INDIANAPOLIS (WISH) — Battle lines are being drawn over a plan to privatize part of Indiana’s public retirement system. Supporters say failing to take action could end up costing taxpayers hundreds of millions of dollars. But, critics say it would also leave thousands of public employees facing a new set of retirement risks.
In a musty old wooden closet behind the dry erase board in his science classroom at Martinsville’s Bell East Middle School, science teacher Clark Hadley holds history. Hidden among the beakers and burners are a collection of lab coats filled with gadgets, gizmos and a wide array of bright artwork, amassed over his 43-year career.
“I’ve taught the whole way at this school,” Hadley said, beaming with pride. “You started out with a mimeograph machine, which most people have never heard of before, and now everything is run through computers. We’ve come a long way. Science is a great subject to teach, because there’s so many great things you can do.”
It’s the reason Hadley dedicated more than four decades of his life to his students.
“I couldn’t think of anything more important to do than teaching,” he said. “It seemed like a good way to pay back. This is what my wife and I considered our mission work, if you will, of trying to make a difference in this world.”
It’s a mission Hadley planned to continue — at least for another year or two — before settling down for a quiet retirement.
That’s until he did the math and discovered something strange.
“I would get less money per month for my retirement than if I retired this year,” Hadley said. “I can keep teaching and make less per month in my retirement. Or, I can retire now, when I’m still eligible to do it and make more per month. Well, that just didn’t make sense to me!”
Hadley isn’t the only one asking why.
Thousands of public employees — from teachers to police officers to plow truck drivers — are now at risk of losing some of their retirement savings, nearly overnight.
It all revolves around re-investment.
Indiana operates what’s known as a “hybrid” retirement system, consisting of defined benefits, commonly known as pensions, and defined contributions, commonly known as annuities. All public employees are required by law to contribute at least 3 percent of their salary to an annuity savings account (ASA). Unlike a pension account, the employee maintains control over how the ASA money is invested, much like a 401k.
The Indiana Public Retirement System (INPRS) also allows public employees to annuitize — or re-invest — the sum of their annuity savings account (ASA) when they retire. Those who opt to annuitize rather than take the ASA in a lump sum are given a promise of bigger payouts down the road. About 50 percent of INPRS members now take advantage of the benefit, according to INPRS annual reports.
For more than a decade, INPRS has guaranteed workers a 7.5 percent rate of return on every annuitized dollar invested. For instance, a public employee who invests $100,000 upon retirement would earn $7,500 each year. At that rate, the retiree would break even and begin earning additional money after about 13 years.
The state then reinvests the worker’s principal — $100,000 in the above example — in the private market to make a profit, keeping the system solvent.
At least it’s supposed to.
Indiana’s annuity program is popular, in large part, because of the high rate of guaranteed payments at a time when other states are making deep cuts into their pension and public retirement systems. But, that high rate can come at a cost.
“We’re going to look at things like about how long do we expect you to live, and what do we expect the market to do when we invest that money? Once you purchase that annuity from us, your rate is locked in. That’s what you’re going to get. But, if we overestimate how much we’re going to earn on your money in the market once you’ve annuitized with us, then we can lose money,” said INPRS Communications Director Jeff Hutson.
In a letter obtained by I-Team 8, INPRS Board Chairman Ken Cochran told lawmakers that’s exactly what’s happened.
“In its current form, ASA annuitizations are calculated at an assumed interest rate of 7.5 percent. This rate is well above prevailing market rates. Past practice has already created $143 million in unfunded liabilities. A continuation of this practice adds another $343 million of additional unfunded liabilities,” Cochran wrote.
Indiana University Kelley School of Business Finance Professor Rob Neal says the problem was inevitable, because the INPRS 7.5 percent guaranteed payment rate hasn’t changed in more than a decade.
“You inherently are spending more than you’re taking in,” he told I-Team 8. “That’s not sustainable. Market rates right now are probably closer to 4 percent. If they’re offering an above market rate of return, someone’s got to pay for it. And, that source is going to be either other retirees, who have put money into the program, or the state, who will have to pony up and provide those additional funds. And, [the state] really means you and me.”
FIXING THE SHORTAGE
INPRS wants to reduce the risk to taxpayers by reducing its annuity payout rate.
So, late last year INPRS board members voted unanimously to privatize the system.
“No matter the rate, maintaining these annuities in-house will always have the risk of creating unfunded liabilities,” Cochran wrote in the letter to lawmakers.
In January, INPRS announced plans to seek bids from outside companies to manage the annuity program using market-based rates for payouts. The new privatized system is set to go online on Oct. 1, 2014.
“It’s something the board looked at and said — we really need to make sure we’re not creating unfunded liabilities that would undermine the pension system, either for our members, or for the taxpayer. Their conclusion was that it would be more appropriate to go with the market rate that would also help prevent surprise unfunded liabilities in the future that would hurt both members and taxpayers,” INRPS’ Hutson said.
PUTTING WORKERS AT RISK
But, some aren’t sold.
Earlier this month, House lawmakers voted 83-0 for a bill sponsored by Rep. Woody Burton (R-Whiteland) and Rep. David Niezgodski (D-South Bend) that would block INPRS privatization plans. Burton says the plan puts thousands of state workers at risk.
“We have been guaranteeing a 20 year bond rate at 7.5 percent, and that kind of money is not coming in,” Burton said. “We’ve been losing money on the retirement program. I understand that, and I don’t have a problem [lowering those rates]. What I had a problem with was saying to someone who’s been working there 25 years — we’re going to do this this year. And, either you retire and switch that over, or you run the risk of losing some money, up to 20-25 percent, maybe.”
House Bill 1075 would block INPRS from privatizing annuities until at least 2019.
Though legislators are enrolled in INPRS, Hutson said no current lawmakers have chosen to annuitize their money, so there was no obvious conflict of interest. Lawmakers enrolled in PERF or TRF as former state, county or municipal employees abstained from voting on the bill, Burton said.
Senators are expected to take up debate on it next week.
“The idea behind it is pure and simple: let’s give them a landing strip of 5 years. Let’s leave it alone and run it along. The people that’s out there investing in the stock market might say–well, it’s not fair to me that the stock market dropped! I understand that. But, if you have a retirement plan and you planned this for the last 25 years, and all of a sudden you’ve got 5 to go, it could create a financial burden if someone has to leave now to get it,” Burton said.
Burton’s not the only one crying foul.
Large workers unions like the Indiana State Teachers Association (ISTA) and American Federation of State, County and Municipal Employees (AFSCME) say an outsourced system would be designed to focus on providing profits to private companies, not retirees.
“With $93 million paid out in annuities each year, as much as 41 percent of that benefit would go directly to the coffers of a contractor each year instead of to retirees,” said AFSCME Strategic Communications Specialist David Patterson. “The board has a duty to serve its members, not third parties.”
AFSCME is asking for annuities “at cost,” and would not object to adjusting payout rates to ensure the plan is self-sufficient, Patterson added.
Burton says the key to doing that is compromise. His bill would allow annuity rates to drop from 7.5 percent to 6.75 percent this year.
“That is still higher [than current market rates], but [INPRS] bases their profit/loss in the retirement programs over a long term bond rating,” he said. “They’re looking at the long term. The fine line is drawing between making sure we manage it well, and making sure we’re fair to a number of people who are going to retire in the next five years.”
INPRS projects taxpayers would face another $343 million loss if plans to privatize are scraped or delayed. The battle over whether that will be blocked is now headed for a showdown in the Senate, and it remains uncertain what Gov. Mike Pence might do if the Senate gives the blocking plan a green light.
But, for those like Clark Hadley, any efforts at compromise may be too little, too late.
“It’s hard to walk away, but this is the rest of my life we’re talking about here,” he said. “Potentially losing that sealed the deal. Once that decision was made, now we’re going into the last part of the year. For me, it’s too late to go back to that now. I’ve made my peace with the fact that this is going to be my last year of teaching.”
With four decades of science suddenly ended by math, Hadley now hopes others won’t be caught in the same situation.
“I believe people and governments should live up to the promises they make,” he said. “I grew up in a time where people’s word meant something. And I hope mine still does.”