Springfield Taxpayers on the Hook for “Employee-Funded” Pension?
The union representing Springfield police officers is suing the city government in an attempt to force the city, and therefore taxpayers, to take responsibility for a troubled pension fund. Regardless of the merits of the police union’s case, it’s worth mentioning that this whole situation could’ve been avoided if the city offered defined contribution pension plans—where the city regularly contributes a set amount to a retirement fund controlled by each employee- instead of defined benefit pension plans—where the city promises to pay a set amount upon retirement.
Some background: When Springfield police and fire department employees won increases to their pension several years back, they agreed to pay for it themselves through employee contributions. However, the cost of the benefit has ballooned as the number of people paying into the pension fund has shrunk. Because the pension is a defined benefit plan, growing unfunded liabilities now put the entire pension fund at risk. In this case, taxpayers may end up paying for a benefit they were told they wouldn’t have to cover.
Springfield is not the only municipality facing a defined benefit pension with growing unfunded liabilities. According to SMI’s 2016 study on the funding of Missouri’s state and local pension liabilities, the average public pension could be between 48 and 59 percent underfunded. According to that same study, total unfunded liabilities for Missouri’s public pensions could be as high as $89 billion.
In theory, a defined benefit pension plan can be fully funded and operated in a sustainable way. But in practice, elected officials tend to promise more than they can deliver, and defined benefit pension systems can run into problems years or even decades after they were put into place.
For cities that want to avoid issues like the one facing Springfield, making the switch to a defined contribution plan might be the way to go. With a defined contribution pension, the city would make regular contributions into an employee-managed retirement account throughout the employee’s career. When the employee retires, he or she would draw from the money deposited into that account plus or minus any investment gains or losses. Underfunding situations like the one in Springfield would be impossible, because a defined contribution pension is necessarily and by definition fully funded.
A defined contribution pension benefit is not a cure-all, because benefits already accrued will have to be paid out pursuant to the older defined benefit plan. But switching to a more sustainable benefit system might keep a potential problem from becoming a catastrophe.