TRS Too Big To Fail

Teachers Retirement System of Texas is ‘too big to fail’

The legislation, which would take effect Sept. 1 if adopted, would also give the agencies the “authority to establish alternative retirement plans.”

An alternative retirement plan is, according to the bill, a “defined contribution” or “hybrid retirement plan.” That basically encourages and gives the system the power to move newly hired teachers and state workers from a traditional “defined benefit” pension plan to a 401(k)-style plan.

The effect would be to shift the burden of paying for retirement, somewhat, from taxpayers to employees. The bills, as written, wouldn’t affect existing employees or retirees. The state’s current pension plans provide guaranteed lifetime benefits based on an employee’s years of service and final salary.

With a hybrid plan or defined contribution plan, a good deal of a teacher’s future retirement income would depend on how much they contributed to their 403(b) and how well they invested that money.

This weighs heavier on public school teachers in Texas than other professionals, in part, because the vast majority cannot participate in Social Security. They also tend to earn less – 17 percent less – when compared with other professionals with comparable education and experience, according to the Economic Policy Institute. Adding insult to injury, they generally get bad retirement advice – as I wrote about last week.

I don’t blame teachers, their union, and groups like the Texas Public Employees Association and Texas Retired Teachers Association, TRTA, that oppose the bills.

Tim Lee, executive director of TRTA, told me that Texas lawmakers received an estimated 120 thousand text messages from people worried about a hybrid plan. Lee regards a shift to a hybrid system – even for only new hires – as undermining the strength of the entire TRS.

It would cause his organization to rethink their strategic approach to everything, including whether to advocate for joining the Social Security system. They don’t currently, but might in the future if a hybrid system is adopted and weakens TRS.

And yet (and here’s where I become a target for the next 10,000 angry text messages from teachers), Bettencourt has an important point to make by filing these bills.

“Long term, what I hope to do is start a discussion about the real cost of pensions,” Bettencourt told me.

As a finance guy, I want my public officials staying up late worried about public pensions, seeking ways to reduce their systemic risks. TRS has more than 1.5 million members, more than $130 billion in net assets, and represents the ultimate “too big to fail” public pension plan in Texas.

Reasonable people can disagree on the following, but on the four biggest measurements of a pension plan’s health, the TRS according to its 2016 audit is worse off than we’d wish for, although maybe still within acceptable bounds.

1. We want at least an 80 percent “Funded Ratio” – the percent of money owed to pensioners that’s covered by money already in the investment portfolio. TRS is now at 79.7 percent. A little too low.

2. We want less than 30 years to “amortize,” or pay down, pension debts, and would prefer 15 to 20 years. TRS is at 33 years. Too long.

3. We would prefer a low, or conservative, annual return assumption, compared with a national average of 7.5 percent annual return assumption in pension plans. The TRS assumes an optimistic 8 percent return. Too high.

4. Finally, the unfunded liability part of the pension – money owed to retirees but not yet paid for – has grown from zero in the year 2000 to about $35 billion this year. Too big.

None of this spells catastrophe today, in my view. It just means the TRS doesn’t, currently, have any room for error. As a teacher, if TRS is my main safety net, these numbers do not make me comfortable.

Actually, let me restate: Were I a young teacher, or a prospective teacher facing a new career, I would be livid about those TRS numbers.

Older teachers – those close to retirement or already retired – are probably fine and realistically won’t see their benefits chopped to make up any future shortfalls. Rule changes in pensions always hurt the young.

In fact, one of the main flaws of the TRS design is this “generational inequity” in favor of older teachers rather than younger teachers, according to Josh McGee, who is both a pension-plan economist for the John Arnold Foundation and the chairman of the Texas Pension Review Board. McGee has written extensively about how traditional pensions like TRS strongly favor veterans over younger teachers, especially those who change jobs or leave the system at any point in their career.

Defined benefit plans are most generous to veterans with more than 20 years of service, but McGee cites figures that only 28 percent of teachers nationwide stay for that long. The early departing teachers lose many of their hard-earned retirement rewards.

A defined contribution plan or hybrid plan theoretically could allow teachers the chance to self-fund part of their retirement, which could accompany them to another career or another location.

Then there’s the issue of pension plan solvency.

“When you look around the state, the Dallas (Police and Fire) Pension is a smoking crater at this point in time. Houston is not far behind,” Bettencourt noted, referencing existing problems in public employee pensions in the state’s largest municipalities.

I personally regard public pension plans as ticking time bombs – not because the managers of TRS are bad, or because anyone is doing anything particularly wrong.

It’s just that small decisions to underfund a public pension can, over decades, compound into giant problems. Make a few wrong assumptions – the 8 percent return assumption seems way high to me – and you end up with a big fiscal hole in the state.

A safer approach for teachers and taxpayers, in fact, might be to slowly shift some of the risks away from taxpayers. Currently 13 states have a version of a hybrid system of the type that Bettencourt’s bill would allow, while 38 states continue with a “defined benefit” plan like Texas’ current TRS.

It’s a debate worth having now, before anything bad happens.

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