How Much Have We Lost?

Sunday, March 18, 2012

VRS Changes Part I: How Did We Get Here?

One little known part of Virginia's government that affects a lot of people is the Virginia Retirement System (VRS). 

Currently, VRS is mostly a defined benefit pension system that provides retirement benefits to most state employees.  Hundreds of local governments also participate in VRS because it is cheaper than setting up their own retirement plan.  There are approximately 570 government units that participate in VRS including Fairfax County Public Schools. 

Police, fire, correctional, and other hazardous duty employees do not participate in VRS.  They have separate retirement plans called SPORS (State Police) and VaLORS (Va. Law Officers).

As with most businesses, payroll is the #1 expense and so VRS has a significant effect on the state budget and taxpayers. More importantly, the benefits that VRS pays also affects thousands of teachers, professors, and other state and local government workeres and their families.  VRS changes are a big deal. 

Generally speaking, there are two kinds of pensions - defined benefit and defined contribution.  Defined benefit pensions calculate your benefits based upon the number of years you have served and your high years of compension.  Defined contribution plans are based upon how much money you put in - usually through a voluntary deduction from your paycheck (e.g. a 401(k)).

Some studies estimate the national public pension gap as over $1 trillion.  VRS is also underfunded, but not nearly as much as other states.  The "unfunded liability" is at least $24-27 billion (the number depends on the stock market, assumed rates of return and other variables). 

This is due to several reasons.  First, the stock market has not performed well over the last ten years.  In 2001, VRS was funded at 104% of its anticipated liabilities. 

Second, VRS is managed by a group of trustees.  Each year, they consult with actuaries and request an appropriation every year.  The General Assembly has refused to contribute monies suggested by the actuaries for about 90% of the last 20 years, instead choosing to contribute less and appropriate funds to other prorities.  In the last budget cycle, the General Assembly contributed $0 and agreed to pay $630 million back over 10 years (I argued against this).

Third, people are living longer and VRS must pay benefits for a longer retirement period than previously. 

The basic "core benefit" was calculated by taking 1.7% (also called "the multiplier) of your average high three years and then multiplying it by an employees years of service credit.  There are other factors such as when an employee retired early.

In 2010, the General Assembly some new rules for all people hired after July 1, 2010.
  • Benefits are based on your high five years, instead of your high three.
  • State employees must pay in 5% of their compensation (formerly the state paid their contribution).
  • Retirement age was changed from 65 to "normal social security retirement age."
  • COLA is first 2% of consumer price index (formerly 3%) and 1/2 of the remaining increase up to a maximum COLA of 6% (formerly 5%). 
We also made major changes to the judicial retirement system which was calculated separately given that most people become judges much later in their career.  These changes were not enough to address the unfunded liability.  Although I agreed with some of the specific changes, I voted against the entire bill because I did not think it was fair to have a two-tiered retirement system and it also significantly undermined our ability to recruit judges.

Over the last two years, the Joint Legislative Audit and Review Commission (JLARC) has studied the status of VRS.  In December 2011, they issued a report with recommendations.  JLARC suggested several options including:
  • Mandating a recommended contribution each year instead of allowing the General Assembly to contribute less. (Page 51)
  • Require a fiscal impact analysis at any point the General Assembly desires to contribute less.  (Page 51)
  • Require changes to benefits be shared by employer and employee.  (Page 67).
  • Calculating benefits for all employees (not just post 7/1/10 hires) upon a "high five" years instead of a "high three." (Page 126)
  • Limiting the annual increase of COLAs.  (Page 126)
  • Stopping COLAs at a certain age.  (Page 126)
  • Changing the multiplier for new employees to 1.6 instead of 1.7.  (Page 126) 
  • Create a plan that was both defined benefit and defined contribution or a "hybrid" plan.  (Page 135)
The Governor proposed to inject about $2.2 billion into VRS mostly through local government contributions.  Many local governments saw this as an unfunded mandate that they would have to make up with higher property taxes. 

The Republican majority in the House of Delegates proposed shifting to a hybrid plan and also requiring all local governments to require all of their employees to pay in 5% and give them a 5% raise to cover their contribution. 

In my next column I will cover what happened and my views on the changes.

2 comments:

  1. "The Republican majority in the House of Delegates proposed shifting to a hybrid plan and also requiring all local governments to require all of their employees to pay in 5% and give them a 5% raise to cover their contribution."

    This paragraph makes no sense. If the intent is to ask employees to contribute, but make local government raise salaries to make up loss in employee paycheck that does not happen under this plan. One does not make up a % deficit by increasing the original amount by the same percentage. Lets say I make $100, if you increase my pay 5% to $105 then I would have to pay $5.25 to VRS and my salary in effect is $99.25. So I take home less money. I do not break even. This is basic 8th grade math.

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  2. The hybrid plan helps to make up for the unfunded liability by reducing VRS benefits paid to state workers. By making part of the plan a defined contribution plan, that reduces VRS' exposure.

    Additionally, the local government 5%-5% increase/match is complicated beyond the reasons you've identified.

    First, by increasing employee salaries, local governments have to pick up the employer-side employment taxes - 7.5%+/- (which are a lot of money given the number of employees involved.

    Second, by increasing their salary by 5%, the defined benefit portion has to pay out benefits calculated from a 5% higher salary. If they employer would simply throw more money in to fund the liability, the liability would be funded, but the benefit woudn't go up.

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