By Briana Bierschbach

In recent years, the debate over public pensions—usually reserved for the most inside of bureaucratic insiders—has seeped into the broader political conversation.

In large part, this is because of growing alarm over a budding pension crisis across the country. States like New Jersey and Illinois, for example, are facing more than $100 billion in unfunded liabilities with their pension plans, which provide retirement benefits for teachers, police officers, firefighters, and other state and local government employees.

Though the situation in Minnesota is not as grim, the state is on the hook for public pension plans designed to cover a half million workers, which—based on incongruity between current market trends and growth assumptions built into the plans—are on track to be underfunded by nearly $14 billion over the next several decades. That figure is making an increasing number of people uncomfortable and Republican and Democratic legislators, with different ideas on how to address the issues, are interested in passing a bill this session to reduce these obligations, while still honoring the promises made to employees when they signed up to work in the public sector.

Unfortunately for the uninitiated, the pension tension that has bubbled up to the mainstream media and plays out in sometimes contentious committee meetings at the state capitol is dense with acronyms and riddled with economic formulas. The following primer is meant to help decode those discussions and give readers a better feel for the core issues being debated.

How are pensions different from my 401(k)?

Pensions are a benefit most commonly offered in the public sector, and they’re considerably different from the retirement benefits most private-sector workers receive. As a “defined benefit” plan, a pension is a promise from an employer that an employee will receive a certain amount of monthly income after retirement. In contrast, most private-sector plans, such as 401(k)s, are defined contribution plans, which allow employees to choose how much they invest—with no guarantee on future income. In short: Pensions put the investment risk on the plan provider—in the case of public employee plans, the government.

So everybody who has any sort of government job is in the same pension plan in Minnesota?

It’s not that simple, and there are a lot of acronyms involved, so bear with us. The Minnesota State Retirement System, or MSRS, covers state employees, while the Public Employees Retirement

Association, or PERA, covers local government employees. Neither of those includes teachers, however, who are covered under a third plan, the Teachers Retirement Association (TRA). Well, all teachers in Minnesota except those who work for Saint Paul Public Schools, who are part of the St. Paul Teachers’ Retirement Fund Association (SPTRFA).

How is the pension calculated?

Generally, after three to five years of employment, teachers and government workers are eligible for a pension. An employee’s pension is determined by multiplying the number of years they’ve worked in state or local government by their average salary over their five highest-earning years by a so-called “multiplier.” Currently, the multiplier is 1.7 percent for most government employees and 1.9 percent for most teachers.

So if a public elementary-school teacher worked for 25 years and made an average of $61,000 during her highest-paid years, the state would pay them about $29,000 per year after retirement for their pension (25 x $61,000 x 0.019). Those benefits kick in at age 65 or 66, depending on what year the employee started, and continue until the person’s death.

 

The funding for pensions is based on professional predictions about how much the government and workers need to pay into the system to cover pensions long into the future. In Minnesota, professionals invest workers’ contributions and use those gains to help pay for benefits. But predicting the future is not easy to do. Over the last decade, the assumptions that public pension managers made in other states were overly optimistic.

Complicating things in this state: Minnesotans are living a lot longer than people expected. The average Minnesotan now lives to be about 81.1 years old, the second-highest life expectancy in the nation, after Hawaii. And that number is expected to rise, meaning the state could be paying out pension benefits to some retirees for decades.

What is a “funded ratio” and why is it so important?

Another term to remember when it comes to pensions is “funded ratio,” which is basically a percentage that tells a state if it has enough money to pay for all of the pension benefits it has promised to pay out. A 100 percent funded ratio, for example, would mean the state has the same amount of assets as it does liabilities.

In Minnesota—per a snapshot taken in July 2017 by Minnesota Management and Budget, the state’s top finance agency—the MSRS currently sits at an 86 percent funded ratio, PERA is at 79 percent, and TRA is at a 78 percent funded ratio. All told, that amounts to nearly $14 billion in unfunded liabilities.

This figure has alarmed people all along the ideological spectrum. Their concern is that looming, unfunded liabilities can hang over a state’s credit rating and underscore the long-term financial burden public pensions put on states. Other interested parties, who believe the pension crisis is, at best, exaggerated, note that plans are not all paid out at once, nor will that figure ever have to be paid out in its entirety. They also point out that Minnesota has done better than many other states in keeping its liabilities on the manageable side, especially after a 2010 pension law spread out the burden of unfunded liabilities among retirees, active public workers, and public employers.

How can pensions change over time?

Pensions may be paid for several decades, and the numbers can change based on a few factors. One is COLA, or a cost-of-living adjustment. Another acronym thrown around in heated debates, it’s simply a change in monthly retirement benefits to account for rising prices, meant to protect a retiree’s purchasing power no matter how long he or she lives. Most pension plans have some kind of COLA adjustment, and in Minnesota, it varies from plan to plan. When pension debates are on the table, those adjustments often are as well.

The same goes for the assumed rate of return, which is what states have used for decades to determine their ability to meet future pension obligations. Minnesota assumes an 8 percent return on the investments it makes on behalf of public employees, but some think the number should be based on low-risk bonds, which have much more modest expectations—typically around 4 or 5 percent.

Another thing to remember about pension plans: They’re a promise from an employer and an agreement based on work already completed, which means it’s not easy to back out of paying them. The question of whether it’s a moral or legal obligation to pay out pensions has been brought to the courts in several states, and they’ve tended to rule that the benefits of existing employees are protected under contract law and thus cannot be reduced.

So who’s working on this?

Pension issues are decided by the Legislative Commission on Pensions and Retirement, which is equally divided between the House and Senate and is tasked with addressing problems or making whatever changes to the pension system are needed each year. And like everything else at the capitol, pensions are subject to the whims of state lawmakers.

In 2017, the pension bill got wrapped up in end-of-session politics. In an effort to get Governor Dayton to sign a bill Republican legislators wanted—which, among other things, would have preempted local governments from setting their own minimum wage and labor laws—they attached it to a bill with things Democrats wanted, including wage-theft protections, paid-parental-leave benefits for state workers and, yes, the proposed changes to public-employee pensions. Dayton vetoed the bill.

This year, legislators are preparing a package to start dealing with the low return on current investments and the increased life expectancy of retirees.

All sides say they want to do something on pensions this year, but whether they can get together and pass a proposal remains to be seen. Beyond getting caught up in end-of-session politics in 2017, pension debates also get caught up in disagreements over public unions. The pension benefits for public-school teachers were the subject of much discussion, for instance, but were eventually carved out of the pension bill altogether.

It can also be hard getting state workers on board with reforms to the pension system, since changes can be seen as attacking unions and state workers. In Minnesota, public workers’ contributions cover roughly half of pension costs.

BRIANA BIERSCHBACH covers state government politics and policy for MinnPost. A University of Minnesota graduate, she was named Young Journalist of the Year by the Minnesota chapter of the Society of Professional Journalists in 2015, and has twice been named among the best state political reporters in America by the Washington Post.

Excerpted, adapted, and updated from a story originally published by MinnPost.