Changes to Michigan’s teacher retirement system are a “positive” development because state and local entities “no longer carry the entire burden of investment performance risk for new employee pensions,” according to an analysis by Moody’s Investors Service.
Gov. Rick Snyder signed legislation this month that aims to steer new public-school employees into 401(k)-style retirement plans. The new law goes into effect in February.
As part of the legislation, a revised “hybrid” pension plan was created that new employees can opt into. The plan — a mix between a traditional pension and a 401(K) — requires slightly higher employee contributions than the previous pension plan and places greater risk on employees if the plan becomes underfunded.
“Employees in the new hybrid plan will be required to cover half the associated costs if unfunded liabilities materialize, and the new hybrid system will be closed if it falls below a funded ratio of 85 percent,” the Moody’s analysis says.
That provision has drawn criticism from the Michigan Education Association, the state’s largest teachers union.
In a statement issued after Snyder signed the legislation, Steven Cook, the president of the union, said: “Uncapped cost increases in the event of shortfalls in the new hybrid system put unknown levels of risk onto new educators and school districts.”
“The legislation fails to provide stability in the hybrid system and fails to pay down the unfunded liability so often decried by politicians,” Cook said, referring to the $29.1 billion unfunded liability carried by the retirement system.
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Supporters say the new law, while not immediately reducing the unfunded liability, helps protect against future debt by steering new employees into 401(k)-plans.
The Moody’s analysis says pension payments have been a growing burden for schools. In 2007, for example, employer pension contributions accounted for nine percent of a district’s payroll. That had grown to 27 percent in the fiscal year that ended Sept. 30, 2016, the analysis said.
Michigan’s overhaul of its teacher retirement system is the “latest example of a state and local governments shifting away from traditional defined benefit pension risk,” Moody’s said.
“Most state and local government continue to offer defined benefit pensions, in contrast to the private sector,” the analysis said. “However, a small but growing number are moving toward the defined contribution model for many newly hired employees.”
The analysis pointed to states like Alaska, which replaced traditional pension plans with 401(k)-style plans a 10-years ago, as well as Oklahoma, which “provides only a defined contribution plan for many of its new employees hired after 2014.”