No Extra Money in the Fund

“There is no extra money in the fund” for a pension Cost Of Living Adjustment (COLA). That’s the analysis from the State Employees’ Retirement System (SERS), not the Commonwealth Foundation or any other organization opposing the proposed $10.4 billion pension COLA increase. Given that Public School Employees’ Retirement System (PSERS) financials are less favorable than SERS, one could just as easily attribute the quote to PSERS.

COLA advocates refuse to recognize the fact that the prospects for the pension funds earning the benchmark of 8.5% per annum going forwarding will be challenging. Just ask PSERS and SERS, 2008 is already proving to be a difficult year. Any shortfalls will require funding by taxpayers in the form of higher property taxes and other statewide tax increases.

Clearly, some don’t care. To quote one legislator, “what this costs is not important to the supporters”. Such a mindset obviously applies to the 150+ co-sponsors in the House. A press spokesperson from the governor’s office recently asked the logical question inquiring as to exact revenue sources to support these proposed additional funding requirements.

The truism remains that when you raise taxes there is a corresponding adverse economic impact. Then we ponder the question as to why individuals and corporations seek more favorable economic environments in other states?

Benchmarking to other public pension systems is irrelevant unless you are directly recruiting your workforce from other states. COLA advocates also do not mention that many other public pension systems are a fiscal disaster. Moreover, ad-hoc pension increases hardly seem to be a relevant recruiting tool. Finally, based on experiences in the Pennsylvania private sector, COLAs are an anachronism since they are considered unaffordable.

We often hear about the significant employee contributions. Employee contributions of 6% to 7.5 % of pay are significant even ignoring the 4% annual interest credit. The problem, however, is a lack of consistency on this point. Most members (I am told over 90%) withdraw their significant accumulations at retirement resulting in a corresponding lower pension—most financial advisors would endorse this move. However, PSERS and SERS pension statistics (which are frequently cited referencing the average pension paid) do not recognize the withdrawals of members’ significant contributions. So perhaps the COLA could be funded out of these significant contribution withdrawals, instead of additional taxpayer liabilities.

Actual investment returns which are better or worse than the 4% interest credited to members is simply a feature of the plan as the taxpayers ultimately bear the investment risk. If one wants to fully participate in investment risk, the suggestion would be to set up an IRA or otherwise advocate for a 401(k) type plan for all new hires, which would also be good public policy.

COLA proponents believe any pension surpluses belong to members in the form of better benefits, but pass along any pension deficits to the taxpayers. In other words, all the financial risks belong to the taxpayers and all the financial gains belong to the active and retired public employees.

The problem is there is too much politics in public pensions. The dilemma is exemplified by the legislature’s COLA supporters who also favor the elimination of property taxes. However, how do you effectively eliminate a tax you are also trying to increase? Obviously you can’t.

It is remarkable how far we have strayed from good pension funding principles, since pensions are structured to be completely funded during the career of each employee—not in the years following their retirements.

In addition to pensions, certain public employees receive retiree health care benefits at taxpayer expense. Some of these programs do not require any retiree premium cost-sharing. The state has recently recognized an $8.5 billion unfunded retiree health care liability facing the Commonwealth for certain active and retired state employees. In the near future, additional unfunded health care liabilities will be computed by cities and school districts which will only add to the taxpayers’ costs for retired government workers.

The existing pension liabilities and the burgeoning health care liabilities are already more than lawmakers should be willing to handle right now. Those funding deficits will already require government to take from one taxpayer to give to another in the very near future. Layering on another liability in the form of a pension COLA will only exacerbate these man-made financial crises when we know “there is no extra money in the fund”.

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Richard C. Dreyfuss is Senior Fellow with The Commonwealth Foundation, ( an independent, nonprofit public policy research and educational institute based in Harrisburg.