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PSPRS members: How to calculate what you paid in excess contributions to PSPRS

If you were wondering how much your refund from PSPRS was going to be, reader Rick Radinksy has discovered a relatively simple method of cal...

Thursday, November 29, 2012

The Khan Academy

If you do not have the Khan Academy as one of your favorites in you browser, you will do yourself a real service by checking it out and adding it.  Founded by a Salman Khan, a former hedge fund analyst, the Khan Academy is a non-profit online school dedicated to providing free education to anyone in the world.  Mr. Khan and his team provide thousands of teaching videos and exercises to test knowledge.  They have also developed tools that allow both teachers and students to learn smarter and get immediate feedback in order to track their progress through their coursework.  The Khan Academy is accessible to all ages, levels of education, and areas of interest.

I mention the Khan Academy now because there are now available videos about American civics that cover topics such as taxes, Medicare, debts and deficits, etc.  Included under the American civics tab are two videos about government pensions that many readers may find interesting.  Hopefully, they will continue to add more and get into more advanced topics of pension accounting and actuarial science.

Wednesday, November 28, 2012

Arizona Public Safety Personnel Retirement System (PSPRS) FY 2012 actuarial report

While wine enthusiasts eagerly anticipate the arrival of the beaujolais nouveau at this time of the year, others await the release of PSPRS' actuarial and consolidated annual financial reports.  The actuarial report for the fiscal year ending June 30, 2012 (FY 2012) was released to PSPRS' trustees on October 12, 2012 and recently became accessible online.  The actuarial report is compiled to allow PSPRS to calculate the employer contribution rates for the fiscal year starting on July 1, 2013 (FY 2014).

As a layman, I find many parts of the actuarial report difficult to understand, though the authors, to their credit, have done their best to make it user-friendly.  While a better analysis of PSPRS' current financial state will have to wait until the annual report is released to the public in the next few weeks, here are some of the key numbers included in the FY 2012 actuarial report:

  1. The funding ratio of PSPRS dropped from 61.9% to 58.6%.
  2. The employer contribution rate will increase from 27.18% to 30.44%.
  3. PSPRS had a market return on investments of -0.8%.  Under the 7-year smoothing that PSPRS uses to calculate yield, PSPRS produced a 3.2% return.  The smoothing technique is utilized to prevent large fluctuations in employer contribution rates from year to year.
  4. The smoothed 58.6% funding ratio would drop to 49% if the current market value of assets were used to calculate the funding ratio.
  5. The average annual retirement increased from $47,739 to $49,480.
  6. The average salary of active employees increased from $71,110 to $72,767.
  7. There are 18,542 active employees, 9,802 retirees and beneficiaries, and 1,496 employees in the Deferred Retirement Option Plan (DROP).  This means that 18,542 are paying into PSPRS, while 11,298 are not (note: some DROP participants continue to pay into PSPRS but will be refunded their contributions with interest when they retire).  This is a ratio of 1.64 active contributing employee to each retired or DROPped non-contributing indivicual.
There is little good news in this report, and the writers state that the funding ratio can be expected to continue to drop and the employer contribution rate to increase over the next few years.  For those interested in how their own employers stand, use the following link: PSPRS 2012 Actuarial Reports (By Employer).  The most important information given by these employer reports is an estimate of  how much the employer will have to contribute to PSPRS next fiscal year. 

Using the Tucson Fire Department (TFD) as an example, we can see that TFD is only 48.7% funded with about $416 million in liabilities and only about $203 million in assets.  The contribution rate for TFD will increase from 42.6% to 46.77%.  The following table shows TFD's annual contributions:

    Fiscal Year ended June 30       Annual Required Contribution

                  2003                                         $   1,724,572
                  2004                                         $   2,653,025
                  2005                                         $   4,621,390
                  2006                                         $   5,100,332
                  2007                                         $   7,260,919
                  2008                                         $   9,981,531
                  2009                                         $ 12,625,922
                  2010                                         $ 10,905,280
                  2011                                         $ 11,200,199 (est.)
                  2012                                         $ 12,271,596 (est.)
                  2013                                         $ 14,011,673 (est.)
                  2014                                         $ 16,962,862 (est.)

If the FY 2014 estimate is accurate, the city of Tucson will need to find another $3 million in order to pay just TFD's increased annual required contribution.  This extra money does nothing to enhance services, decrease call loads, or replace aging equipment, so it does not benefit Tucson residents in any way.  If revenue projections are not sufficient to make up this $3 million and the additional $5 million increase to the Tucson Police Department's annual required contribution to PSPRS, it is easy to figure out of which departments' budgets these costs will be paid.

If the 2012 annual report is anything like the actuarial report, it will be interesting reading.




Tuesday, November 27, 2012

Quinnie, the Pension Pollyanna

The previous post (A lesson for PSPRS members from Illinois' teachers) documented the perilous state of Illinois' pension system.  However, judging from this website, operated by the Illinois Office of the Governor, one might think the state's pension crisis merits the seriousness of a Sesame Street skit.

In a short video starring Illinois Governor Pat Quinn, the same man who floated the absurd idea of a federal bailout of his state's pensions, the viewer is treated to a lighthearted explanation of the pension crisis and its consequences for Illinois' citizens.  It even includes Squeezy, a cartoon python who squeezes the budgets for public safety, education, and healthcare.

While Governor Quinn's video is somewhat condescending to the citizens of Illinois, the rest of the website does include more serious facts and figures, so its goofball presentation might be forgiven if it was more honest about the sacrifices that will be required to solve the pension crisis and why the fight for reform will be so tough.  So far, all Governor Quinn is telling his citizens to do is "get involved," as if all that has been lacking so far is citizen engagement.  He needs to tell them that only a combination of tax increases, diminished government services, and retiree benefit reductions will solve the problem and that everyone must pay to clean up the mess.  He needs to identify who has traditionally fought against reform and who will fight against it this time around.  Finally, he needs to be frank about the ultimate consequences of putting off true reform: pensions defaults and bankruptcies of cities, counties, school districts, and other government entities.  If he refuses to level with his state's citizens about the stark choices ahead of them , Governor Quinn, not Squeezy the Pension Python, will turn out to be the real cartoon character.

Friday, November 16, 2012

Killing the Hostess

Arthur Scargill, the former leader of Great Britain's National Union of Mineworkers, was once asked under what conditions was it acceptable to shut down a coal mine.  His reply was that a mine could only be shut down when every last ton of coal was removed from the mine.  If it cost $100 to mine $10 worth of coal, that did not matter; or if keeping an unprofitable mine open cost the country millions of pounds, that did not matter either.  The mine existed to employ and provide income to mineworkers, all other considerations be damned.

Mr. Scargill would likely approve of the actions of the Bakery, Confectionery, Tobacco Workers and Grain Millers International Union (BCTGM) in its conflict with Hostess Brands.  After the BCTGM refused to abide by contract terms forced on them by a bankruptcy court and chose to strike, the bankrupt company decided to liquidate and layoff its entire workforce, including other non-BCTGM union workers.

The BCTGM has tried to make a case that the greed of owners and poor management are responsible for company's problems and that workers are being made to pay for their mistakes.  However, the Teamsters Union negotiated an acceptable package of pay and benefit cuts that it could present to its members, 53% of whom approved it.  Hostess Brands' offer included a 25% equity stake for workers and two seats on its eight-person board of directors.  The Teamsters, while acknowledging the problems with Hostess' owners and management, accepted the reality that cuts were necessary for the company to stay in business.  The Teamsters urged the BCTGM leadership to allow its members to vote on whether to accept the contract terms imposed by the bankruptcy court, but if a vote was done, the results were never revealed. 

The BCTGM accomplished a successful murder-suicide against Hostess Brands, but this Pyrrhic victory provides a fascinating look into a union completely divorced from reality.  The fundamental purpose of a union is to achieve more for its members collectively than its members can achieve individually.  If Frank Hurt, the aptly-named BCTGM president, has some higher vision in which the loss of 18,000 jobs (more than 11,000 of those jobs belonging to non-BCTGM members) collectively benefits BCTGM members, it is not readily discernible.  From the outside, it appears that individual BCTGM members would have been much better off if they had ignored their union representatives and returned to work.

In the end, the only collective benefit that BCTGM provided its members was anger, not leadership, not solutions, not hope, not jobs.  If members stay riled up about executive salaries and bonuses and how it is all management's fault, they will be insulted by a 25% equity stake and a quarter of the seats on the board of directors.  Keep members angry, and the changing American appetite and bad economy are just excuses to attack labor, not an imperative for a less contentious relationship between management and labor.  If nothing else, the BCTGM showed America what its fired up members can do to any struggling company that tries to mess with them.

The sudden demise of Hostess is a stark reminder that math always wins out.  At the bitter end, you can rage all you want, but the numbers will not change to appease you. 

Thursday, November 15, 2012

A line in the Michigan sand

Voters in Michigan, who voted for President Obama 54% to 45% over Mitt Romney, did something that might surprise many people.  They defeated state Proposition 2, the so-called "Protect Our Jobs," initiative by a margin of 58% to 42%.

Proposition 2 would have amended the Michigan State Constitution to make collective bargaining a right for both private and public sector unions.  Proposition 2 would have preempted Michigan legislators from passing the same type of law limiting collective bargaining by public employees that neighboring Wisconsin did.  Wisconsin unions responded to the law, known as Act 10, championed by Wisconsin Governor Scott Walker by initiating recall efforts against state legislators and the governor himself.  These recall efforts failed and Act 10 remains on the books, though it is being challenged in court.  A previous court challenge to Act 10 on different grounds was previously rejected by the Wisconsin Supreme Court.

For Michigan, a state that is home to the United Auto Worker, this is a remarkable rejection of a union-sponsored initiative.  Michigan voters will not give carte blanche to unions, nor will they tie the hands of their elected representatives in dealing with public sector unions.  The overwhelming rejection of Proposition 2 shows that voters in Michigan did not view the fight in Wisconsin as an attack on unions, and there is a limit to voters' tolerance of labor demands, even in a traditionally labor-friendly state like Michigan.

Wednesday, November 14, 2012

PSPRS members: How I learned to stop worrrying and love my pension

The previous post showed how much it would cost to purchase a lifetime annuity that paid the same benefits as a PSPRS member who retires after 25 years with an average high three-year annual salary of $67,000.  In this post we will see how much a PSPRS member pays to achieve his benefits.

There are several assumptions necessary to make these calculations, but for simplicity we will assume the member earns $67,000 annual salary over his entire career.  We will use the high member contribution rate of 11.65% that will begin July 1, 2013.  The member contribution rate is currently 9.55%.   Over a 25 year career, this member will have paid a total of $195,138 ($67,000 X 25 years X 0.1165) or about $300 biweekly ($7,805 per year) into PSPRS in order to receive a benefit of $41,875 per year.  In order to receive the same benefit from a lifetime annuity it would cost a male PSPRS member $801,000.

So how does this compare to an employee with a defined contribution retirement plan like a 401(k), 403(b), or 457(b)?  Among the assumptions we will make is that this employee earns the same salary and works the same number of years as the PSPRS member.  With no matching by an employer and a 5% annual interest rate, compounded monthly, the employee would need to contribute about $16,100 per year or $619 biweekly for 25 years to be able to purchase the $801,00 annuity.  Using the PSPRS assumed rate of return of 7.85%, compounded monthly, the employee would need to contribute about $10,300 annually or $397 biweekly to achieve the same annuity amount.  If the employer was especially generous and matched contributions up to 10% of an employee's salary, the amounts would drop.  In this case, a 10% matching would mean that the employer would match the employee contribution up to a maximum of $6,700 (10% of the $67,000 annual salary).  At the 5% rate, the member would only have to contribute $9,400 annually or about $362 biweekly.  At 7.85%, the member would only have to contribute $5,150 annually or about $198 biweekly.

This would make it seem that the private sector employee's potential retirement savings match up well with the PSPRS member.  However, this is illusory for one simple reason: the PSPRS member's contributions have no bearing on his ultimate retirement benefits.  The $195,138 paid by the PSPRS member guarantees him a $41,875 per year retirement benefit, regardless of the return his contributions earn.  The retirement benefit is also based on the average of his high three-years salary, so the PSPRS member will not pay the $195,138, yet receive benefits as if he did.  If he increases his high three years with overtime and sick leave sellback, this will further distort the cost-benefit discrepancy.  The difference will, of course, have to be made up by taxpayers when the required rates of return are not achieved. 

Compared to our less fortunate private sector employee, his contributions have everything to do with his retirement benefits.  He must start contributions early and at a very high level to take advantage of compounding over his working life.  He will bear all the market risk of his investments and must invest in such a way as to achieve above average returns.  The ability to save $800,000 over a 25-year career at a $67,000 annual salary would require a monastic frugality and/or incredible investing acumen.

The preceding examples were unrealistic because no employee earns the same salary his whole working life.  Futhermore, we utilized the most optimistic conditions for the private sector employee and the most pessimistic conditions for the PSPRS member.  Changing the conditions for either will only further show how much better the PSPRS member fares versus the private sector employee.  The PSPRS member ostensibly has a worry-free situation where he pays his contributions and need not concern himself with how that money performs.  The private sector employee will not only have to contribute more during his working life but also worry about his money until the day he dies.


Note: Bankrate.com Compound Savings Calculator was used to calculate returns.

Thursday, November 1, 2012

My pension will beat up your pension

For anyone interested in comparing how his or her Arizona PSPRS pension compares to those in other states, go to this link: (Calculate Your Public Pension).  I can not vouch for other states, but I checked the accuracy of its calculations against PSPRS' own pension estimator and found it to be right on.  I calculated a firefighter pension for an individual who began working in 2000 and retired with 25 years of service in 2025 at the age of 55 with an average salary of $67,000 for his high three years.  Here is how this pension stacks up against the other states' pensions available for comparison:

StateMonthlyAnnual Male  Female
Arizona$3,490$41,875  $800,986   $859,309
California$3,490$41,875 $800,986  $859,309
Connecticut$1,578$18,936 $479,327  $522,594
Florida$4,188$50,250 $961,184  $1,031,171
Illinois$3,490$41,875 $1,111,790  $1,214,942
Louisiana$4,653$55,833 $1,067,982  $1,145,745
Maine$1,619$19,430 $371,658  $398,719
Montana$3,490$41,875 $1,111,790  $1,214,942
New Jersey$3,629$43,550 $952,846  $1,031,423
New York$2,038$24,455 $521,216  $562,984
North Carolina$1,905$22,864 $437,339  $469,183
Oklahoma$1,675$20,100 $384,474  $412,468
Washington$2,792$33,500 $723,670  $782,283

The large figures under the male and female headers are the cost to purchase a guaranteed lifetime annuity, beginning at age 55, that paid the same monthly income provided by the corresponding state pension.  The variation in annuity cost between states with the same monthly payment is caused by variations in how COLA's are calculated for each state. The longer life expectancy of women accounts for the higher annuity cost for a female retiree.  These annuity figures give a good indication of the true value of someone's pension, especially in comparison to other retirement vehicles like 401(k)s and Social Security.

The current annual contribution limit for deferred compensation accounts like 401(k)s, 403(b)s, and 457(b)s is $17,000 per year with a $5,500 per year catch-up amount for those over 50.  These amounts may be increased each year based on inflation.  In order to reach the same $800,000 amount to purchase the equivalent annuity for an Arizona PSPRS retiree, an individual would have to put away about $862 per month ($10,344/year) for 25 years at a monthly compounded rate of 7.85%.  This assumes that someone could save this amount for all 25 years and earn PSPRS' assumed rate of return of 7.85%.  If we drop the monthly compounded rate to a more conservative 5.0%, the amount saved each month would increase to $1,345 ($16,140/year). For an individual in Maine, it would be necessary to put $624 per month away at a monthly compounded rate of 5% (or $400 per month at 7.85%) in deferred compensation to achieve the same monthly benefit as a Maine firefighter.  All of these contribution amounts could be reduced by any matching contributions made by an employer. 

As can be seen by the calculations in the last paragraph, the real takeaway here is not how Arizona's public safety pensions compare to other states' pensions, but how they compare to defined contribution pensions where most of the responsibility for saving falls on the worker, not the employer. It shows how difficult it is to save for retirement, even if one socks away the annual maximum into a deferred compensation retirement account.  It also shows how generous public safety pensions are.  In the next post, we will crunch some more numbers to examine how much a PSPRS member's total career contributions to PSPRS compare to his total retirement benefits.