
defined is the amount that is contributed and put into a fund.
It's up to the individual to figure out how much to take out
over the course of his or her retirement. Many private sector
workers have a defined contribution through their 401(k) and a
defined benefit through Social Security.
Whereas an actuary helps the administrator of a defined benefit
plan decide how much to put into the fund in order to pay out
the promised benefits, it's the individual in a defined
contribution arrangement that has to figure out how much to pay
him or herself over the course of their retirement.
MR. FORNIA displayed a chart showing an analysis of the benefits
available from the DCR program compared to those from the latest
DB tier. The hypothetical employees match those who testified
earlier: a teacher, a police officer or firefighter, and other
PERS member.
SENATOR FRENCH asked for an explanation of the "latest DB tier."
MR. FORNIA replied TRS Tier II for teachers [and PERS Tier III
for police & fire and other PERS employees] is what he refers to
as the latest DB tier.
CHAIR WIELECHOWSKI asked him to continue the presentation.
10:20:23 AM
MR. FORNIA said employees in the defined contribution retirement
(DCR) program knew anecdotally they didn't like it and he
decided to prove why they didn't like it by using math. For
example, a hypothetical teacher who was hired at age 34 and
retired at age 59 would receive a retirement benefit equivalent
to 58 percent of his or her final average compensation under the
latest DB tier [TRS Tier II]. Under the DCR program, the teacher
would only be able to pay him or herself 34 percent of their
final average compensation. He applied the same analysis to
police officers and firefighters and other PERS employees with
similar results. [Benefits for these hypothetical employees
showed a 33 percent reduction for police and fire and 25 percent
reduction for other PERS.]
MR. FORNIA displayed a bar graph to illustrate hypothetical
benefits for a teacher whose final average salary was $50,000. A
teacher under TRS DB Tier II would receive a $29,000 defined
benefit. He said his calculations show that the teacher would
only be able to pay him or herself $17,000 under the TRS Tier
III defined contribution plan. As a point of reference, he
calculated what Social Security the teacher would receive if he
or she participated in that system. It wasn't a whole lot better
than just the Social Security benefit.
10:22:54 AM
MR. FORNIA said he took a different approach than Mr. Kiehl in
looking at the annual economic impact of defined benefit plans.
He relied on a study by the National Institute on Retirement
Security that concluded, based on 2006 data, that PERS/TRS
pension benefits accounted for $1.3 billion in economic output,
including the roughly 25 percent multiplier effect. That means
that money that comes into an economy is spent back and
generates additional revenues. He acknowledged that there was no
attempt to determine how many PERS/TRS retirees still lived in
Alaska and how many had moved elsewhere.
CHAIR WIELECHOWSKI noted that Mr. Kiehl used a $0.8 billion
figure and asked Mr. Fornia where the $1.3 billion figure came
from and if it included more than just PERS/TRS pension
payments.
MR. FORNIA replied the $1.3 billion figure came from a study by
the National Institute on Retirement Security, an entity that
looks at state and local government pensions. In addition to
annual PERS/TRS pension payments, the number probably also
included the closed police and fire plan. He reiterated that the
study used 2006 data so the figure was probably higher now.
SENATOR FRENCH asked if he was also including the multiplier
effect.
MR. FORNIA confirmed that the study did include the 25 percent
multiplier.
SENATOR FRENCH posed a hypothetical situation of a retired
teacher living in one of his apartments. She receives a pension
check and pays rent to him. He uses the money he received to buy
groceries for himself. He asked if those grocery store
expenditures would be measured as part of that pension economy.
MR. FORNIA replied that's correct and reiterated that he did not
attempt to identify whether or not the pension recipients were
still living in Alaska. Mr. Kiehl's research showed a different
number, but the point was that it's good for the economy.
He continued to point out that defined benefit retirement
systems also provide healthcare benefits. Given that the state
is the "payer of last resort," there is some risk that the state
will later on have to pick up healthcare or other social
assistance costs for destitute retired individuals, regardless
of whether they're former public servants or former private
sector workers. That risk is greatly reduced if not eliminated
for retired public workers that have a pension, whereas under
the DCR approach it's certainly possible that the retiree will
need public assistance
10:26:57 AM
MR. FORNIA said consistent with the testimony from the public
servants, DCR plans do not encourage retention. They tend to be
effective at rewarding workers early in their careers, whereas
defined benefit plans are better at rewarding workers late in
their careers. He understands that Alaska recruits a lot of
young, adventure-seeking teachers, police officers and
firefighters from the Lower 48, but having only a defined
contribution retirement vehicle encourages them to work just 5-
10 years before moving someplace that offers a better retirement
plan. Having just a DC plan implicitly undermines worker
retention. He noted that he helps employers design retirement
programs that match what they want their workers to do. Some
industries, like high tech, encourage workers to bring the
knowledge they learned in school and then move on after a few
years. A DC plan is perfect for that kind of group. But the
police and fire group is completely different and employers may
not want those employees to move someplace else just a few years
after they've been trained. For that group, the DB plan tends to
be more desirable.
SENATOR GIESSEL asked what percent of Alaska private sector
employees have a defined benefit plan.
MR. FORNIA replied most oil companies have DB plans and
manufacturing tends to have them, but he agrees with the
implication. For a variety of reasons, the private sector
generally does not have defined benefit plans. Many companies
that have had DB plans have either frozen or eliminated them.
SENATOR GIESSEL asked him to cite the reasons that private
companies don't have DB plans.
MR. FORNIA replied the federal government requires private
sector plans to be nearly 100 percent funded at all times
because large private companies, like General Motors for
example, might go bankrupt and leave the federal government to
pick up the liabilities. By comparison, state and local
governments tend to last in perpetuity and can absorb the
potential liability. No state that he's aware of requires their
plan to be 100 percent funded and that makes costs more stable.
This hasn't happened on the private sector side.
A second reason is that in the 90s investment returns were very
high and workers tended to think that DC plans were better. This
made it very easy for companies to shut down their pension plans
and shift to 401(k)s. These workers were very pleased through
the 90s.
A third reason is the profit and loss (P&L) impact of having
pension costs on the books. In the 90s this was beneficial
because the returns on the investments were higher than the cost
of the benefits. Beginning in year 2000, investment returns
turned the other way and pension funds began to drag down
profits. At that point, shareholders and Wall Street became more
sympathetic of companies that were freezing or abandoning
pensions. The corporate culture of "You're on your own" also
alive and well. Turnover was higher and employee terminations
were more prevalent than in earlier decades. It became a good
business decision to dump the pension plan and it wasn't the
company's problem if these people later needed state assistance.
SENATOR WIELECHOWSKI asked if any corporations do not fall
within Social Security.
MR. FORNIA answered no. Private sector workers are covered by
Social Security and that helps employers justify cutting their
defined benefit plans.
10:35:09 AM
SENATOR GIESSEL asked if he regards Social Security as adequate
and solvent.
MR. FORNIA replied Social Security helps a lot but it's
certainly not adequate. The hypothetical teacher whose average
salary was $50,000 would receive about $12,000 in Social
Security when she probably needs $40,000. With respect to
solvency, he said he personally believes that the public is
being misled. Social Security has been around since 1938 and
will probably be around forever. In a few decades it will
probably have problems if nothing is done, but the fixes are
relatively minor. He warned that he isn't encouraging Alaska to
join Social Security, but it is certainly a good safety net and
a good start in benefits.
10:37:10 AM
MR. FORNIA directed attention to the report, "A Better Bang for
the Buck" and noted that he adapted it a little for Alaska. That
analysis indicates that the DB approach saves money compared to
the DC approach for three reasons: 1) longevity risk pooling; 2)
portfolio diversification is maintained because, unlike
individuals, they do not age; and 3) superior investment returns
by virtue of professional asset management and lower fees.
10:39:14 AM
Longevity Risk Pooling - the First Strength of DB Pension Plans
DB plans cover large groups of retirees and pay out over the
actuarially determined average life expectancy of the
individuals in the group, not the maximum life expectancy. This
avoids both the chance of running out of money in retirement and
the "over-saving" dilemma. For example, the actuary tables may
show that a 62-year-old retired teacher will, on the average,
live to age 88, but she may actually live to age 93. If she is
dependent on a DC or 401(k) type plan, she may be worried about
outliving her savings and decide to try to stretch her money. To
do that, she'll live on less. If she over saves and doesn't live
beyond the average, the kids will end up with what's left. That
means that part of the money that taxpayers put into that fund
won't go to the teacher but instead to pay benefits to the kids
of that teacher. That's not bad; it's just that the money isn't
used for retirement. In fact, about 25 percent of DCR funds
actually go to the kids. That's one reason that DC plans tend to
provide less benefit for the same dollar or cost more for the
same benefit.
By comparison, DB plans pool the longevity risk. Actuaries are
good at predicting longevity of a big group. They can't tell who
in a group will die in a given year, but they can tell how many
in the group will die that year. This means the pooled plan can
be much more efficient and use more of the money each year to
pay retirees than an individual who is worried about outliving
his or her savings.
Maintenance of Portfolio Diversification - the Second Strength
of DB Pension Plans This is similar to the first idea. The 62-
year-old retired teacher realizes that even though she's been a
really good investor, she can't absorb the risk that she could
in her 20s, 30s, and 40s. She has to become a more conservative
investor now that she's older. Target date funds exemplify this
idea. He noted that the police officer mentioned this type of
asset allocation.
MR. FORNIA highlighted that the report makes the assumption that
individuals will allocate less of their portfolio to stocks
between age 62 and age 97. He displayed a bar graph that
demonstrated that at age 62 more than 60 percent of the
portfolio was allocated to stocks and by age 97 the stock
allocation had dropped to between 10 and 15 percent. He noted
that expected returns drop when the allocation becomes more
conservative. [The graph showed that an 8 percent expected
return at age 62 dropped to a 6 percent expected return at age
97.]
Pooled, Professionally-Managed Assets - the Third Strength of DB
Pension Plans He said the report assumed a one percent annual
differential, based primarily on studies by Towers Watson and
CEM Benchmarking. Towers Watson looked at 14 years of data and
large DB plans versus large DC plans. Responding to Senator
Giessel's earlier question, he said the Towers Watson study
found that in the best year DB plans outperformed DC plans by
4.8 percent and in the best year for DC plans they outperformed
DB plans by 1.5 percent. That's the nature of investment returns
so it's not a surprise that the ARM Board reported a 21 percent
return while the DC plan returned 22 percent, he said. It was
quite the opposite the year before; the DB plan had bad returns
and the DC plan had really, really bad returns. The Towers
Watson study reported that in 2008 the DB plan returned 2.6
percent more than the DC plan; in 2007 the DB plan returned 0.3
percent more than the DC plan; in 2006 the DB plan returned 1.1
percent more than the DC plan. The fluctuation is wide but over
several economic cycles defined benefit plans tend to outperform
defined contribution plans.
MR. FORNIA said this makes sense for two reasons. One is that DB
plans have lower investment expenses. There doesn't have to be
an education expense to teach police officers and teachers how
to invest; there doesn't have to be a phone line expense so that
individuals can call in and transfer from one vehicle to
another; and assets are typically sold in huge blocks, which is
less expensive. The second reason is that the investment
managers are professionals. They tend to take a disciplined
approach and don't overreact when the market rises and falls.
Investment advisors tend to be better at investing than non-
professionals.
10:46:42 AM
SENATOR GIESSEL observed that five years ago you didn't hear
about states that were insolvent or cities and states that were
looking to make changes to their pension plans because they
couldn't afford them any longer. She asked how he can advocate
for a DB plan when so many cities and states were drowning in
debt. She further asked if he was prompted to suggest that DB
plans were better for Alaska because it was one of just three or
four states not considering bankruptcy.
MR. FORNIA replied he was advocating for a well-funded defined
benefit plan. Going forward it's critical that the state monitor
and fund the level of benefits it can afford and SB 121
structures a plan that will have costs comparable to that. While
it's possible that the actuaries' assumptions will be worse than
expected, it's equally possible that they will be better than
expected. They could in fact help pay off the unfunded
liabilities that are attributable to PERS/TRS Tier I and prior
benefits. If you don't convert, he said, it's likely that the
state will pay those benefits to workers later when they are in
poverty given that the state is the payer of last resort.
He emphasized that converting back to a DB plan wasn't a panacea
and it certainly put more risk on the state, but the expectation
was that it will be a better economic decision for the state.
SENATOR GIESSEL asked if he was aware that the state pension
plan lost $1 billion this year and if that factored into his
recommendation.
MR. FORNIA replied he wasn't aware of the exact amount, but he
did know that markets were down this year. He stressed the
importance of being disciplined and cautioned against being
deceived by even a decade-long up-cycle. Markets are not certain
but states are the classic investor to take on this type of risk
because they are long-term entities. Alaska is reasonably
prosperous and is in an excellent position to take on risk like
this.
CHAIR WIELECHOWSKI asked Mr. Fornia to continue.
10:50:49 AM
MR. FORNIA said the next consideration is the state retirement
system's unfunded liabilities, which are in excess of the
assets. It comes as no surprise that the liabilities have
increased in the last five years since the payoff is over a
relatively long time horizon. While there was some hope that
Senate Bill 141 would solve the unfunded liability problem,
there really was nothing in the bill that had a chance of
solving the problem. The unfunded liabilities clearly are a
problem but they are attributable to the past, primarily to Tier
I benefits. An ongoing, well-funded, well-managed defined
benefit plan should not increase liabilities. Because the state
is the payer of last resort, it potentially will have to pay the
benefits anyway if it sticks with the DC plan. By switching to a
DB plan, those payments will be advance-funded and will prevent
the creation of future unfunded liabilities. The cost isn't left
to future generations.
10:53:36 AM
MR. FORNIA said the idea behind SB 121 was to design a plan that
had costs that were reasonably comparable to the costs in the
DCR plan. He explained that the actuaries for the Division of
Retirement and Benefits prepare annual reports on the financial
status of PERS and TRS. They conduct an actuarial valuation of
the people in the system to determine the normal cost to provide
the benefit going forward. They look at things like when the
employee might retire, if their compensation will rise, and if
they'll quit. Once the actuaries calculate those costs they look
at how much they'd have if all their assumptions were true (most
important here was the 8 percent return) and that amount was
funded to come up with the actuarial liability. The difference
between the two is the unfunded liability.
MR. FORNIA said he used the normal costs that the DRB actuaries
came up with to figure out the cost to convert from DCR to the
new DB Tier. The pension benefits would be basically the same as
PERS Tier III and TRS Tier II and the healthcare benefits would
be in between. They'd be stronger than the DCR healthcare
benefits, but not as strong as the PERS Tier III and TRS Tier II
benefits.
He highlighted that the pre-2006 benefits were already fairly
modest compared to other state and local governments around the
country. The switch from Tier I for both PERS and TRS resulted
in a substantial reduction in benefits for the subsequent tiers.
Another feature is that the workers contribute to the plans at
the same levels as pre-Senate Bill 141. But the retiree health
benefits will be lower. Retirees will not be eligible to receive
coverage until age 65 unless they've had either 25 or 30 years
of service.
10:57:21 AM
MR. FORNIA displayed a chart that compared cost estimates for
teachers in three different tiers: TRS DB Tier II, TRS DCR Tier
III, and the proposed TRS DB Tier IV. He noted that the new
assumptions were probably a little higher, but not materially
different.
The actuary calculated that the ongoing cost of pension benefits
for TRS DB Tier II was 11.39 percent of payroll. The teachers
contribute 8.65 percent so the net cost to the employer was 2.74
percent. He said it's his opinion that an ongoing contribution
of 2.74 percent of payroll isn't really excessive for the state
to pay for a retirement benefit for these people. The total
contribution is lower than 12.4 percent, which is what Social
Security would be. The healthcare plan for this tier is pretty
good and should cost 5.33 percent so the total ongoing cost to
the government is a little over 8 percent of pay. [8.07]
MR. FORNIA noted that Alaska is unique in that it is one of a
very small number of states that has prefunded retiree
healthcare benefits to any extent. The vast majority of states
have almost nothing set aside. Alaska workers put in 8.65
percent and the state contributes 8.07 percent, which is way
more than the pension costs and it covers a good chunk of the
retiree healthcare cost. He noted that what the chart and
subsequent bar graph doesn't break out is the amount the state
is paying for Tier I workers, which is per the unfunded
liabilities for the past.
MR. FORNIA said the revised fiscal note will confirm the
numbers, but he assumed roughly a $60 million payroll for FY11.
From that he figured the total employer cost for TRS DB Tier II
to be about $4.8 million.
The cost for TRS DCR Tier III works quite differently. There is
no such thing as a normal cost because no benefit is promised.
The member contributes [8 percent] of pay and the employer
contributes 7 percent. The occupational death and disability
cost is 0.05 percent, the medical normal cost rate is 0.64
percent (mostly post age 65) and "you enable them to set aside 3
percent into an HRA, a healthcare retirement account, and so
your total cost is 10.69 percent."
MR. FORNIA said he used the actual numbers that the actuary
reported to develop the cost comparison charts. He opined that's
probably what prompted the Alaska Public Pension Coalition to
question why the state shouldn't switch back to a DB plan. Total
employer cost under TRS DCR Tier III was 10.69 percent and only
8.07 percent under the previous TRS DB Tier II. He noted that
the numbers for police and fire and other PERS employees were
relatively similar.
What they proposed and what SB 121 does is establish a new TRS
DB Tier IV [and PERS DB Tier V] with the same pension benefits
as the previous DB tier. For teachers, the total retirement
normal cost would be 11.39 percent; the teacher would contribute
8.65 percent and the employer would contribute 2.74 percent. The
medical cost would be a little less at 4.52 percent because
retirees would have to wait for the benefit until Medicare
eligibility at age 65. The total cost to the employer would be
7.26 percent, which is a little lower than either TRS DB Tier II
or TRS DCR Tier III. He said his analysis was that the new tier
should be relatively cost-neutral or even save money.
11:03:29 AM
MR. FORNIA directed attention to the cost comparison chart for
PERS police officers and firefighters and noted that the savings
were not as substantial because the benefits under PERS DCR Tier
IV were more significantly less than PERS DB Tier III. These
costs might therefore be a couple of hundred thousand dollars a
year more. The cost comparison chart for other PERS members
showed a little savings. [Total employer cost under PERS DB Tier
III was 9.83 percent, under PERS DCR Tier IV it was 8.72
percent, and under proposed PERS DB Tier IV it would be 6.43
percent.]
MR. FORNIA said his conclusion was that converting to a DB plan
would be significantly better for the workers and, absent the
transition costs, it could drop the total employer cost by a few
million dollars. He noted that while the revised fiscal note
wasn't out, his expectation was that it would be in the zero
range.
11:04:36 AM
MR. FORNIA said the Department of Administration withdrew the
initial fiscal note once they realized they'd misinterpreted
some things. He explained that the confusion centered on the
"normal cost rate" for retiree healthcare. The actuarial reports
in 2009 and 2010 showed normal healthcare costs in the 5.5
percent range. He noted that his calculations indicated the
normal cost rate would be about 4.5 percent but the fiscal note
showed they would be 12 percent to 15 percent of pay. He further
explained that he was waiting for Buck Consultants to figure out
the actual transition costs because they had better data on
individual accounts. He reiterated his expectation that the
revised fiscal note would show more comparable costs.
11:06:37 AM
MR. FORNIA summarized his conclusions:
· Senate Bill 141 did not solve the unfunded liability
problem.
· DB plans are more economical in general and particularly in
Alaska where the state doesn't participate in Social
Security.
· DCR costs are comparable to the latest DB tier costs.
· SB 121 accomplished the goal to structure a new DB tier at
very little or no additional cost.
CHAIR WIELECHOWSKI thanked Mr. Fornia and informed the committee
that the administration would have an opportunity today and
later in Fairbanks to give its perspective on the bill. The
hearing in Fairbanks would be the reverse order of this one with
the administration getting the bulk of the time.
11:08:05 AM
CHAIR WIELECHOWSKI announced a short recess.
11:22:38 AM
CHAIR WIELECHOWSKI reconvened the meeting.
11:22:45 AM
MIKE BARNHILL, Deputy Commissioner, Department of Administration
(DOA), said he was testifying on behalf of the Parnell
Administration in opposition to SB 121. He explained that DOA
did submit a fiscal note earlier, but subsequently realized that
the actuary had built past service costs into the transition
costs. What the bill does instead is essentially create a new DB
tier. It hits the reset button and eliminates any past service
costs from the legacy of DB plans.
In opposing SB 121, the administration expresses the utmost
respect and thanks to the dedicated public servants that work
for the State of Alaska, its school districts, and
municipalities around the state. As the witnesses today and in
past hearings ably demonstrated, these public servants work hard
and they deserve a good retirement.
It is out of that respect that forms the core basis for the
administration's opposition to the bill. If the administration
has learned anything from the past few decades of experience
with the DB plan, it is that large unfunded liabilities can
arise at any time for a large number of reasons. The Mercer case
represented one of those reasons, and that was actuarial
negligence. But unfunded liabilities can arise for other non-
negligent reasons: investment losses, change in assumptions,
change in mortality, increased longevity, and change in
retirement behavior.
Pension benefits are long-term promises that the state and
municipalities and school districts make to employees. Any DB
promised made today to a 20-year-old will be relied upon in 40
years and for an additional 30 years after that. That's a 70 to
80-year promise.
The administration's primary concern is that right now the
fiscal structure of the state is uncertain. It relies almost
entirely on revenue from TAPS throughput to support the general
fund. That throughput has been down consistently, with a few
minor up tics, every year since 1989. Until this state is back
on a stable fiscal path, the administration believes it is
imprudent to make promises that could last 70 to 80 years. He
expressed personal concern that if an unfunded liability arose
in the new plan 60-70 years from now, the state might not have
the general fund resources to backstop those promises.
11:26:48 AM
Recent experience in other public plans demonstrates the danger.
Since the last hearing on SB 121, there have been reports of two
local public pension plans that have gone bankrupt and
defaulted, one in Rhode Island and one in Alabama. The
administration doesn't want to put public servants in that
position 60-70 years from now. This isn't being pessimistic
about the future of Alaska; it's being realistic about where the
state is today. Although a DB plan has good characteristics,
it's difficult to support making promises until the state's
fiscal situation turns around.
11:27:44 AM
MR. BARNHILL said Alaska is different than other states because
it doesn't have a state income tax or a statewide sales tax so
the general fund revenues that backstop the PERS/TRS system come
from oil funds. Other states don't have this and taxpayers are
beginning to revolt and tell their legislatures they don't want
to backstop these promises. That's what happened in Colorado,
South Dakota, Minnesota, and probably in New Jersey. While
there's litigation challenging the authority of legislatures to
make changes, the fact remains that taxpayers are saying, "Don't
do it." He warned against putting Alaska in that position.
SENATOR MEYER asked if the state had seen higher turnover rates
since the DC retirement program was put in place because the
testimony indicated that would be the case.
MR. BARNHILL answered no. In FY06, the year before Senate Bill
141 went into effect, the separation rate was 15 percent. That
reflects the fact that Alaska will always have a fair amount of
transition in its working population. In FY11 the separation
rate was 12 percent. He opined that the poor economy in the
Lower 48 was the primary reason for the lower transition rate;
employment opportunities in Alaska were relatively better even
under a defined contribution plan. It's reasonable to assume
that the number will again climb to 15 percent once the economy
improves. He said he couldn't speak to municipalities or school
districts over that time period. He offered to provide the link
where DOA's Division of Personnel posts the state employee
transition report.
SENATOR MEYER observed that a few municipalities did not join
PERS and still had their own programs.
MR. BARNHILL responded that about 160 employers participate in
PERS and the TRS population is comprised of about 60 school
districts. The State of Alaska is a PERS employer.
SENATOR MEYER asked how SBS factors into the total retiree pay.
MR. BARNHILL explained that in the early 1980s after the federal
government gave state and municipal governments the opportunity
to opt out of Social Security, Alaska state employees voted on
the issue. At that time the FICA or Social Security deduction
was about 6 percent with an employer match and the combined
total went into the Social Security Trust Fund. The SBS program
was similarly structured; six percent was deducted from the
employee check, the employer matched it and the total was placed
in an account that the employee can manage.
He suggested that it's a stretch to say that folks in Alaska
don't have a safety net. If another vote were held today, he'd
be stunned if the majority voted for that so-called safety net
and surrender their SBS account.
SENATOR FRENCH commented that the vote he'd find more
interesting is whether PERS Tier IV employees and TRS Tier III
employees would vote to join a defined benefit retirement
program or stay in the defined contribution program. He pointed
out that when the vote took place in the 80s, the Social
Security-type program under SBS was PERS. That was the defined
benefit retirement like Social Security.
MR. BARNHILL responded, "If the Legislature wants to put some
sort of referendum in the bill and it passes, it would be
interesting to see."
REPRESENTATIVE LYNN asked if he's disputing Mr. Fornia's
testimony that defined benefit plans are more economical for
Alaska and that the costs are comparable to PERS Tier III and
TRS Tier II. He observed that if DB plans are more economical,
there would be less chance of the state running out of money if
it changed back.
MR. BARNHILL said he believes that Buck Consultants' revised
fiscal note will show that normal costs for the proposed new DB
tiers will be less. That's because the system-paid medical
benefit is deferred five years until age 65 when the retiree is
Medicare eligible. However, the experience over the past 20
years with DB plans shows that you can't look at just normal
costs. You have to look at the total cost, which includes past
service costs.
Normal costs are the calculated amount that the employer and the
employee have to contribute and save now in order to pay the
benefits that will come due later. That calculation relies on
dozens of assumptions that the actuary makes in conjunction with
the ARM Board. If all the assumptions are borne out, the system
never has to pay any more than the normal costs. But that never
happens and it certainly hasn't happened in the last 20 years
here in Alaska.
CHAIR WIELECHOWSKI asked if the administration agreed with the
three reasons that Mr. Fornia gave that a DB plan was more
economically efficient. Those were longevity risk pooling,
maintenance of portfolio diversification, and superior returns.
MR. BARNHILL replied he was building to the punch line. He
pointed out that if you were to hit the reset button back to
2006 and create a new defined benefit tier that assumed an 8.25
percent return, that assumption would have already been
frustrated. The system has had losses in 2 of the 5 fiscal years
since FY07. It lost 3 percent in FY08, 20 some percent in FY09,
and it gained 21 percent in FY11, but the average return in that
5-year period was 4 percent. His perspective is that SB 121
creates a new system that will start with an unfunded liability.
MR. BARNHILL said he agreed with Mr. Fornia that by virtue of
pooling DB plans have been able to outperform because they're
less expensive to administer. It was for that reason that DOLPF
enacted regulations for DC plans to require that employees
default into different types of defined contribution options,
one of which is the target date option. This option addresses
the concerns. First, it provides pooling. Second, employees
don't need investor education. Target date plans project when an
individual is likely to retire and adjust the asset allocation
in the account automatically as the individual gets older. He
said he believes the target date plan may be one reason that the
DC outperformed the DB in FY11. These plans address the concerns
so it's not fair to say that they are issues going forward.
11:43:17 AM
MR. BARNHILL said he was gratified by Mr. Kiehl's balanced
presentation and pleased that he recognized the benefits of the
DC plan. Everyone can probably agree that DC plans are
attractive to folks that have no intention to stay in a job. The
disagreement is whether there is much benefit to an employee who
stays for a long period of time in a DC plan. He challenged the
assumption that it's a bad deal because it ignores the miracle
of compounding in an investment portfolio. Even at low rates of
return, the number gets fairly big when money is invested
regularly over a period of 35-40 years.
He suggested that for the meeting in Fairbanks that Mr. Fornia
and Buck Consultants work together to develop a model of a
hypothetical employee so that the committee can look at a number
of scenarios under both a DB plan and a DC plan. He opined that
the committee will find that an employee under DC that works a
long time and invests regularly will end up with enough money to
get through retirement. It probably won't be as good as the
defined benefit but it will be enough.
CHAIR WIELECHOWSKI said he liked the idea of the actuaries
working together on a model.
SENATOR GIESSEL asked the current total of the unfunded
liability in the pension program.
MR. BARNHILL replied the FY10 valuation showed $11 billion.
CHAIR WIELECHOWSKI asked Mr. Fornia if he'd like to respond.
11:47:50 AM
MR. FORNIA pointed out that the miracle of compounding is
equally effective for the retirement system itself. The ARM
Board has a 70-80 year time horizon and it can periodically
adjust contributions as the unfunded liability goes up or down.
He said the idea that the future is uncertain is accurate. But
employees have an equally uncertain future and they have a
shorter future than the state. The philosophical question is
whether the individual or the state is better to deal with the
risk of the uncertain future. With regard to Social Security, he
reminded everyone that teachers don't have SBS. He reiterated
that he wasn't suggesting the state return to the Social
Security system. It tends to favor lower wage workers and for
Alaska it would be a less effective use of the money than either
DB or DC. He agreed that target date funds accommodate some of
the concerns put forth in his report but they still have higher
expenses than a pooled DB plan. The 401(k) industry is working
to get through the inherent hurtles but they still exist and the
expenses are higher. He acknowledged that there will certainly
be people who will have made the right decision in choosing DC.
Finally, he said he'd be happy to work with Buck Consultant on a
model.
CHAIR WIELECHOWSKI thanked the participants.
11:52:25 AM
There being no further business to come before the committee,
Chair Wielechowski adjourned Senate State Affairs Standing
Committee meeting at 11:52 a.m.
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