Study Supports DB Plans Over DC Plans for Teachers

A new report finds that teacher defined benefit (DB) pension plans play a critical role in retaining educators while also providing greater retirement security than defined contribution (DC) or 401(k)-style retirement accounts.

The research report, “Teacher Pensions vs. 401(k)s in Six States: Colorado, Connecticut, Georgia, Kentucky, Missouri and Texas,” from the UC Berkeley Center for Labor Research and Education (Labor Center) and the National Institute on Retirement Security (NIRS) and authored by Dr. Nari Rhee, director of the Retirement Security Program at the UC Berkeley Labor Center, and Leon (Rocky) Joyner, vice president and actuary with Segal Consulting, says most classroom teaching is performed by long-career teachers who are well-positioned to benefit from a traditional pension.

Teacher turnover patterns reflect the powerful role of pensions in retaining experienced teachers. Attrition is high in the first few years after hire, but falls off sharply and stays low through mid-career. Attrition spikes at the specific retirement ages of each pension system.

Teachers in the six states studied will typically serve 25 years in the same state, and leave service at age 58. Two out of three teachers (65%) will teach for at least 20 years in the same state. One out of ten teachers will leave before vesting, and nearly seven out of ten will stay until at least early retirement age. The remaining two out of ten teachers will vest, but leave before retirement age.

The study evaluates pensions against hypothetical 401(k) plans, taking into account the teaching workforce as a whole and comparing benefits across plan types on an apples-to-apples basis. For each of the six states in the study, researchers first analyzed teacher turnover patterns and projected the final tenure—years of service at retirement or separation—for the current teaching workforce, using retirement system actuarial assumptions. Then, for every possible combination of age and service at exit, researchers compared benefits under the existing teacher pension (using the least generous pension benefit tier, where applicable) and a hypothetical 401(k) with the same contribution rate as the pension.

The study finds 77% of teachers in the six states will work long enough in the same retirement system to earn benefits of greater value and security from the lowest-tier pension, compared to an idealized 401(k) with low fees and no investment mistakes. Compared to a slightly more realistic 401(k) with typical individual investor behavior, the lowest-tier pension provides greater benefits to 81% of teachers in the six states.

The share of teachers who are better off with their pension than an idealized 401(k) ranges from 71% in Georgia to 84% in Connecticut. Colorado Public Employees’ Retirement Association (PERA), which offers greater portability of benefits than other systems, offers superior benefits than a 401(k) for 81% of teachers, despite shorter projected careers than in other states.

Conversely, across the six states in the study, 23% of teachers will not accumulate enough service in the same retirement system to earn pension benefits from the lowest-tier pension that are greater than benefits from an idealized 401(k). Only 19% are better off with a realistic 401(k) than with a pension. This includes 10% of all teachers in the six states who will leave before vesting and 13% who will vest, but leave well before retirement eligibility.

According to the study, for the 68% of teachers who reach early retirement age, pension benefits will significantly exceed idealized 401(k) benefits. For example, early retirement pension benefits for a teacher with the median hire age are worth twice as much as an idealized 401(k) in Colorado, Kentucky, Missouri, and Texas. In Connecticut and Georgia, early retirement pension benefits are worth 50% and 30% more, respectively, than an idealized 401(k).

The study found that most teachers would require substantially higher contributions to realize the same retirement income in a 401(k) as the lowest-tier pension. Based on a conservative modeling for a typical teacher with the median age at hire and median projected service, it would cost 20% more to fund a 401(k)-type plan to equal a typical Georgia teacher’s pension benefit. For those in Colorado, Connecticut, and Kentucky, it would cost roughly 40% more. For those in Missouri and Texas, it would cost twice as much. The report notes that differences between states reflect variation in career patterns and pension benefit provisions.

Based on a full-career teacher—hired at age 25 who works 30 years in the classroom—providing the same level of retirement income through a 401(k) account would cost roughly twice as much in Colorado, Kentucky, Missouri, and Texas; and about 60% more in Connecticut and Georgia. “The main reason why it would cost more to fund a typical teacher’s retirement through a 401(k) is that a pooled pension is simply more efficient than individual investment accounts as a means of financing retirement for a large, multi-generational workforce—as a multitude of studies have shown,” the report says.

Speaking to those who work on teacher retirement benefit policy, the report says that while potentially benefiting short-service teachers, shifting to DC or 401(k)-style plans will decrease the pre-retirement and/or decrease the post-retirement income of teachers. According to the report, this is because teachers will have to reduce their current consumer spending if they save more funds from their pay to preserve their level of retirement income and/or reduce their future consumer spending when they retire in the state with lower benefits.

In 2011, NIRS executive director Diane Oakley testified before the U.S. Senate Committee on Health, Education, Labor & Pensions that defined benefit pensions provide substantial economic stimulus for virtually every state and town across America. NIRS estimated that 2009 expenditures from public and private sector pension plans had a total economic impact of $756 billion; supported more than 5.3 million American jobs; and supported more than $121.5 billion in annual federal, state, local tax revenue. 

“Pensions are a ‘high five’ for the U.S economy: investing $5.35 trillion in assets for the future, keeping some five million retired Americans out of poverty, supporting 5.3 million American jobs, and delivering retirement income at nearly 50% lower cost than individual defined contribution retirement accounts,” said Oakley, during the hearing. “When retirees have a stable and secure pension check, they don’t stick it under the mattress. They spend that income goods and services in their local communities, leaving a substantial economic footprint from coast to coast. That regular spending is critically important today as the economy struggles to recover. In contrast, retirees without a pension may be fearful to spend given the impact of the market crash on individual retirement accounts or because they worry about outliving their savings.”

The current study report also recommends that states concerned about equity between short- and long-term teachers should consider restoring or augmenting portability provisions in existing pensions. Such provisions include service credit purchases, pension system reciprocity, employer match on employee contribution refunds, and giving all employees the option to use their contributions to purchase lifetime income. Researchers say Colorado PERA stands out as a system that provides attractive benefits to teachers and other public servants regardless of tenure.