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Retirement: Why the Next Generation Needs a Plan

“It’s the year 2043 and Cheryl, a 60-year-old public works employee with 30 years of service, has just reviewed her retirement savings with a financial adviser. She is surprised that she will need to work several more years to reach her retirement income goals. “My father retired from city government after 25 years and had a comfortable retirement,” she said ruefully. ‘What happened?'”

That’s a great question. Between 2009 and 2012, 45 states have made significant changes to their retirement plans. Elizabeth Kellar the President and CEO, Josh Franzel is the Vice President for Research at the Center for State and Local Government Excellence. The also co-wrote the article, “Why the Next Generation Needs a Plan.”

Kellar and Franzel sat down with Chris Dorobek on the DorobekINSIDER program to talk about the vast number of changes that are happening to retirements at the state and local level.

“Ever since the recession the pace of change for state and local government employees has been picking up. Between 2009 and 2012, 45 states have made significant changes to their retirement plans. Certain practices such as using overtime as part of the calculation that goes into your pension, those kinds of practices have really fallen out of favor. By in large you are seeing those disappear,” said Kellar.

What is happening out there?

“It is a situation where both at the state and local level, you are seeing human resource executives, finance professionals other elected and appointed officials, looking at their costs going up. We have seen increases in defined benefit costs, healthcare costs in the last 10 years. In reaction to that increase, these retirement plans are making changes to shift more of the cost from the employer to the employee,” said Franzel.”

Trends to watch:

“One of the trends we have been watching, and with some concern, is that the number of years required to vest in a retirement plan has been going up. In some cases that means going up from five years to ten years. We are concerned about that for a variety of reasons, not the least of which is retaining employees,” said Kellar. “We have always had some difficulty attracting people with the right skill sets and experience for certain jobs. We have seen that list grow every year. Our Center does a survey annually of human resource professionals, what we find is the list is growing every year of the types of positions that they are having trouble recruiting.”

At the federal level there is a three pronged approach to retirement, is that model working at the state and local level?

“You have a situation where some state and local workers are not covered by social security, so that takes out one of the prongs. But you are also seeing a reductions in the benefits from traditional defined benefit pension plan, so our Center has been looking at the growing importance of the supplemental defined contribution plan. We are certainly seeing and more emphasis being being placed on having the supplemental plans play a larger plan in the overall structure of retirement savings,” said Franzel.

Detroit filed for bankruptcy. They didn’t pre-fund their retirement. That means retirements are going to be changing, that is scary for retirees especially.

“That is a big problem. I personally hope a way is found in the case of Detroit, that the retirement income isn’t going to take the big hit. When we looked at the reasons at places that have sought bankruptcy protection, the pensions are a factor, but not a primary factor. The most important factor has been economic conditions and fiscal mismanagement. This was true in Detroit as well as Stockton, if you want to pinch an obligation bond, the idea is it might reduce your cost, but in reality in both cases, it increased their cost. Sometimes desperate local governments get talked into something that turns out to be a bad bet,” said Kellar.

Kalamazoo, Michigan faced a similar problem, but they found a solution. What was it?

“Kalamazoo is a good example, if you take the long term view and you have a good plan and you stick to it, even if you are fiscally distressed as they are, you can remain over 100% funded. It can be done, but it requires a level of discipline and sophistication on the investment side to do it right. Kalamazoo is an example of the importance of good management. Whether you have a defined benefit or a defined contribution plan, that discipline of contributing to it consistently over time is what makes it work,” said Kellar.

Is variety important for retirement plans?

“In terms of preferences for the type of retirement plan it really does vary greatly. When we have done case studies on various local and state governments around the country a lot of it does depend on the local context about the decisions of what type of plan to offer is being made. One of the things that is important to keep in mind retirement benefits are used as a recruitment tool, but it is also important to keep in mind that the role they play in retaining folks and then ultimately retiring folks. It is important to keep in mind the lifecycle of retirement plans,” said Franzel.

Health care costs are also changing, right?

“On the retiree healthcare side we are seeing a lot of change. A lot more cost shifting from the employer to the employee. When you look at the number of state and local governments that actually offer retiree healthcare we are seeing that decrease even over the last five or six years,” said Franzel.

What should govies be doing to prepare?

  • “Employees should be seeking advice earlier in their careers about what amount of savings they are going to need to have to maintain their lifestyle. It is not going to be possible to retire as early in this generation as with other generations. This is partly because the benefits are not as generous, they may have more obligation to pay for health care costs. There is a whole host of reasons. You need to be doing constant checks,” said Kellar.
  • “On the employer side I think it is important to provide financial education. That way people can make informed decisions that can put them on the right track,” said Franzel.
  • “If there is an opportunity when you are first hired to get into a supplemental savings plan, do it on day one so you never miss the income,” said Kellar.

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Mark Hammer

The Brookings Institution had an excellent panel discussion last fall on whether the nation’s deficit woes could be successfully addressed by moving the pensionable age (which is, rightly or wrongly, treated as isomorphic with age-at-retirement) up a few years. The short answer offered by the economists on the panel was “No”, but the surrounding discussion was fascinating and provocative.

One of the more interesting points raised was that, despite pensionable age moving upwards, when you factor in changes in average lifespan, and changes in age at full entry into the labour market, even if pensionable age were bumped up to 67, people would still be working for a proportionately shorter period of their lives than they did 40 years ago. Which is kind of ironic since we tend to interpret state/provincial/federal rumblings about moving pensionable age upward as some kind of deprivation, rather than a simple logical adjustment.

The “plan” one has to come up with, as individual, whether in the public sector or private sector, is how the number of income-earning years you anticipate having are going to defray expenses for the number of non-working years you anticipate having. If the “plan” is to go to grad school, finish up at 27, start a family in your mid-30’s (who likely will not stop being de facto dependents until your mid-to-late 50’s), and somehow fit in 25 or more years of retirement, then one is planning to squeeze 25+ years out of what probably amounts to 10-15 peak earning years (once those major family-related expenses and school debtload are tended to). That’s one heckuva fabulous return on whatever you’ve invested, and one heck of an obligation on the part of whatever pension plans you are connected to.

Not that people have to plan around living off their saved income, eschew having a family, or to suggest that the burden lies entirely with the employees themselves and employers play no role. Rather, I think they all need to sit down and figure out how all those very naturally-occurring things – wanting to own a home, have a family, have a modicum of pleasure in life while you save, live a long time – are going to fit together. Part of that recipe, I imagine, would come in the form of employers figuring out what aspects of their relationship with employees and “scaffolding” structures in the workplace, would permit employees to free up more saving years. That may also include relaxing educational requirements, and providing more on-the-job training, so that people can enter the labour force younger (with less debtload), start families and home purchase earlier, and allocate more of those peak earning years towards savings and establishing a secure base. After all, we may be living longer, but it’s not like we are that much healthier and robust at 67, now, than we once were. There are some real limits to how much one can accommodate the financial requirements of living longer by moving pensionable age upwards. At a certain point, you have to figure out how to stop the period between workforce-entry and exit from shrinking too much.

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Amanda Parker

Mark, the Brookings panel sounds really interesting. I’ve always felt like I was saving a lot but looking at the number of peak earning years vs. retirement years is definitely a new perspective. Thanks!

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Lori Winterfeldt

I agree with the premise that employees need to take a more active and earlier role in their retirement planning. However, I’ve been frustrated at the lack of organized, accessible resources available to assist in this task. I have had trouble identifying reputable financial planners specializing in working with federal employees, as I believe that we have very specific needs for guidance that are different than those in the private sector. I’ve come across individual organizations or companies proposing to offer such services, but I’m never sure if I can trust them or if they do indeed work with federal employees. Any suggestions on how to identify such reputable specialists would be extremely welcome!

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Robert Longley

One of the problems I’ve seen in many government agencies is that they often resemble a champagne glass structure in terms of years of services. There is a fairly wide base of employees in the 0-5 year range group. Then they start to notice that their career progression slows. That’s because people stay for 25-40 years but don’t always move into senior management positions in the process. I’ve seen organizations where 80% of the staff were within 5 years of retirement or above. Back at the bottom rung workers quickly realize they have to change agencies or leave government all together to move ahead. So you quickly end up with a work force that has a large number of inexperienced workers at the bottom, a small number of workers who thought they could make it to the next level, and then a group of homesteaders who will require a uhaul to clear out their office or cubicle when they eventually leave. This makes for a very expensive static workforce.

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Mark Hammer

Robert,

The gotta-move-out-to-move-up pattern is pretty common. It can also be pretty demotivating, and undermine the acquisition of organizational knowledge. As Jeffrey Pfeffer outlines in the now classic paper “Fighting the war for talent is hazardous to your organization’s health” ( http://faculty.washington.edu/janegf/warfortalent.html ), the “glorification of outsiders” carries the implicit message that one simply cannot rise within the organization, so why bother learning about it.

I’ve been working on government-wide employee surveys for 15 years now, and one of the things we see is that job search among public servants does tend to die down after a few years’ tenure. Unfortunately, we don’t drill down any further, but we do see that those with <3 years of service apply for jobs at a much higher rate than those with 3-10, and 11-20 years service. Part of that is because the entry level jobs people initially get may be a poor match to their training, interests, and competencies, so they are looking around for a better fit, or maybe just an easier commute or work environment or schedule that meshes with their spouse’s and daycare pickup. And part of it may be because after a while people shape their working life and aspirations around a particular job and the wanderlust dissipates. Part of it may be because the decrement in quality of life once they move into management is not wholly justified by the increment in pay, so they stay at the level where they are. And some folks (myself included) simply have no desire to manage others. Folks in I.T. or the sciences are poster children for that. Candidates for IT and science managers are hard to find.

As for the champagne glass age distribution, that is true of many public services around the world. Downsizing of public sectors and hiring freezes were all the rage in the mid-to-late 90’s, (coming back into fashion again, too), and resulting in a steadily increasing average age/tenure of public servants, not to mention a gamut of succession-planning challenges.

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