S L P P N , A
RESEARCH
RETIREMENT
DEFINED CONTRIBUTION PLANS IN
THE PUBLIC SECTOR: AN UPDATE
By Alicia H. Munnell, Jean-Pierre Aubry, and Mark Cafarelli*
I
The financial crisis and its aftermath generated two
types of responses from sponsors of state and local
government pensions. The first was to cut back on
existing defined benefit plan commitments by raising
employee contributions, reducing benefits for new
employees and, in some cases, suspending the cost-
of-living adjustments for existing retirees. The sec-
ond response was to initiate proposals to shift some
or all of the pension system from a defined benefit to
a defined contribution plan. This brief describes this
flurry of defined contribution activity, identifies the
factors that led to the changes occurring in the states
where they did, and presents data on participation
and assets to put the flurry into perspective. The data
* Alicia H. Munnell is director of the Center for Retirement
Research at Boston College (CRR) and the Peter F. Drucker
Professor of Management Sciences at Boston College’s Carroll
School of Management. Jean-Pierre Aubry is assistant director
of state and local research at the CRR. Mark Cafarelli is a
research associate at the CRR. The authors would like to thank
Keith Brainard, Steven Kreisberg, Ian Lano, and Nathan
Scovronick for helpful comments.
show that, while the introduction of defined contribu-
tion plans by some states has received considerable
attention, activity to date has been modest.
D C A
Most state and local workers are covered by a tradi-
tional defined benefit plan. In addition, these work-
ers often have a supplementary defined contribu-
tion plan that allows them to put aside a portion of
their pay on a tax-deferred basis. These supplemen-
tary plans are not the topic of this brief.
Rather the
focus is on changes at the primary plan level. For
discussion purposes, it is useful to look at the pre-
crisis and post-crisis periods separately.
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B F C
Before the financial crisis, a number of states had
introduced a defined contribution plan to their
structure. Most of these plans took the form of an
optional defined contribution plan. That is, the
sponsor retained its defined benefit plan and simply
oered employees the alternative of participating in
a defined contribution plan instead. Only two states,
Michigan and Alaska, introduced plans that require
all new hires to participate solely in a defined contri-
bution plan.
The Alaska reform applied to both gen-
eral state and local workers and teachers, while the
Michigan reform was limited to general state work-
ers. Three states, California, Indiana, and Oregon,
adopted hybrid plans, where employees are required
to participate in both a defined benefit and a defined
contribution plan.
The timeline of the introduc-
tion of these defined contribution plans is interest-
ing; much of the activity occurred in the wake of the
fantastic performance of the stock market during the
s (see Figure ).
S F C
In the wake of the financial crisis, sponsors have once
again shown interest in defined contribution plans.
This second wave of initiatives is quite dierent than
the pre-crisis changes. First, all the new plans are
mandatory, as opposed to mainly voluntary in the pre-
crisis period. Second, being mandatory, they apply
only to new employees. Third, none of the sponsors
has followed the earlier Alaska-M
ichigan model of
forcing employees to rely solely on a defined contri-
bution plan where the employee bears all the risks.
Rather, the post-crisis plans consist of either a hybrid
plan or a cash balance plan, which is a defined benefit
plan that maintains notional individual accounts but
provides some guaranteed base return.
Hybrid Plans. Since the financial crisis, six states have
replaced their traditional defined benefit plan with
a mandatory hybrid plan. The following provides a
thumb-nail sketch of these new initiatives.
Georgia. According to system administrators, the
shift was driven mainly by the preference of young
workers, who make up over percent of the state’s
workforce, for wages over benefits.
In response, the
state raised wages and introduced a hybrid pension
plan with a smaller defined benefit plan and a (k)
component for young mobile workers.
New hires are
automatically enrolled in the (k) plan at percent
of salary with contributions up to percent eligible
for an employer match. The match is percent of
the automatic contribution and percent of optional
contributions, for a maximum match of percent of
salary. The defined benefit plan will pay percent for
each year of service on the annual average of the high-
est months of earnings.
Members contribute .
percent of salary to the defined benefit plan, and the
state contributes the rest.
F . I S D C P, Y, -
Optional DC
Optional hybrid
Mandatory DC
Mandatory hybrid
Mandatory cash balance (DB)
Number of states
TX TX MI TN
VA
RIMI
UT
GA
ORCA
IN
OH
OH
FL KY
KA
AKCO
NE
SC
MT
WA
WA
ND
Sources: Actuarial reports; state websites; National Association of State Retirement Administrators (); and Munnell ().
Issue in Brief
Michigan. Press reports suggest that containing fu-
ture employer costs (including required contributions
for retiree health insurance) was a major motivation
for the new plan.
Despite the fact that Michigan gen-
eral state employees have been enrolled in a defined
contribution plan, the state decided to adopt a hybrid
for public school employees. New employees auto-
matically contribute percent of salary to the defined
contribution plan, with optional contributions up to
the IRS limit. The sponsor matches percent of
the employee’s first percent of contributions.
The
defined benefit plan pays . percent for each year
of service on the annual average of the highest
months of earnings.
Employees will contribute .
percent of salary to the defined benefit plan.
Rhode Island. The impetus for reform was the
prospect of the system running out of money within
ten years. Suspending the cost-of-living-adjustment
(COLA) until the trust fund was percent funded
provided immediate relief. Current employees saw
their defined benefit plan replaced by a hybrid plan
and their expected worklife lengthened as the retire-
ment age gradually rises to mirror that of Social
Security. The reforms have been challenged in court.
Through mediation, the parties agreed in February
to adopt the reforms with only modest changes;
but, in April , the mediation agreement was
rejected by police union members so the parties are
headed back to court.
Utah. The motivation in this case was the state’s
desire to reduce its risk exposure. (The Utah plans
are fairly well funded.) New employees have the op-
tion of participating in either a defined contribution
plan or a hybrid. In the case of a defined contribu-
tion plan, the employer will automatically contribute
percent of an employee’s compensation for most
public employees and percent for public safety and
firefighter members.
Under the hybrid plan, the
employer will pay up to percent toward the defined
benefit component; employees will contribute any ad-
ditional amount to make the required contribution.
When the cost of the defined benefit plan is less than
percent, the dierence is deposited into the em-
ployee’s defined contribution account.
Tennessee. This hybrid plan is mandatory for all pub-
lic employees, except local government workers. The
defined benefit portion will provide percent of final
salary, financed by an employee contribution of per-
cent and a target employer contribution of percent.
The defined benefit portion includes a COLA based
on the Consumer Price Index, capped at percent. In
the defined contribution portion, the employee is au-
tomatically enrolled at percent while the employer
contributes percent.
Virginia. Under the hybrid plan, the defined benefit
component will provide percent of final salary (aver-
age of the last months) for each year of service,
financed by an employee contribution of percent
and an actuarially determined employer contribution.
The defined benefit plan includes a COLA, capped
at percent. On the defined contribution side, the
employee is required to contribute percent, but the
employer will match contributions up to percent –
percent on the first percent and percent on
the next percent.
Cash Balance Plans. Three states have recently passed
legislation to introduce cash balance plans. Cash
balance plans are defined benefit plans where each
member has a notional account to which the em-
ployer and, in the public sector, the employee each
make contributions, and the employer credits a return
annually. These plans dier in two important ways
from traditional defined benefit plans. First, they
enhance the likelihood of making required contribu-
tions, thereby preventing the future buildup of large
unfunded liabilities. Second, they allocate benefits
more evenly between short- and long-term employees
than the traditional back-loaded defined benefit plans.
Four public sector systems – Nebraska (for state and
county workers), the Texas Municipal Retirement
System, the Texas County and District Retirement
System, and the California State Teachers’ Retire-
ment System for part-time instructors at community
colleges – have had cash balance plans for some time.
Kansas, Kentucky, and Louisiana have just recently
introduced cash balance plans. The Louisiana plan
was ruled unconstitutional, so the discussion focuses
on Kansas and Kentucky.
Kansas. The employee contributes percent and the
employer contributes - percent (depending on the em-
ployee’s years of service). The guaranteed interest credit
is . percent with possible additional dividends if
investment returns warrant. At retirement, all balances
will be annuitized, except that members may withdraw
up to percent of their balances in a lump sum.
Center for Retirement Research
Kentucky. The employee contributes percent and the
employer contributes percent. The guaranteed interest
credit is percent plus percent of any net investment
return in excess of percent. At retirement, members
may choose either annuity payments or a lump-sum
payment of the accumulated account balance.
Figure shows where the changes have occurred
by type of plan. With a few exceptions, the activ-
ity has occurred in states with smaller populations.
California is clearly not a small state, but it has since
withdrawn from the defined contribution business.
It is one thing to know where change has occurred;
the other question is why?
W D S S I
D C P?
The motivation for introducing a defined contribution
type plan seems to dier before and after the financial
crisis. Before , the motivation appears to have
been oering employees an opportunity to manage
their own money and participate directly in a rapidly
rising stock market. After the financial crisis, the mo-
tivation appears to be more defensive – to avoid the
high costs associated with large unfunded liabilities;
to unload some of the investment and mortality risk
associated with traditional defined benefit plans; and
to have a less back-loaded benefit structure to increase
the amount that short-term employees can take with
them when they leave.
We undertook an empirical analysis in two
time periods – before the financial crisis and after
the financial crisis – to test the extent to which the
motivating factors were related to the probability that
a plan sponsor would introduce a defined contribu-
tion component, including the introduction of a cash
balance plan. The analysis included data on each
state-administered plan from through . The
dependent variable was set equal to zero if no action
was taken and if the state introduced some form
of defined contribution plan. The plan was removed
from the sample once an action was taken. The inde-
pendent variables included:
• Average benefits/average salary: This proxy for
the costliness of the defined benefit plan would be
expected to encourage a shift to a defined contri-
bution plan.
• Unfunded liability/payroll: Plans with large un-
funded liabilities relative to payroll are more sus-
ceptible to risk and therefore would be more likely
to adopt a defined contribution approach to unload
some of their investment and mortality risk.
• Teachers in plan: Teachers’ representatives are
generally more interested in benefits for career
employees than for those with short tenure. Thus,
teacher plans or plans with a significant number
of teachers would be less likely to introduce a
defined contribution plan in an eort to reward
short-tenure workers.
F . L D C I
Optional DC
Optional hybrid
Mandatory DC
Mandatory hybrid
Mandatory cash balance (DB)
Sources: Actuarial reports; state websites; National Association of State Retirement Administrators (); and Munnell ().
Issue in Brief
• Republican control: Republicans are more likely
to support employees’ ability to control their own
investments and match their assets to their toler-
ance for risk. Introducing a defined contribution
plan when Republicans control the state governor-
ship and legislature would be consistent with their
political philosophy.
• Social Security coverage: Between and per-
cent of state and local employees are not covered
by Social Security. The hypothesis is that states
where workers do not have this basic protection
would be less likely to introduce a defined contri-
bution plan, where employees would bear all the
risks associated with retirement planning.
The results are shown in Figure (with more de-
tails in Appendix A). The bars show the eect on the
probability of introducing a defined contribution plan
in a single year. The eects are quite large given that
only percent of sponsors introduced some form of
defined contribution plan before the financial crisis,
and only percent did so after the crisis.
Before the financial crisis, the probability of
introducing a defined contribution plan appears to be
positively aected only by political philosophy; neither
the cost nor risk factors play a role. After the crisis,
political philosophy is less important, while cost and
risk factors play a significant role. Both before and af-
ter, the presence of teachers is associated with a lower
probability of shifting away from a traditional defined
benefit plan.
The fact that Social Security coverage did not have
any eect on the outcome in either time period is
surprising. The results are clearly driven by events in
Colorado, Ohio, and Alaska, three states with a very
high proportion of non-covered workers. In Colorado
and Ohio, the defined contribution plans are op-
tional and the take-up has been modest. Thus, most
of these workers will continue to have the protec-
tion against investment risk and the promise of an
annuity that comes with a defined benefit plan. In
Alaska, however, the story is quite dierent. Despite
the fact that nearly three quarters of Alaska’s public
employees are not covered by Social Security, all new
hires are required to join a defined contribution plan.
Therefore, state workers and teachers in Alaska hired
since July do not have any form of defined ben-
efit protection.
C L ‘DC’ A
While the number of initiatives and the map make it
look like a lot is happening on the defined contribu-
tion front, the amount of money in these plans is very
small (see Figure on the next page and Appendix B).
Again the focus here is on primary plans; the amount
in supplementary plans is provided as a bench-
mark.
The small amount of money is the result of a
number of factors. First, at a slight risk of over-
statement, the introduction of an optional defined
contribution plan has almost no eect. Virtually no
one puts their money in the plan. Florida is a slight
exception in that it has $ billion, mainly because
participants are allowed one opportunity to switch
between the defined benefit and defined contribution
plans after their initial choice. Second, only two states
have a mandatory defined contribution plan: Alaska
F . I P I D C P
-0.4%
4.7%
-0.9%
0.2%
0.1%
-2% 0% 2% 4% 6%
Before crisis (1992-2008) After crisis (2009-2013)
Average benefits/average salary
Unfunded liability/payroll
Teachers in plan
Republican control
Social Security coverage
0.0%
2.2%
-0.3%
0.2%
0.5%
-2% 0% 2% 4% 6%
Note: Changes are one standard deviation for continuous variables and / for dichotomous variables. The striped bars
indicate that the coecients are not statistically significant. The solid bars indicate statistical significance at least at the
-percent level.
Source: Authors’ calculations.
Center for Retirement Research
F . A S L P
P, B D,
$2,655
$46
$37
$205
$0
$1,000
$2,000
$3,000
Primary
plans
Supplemental
plan
Defined
benefit
Defined
contribution/
hybrid
Cash
balance
plans
Sources: Actuarial and financial reports; and Public Plans
Database ().
and Michigan. Third, the mandatory hybrid plans
ultimately will have an impact on asset allocation
between defined benefit and defined contribution, but
they are too new for the eect to be visible. And the
recent trend is toward cash balance plans, which are
technically defined benefit plans.
In terms of participants, the numbers look some-
what more substantial even though all the mandatory
provisions apply only to new employees. About
percent of public sector workers are currently covered
by something other than a traditional defined benefit
plan (see Figure ).
89%
2%
7%
2%
Defined benefit
Defined contribution
Hybrid
Cash balance
F . D S L
P P T,
Sources: Actuarial and financial reports; and Public Plans
Database ().
An interesting question is what the public pen-
sion landscape will look like in years. Today, new
employees are a tiny fraction of the workforce. In the
future, they will constitute the entire workforce. Our
rough estimates, based on the changes made to date, are
that defined contribution participants will account
for percent of the public sector workforce in
and, at that time, defined contribution assets will ac-
count for percent of total assets (see Table ). The
discrepancy is due to two factors. First, even in ,
a sizable share of the assets belongs to retirees who
were covered by the old defined benefit plan. Second,
and somewhat less important, is that most of the
mandatory changes have been to hybrid plans where
roughly half the money goes to a defined benefit plan
and half to a defined contribution plan.
T . P D S L
E A P T,
Plan type
Employees
Pension assets
Defined benefit
%
%
Defined contribution
Hybrid
Cash balance
Total
Source: Authors’ calculations.
T I S DC
B
The remaining question is what happens to benefit levels
generally as plan sponsors move away from pure defined
benefit plans. Critics argue that sponsors are not only
changing the form of the benefit, but also the level.
One measure of the benefit is the normal cost –
that is, the amount that employers must put aside
each year to cover the cost of accruing benefits. On
that front – with the exception of the mandatory
defined contribution plans in Alaska and Michigan –
plan sponsors appear to be maintaining their previous
level of contributions (see Figure on the next page).
The initial contribution, however, does not tell
the whole story. Under the traditional defined
benefit plan, participants are promised a return of
about percent. Under any defined contribution
arrangement, workers will receive whatever returns
the market oers, which could well be less than
percent. Under the cash balance plans introduced
Issue in Brief
F . N C M P
B A L A
12%
6%
3%
5%
4%
5%
5%
5%
4%
5%
5%
6%
0%
6%
12%
18%
Before After Before After Before After
Mandatory DC Hybrid Cash balance
Striped: employee normal cost
Solid: employer normal cost
Sources: Authors’ calculations based on actuarial and
financial reports; National Association of State Retirement
Administrators (); and Munnell ().
in Kansas and Kentucky, participants are guaranteed
. and percent, respectively, with the potential of
some upside. So benefits have been reduced with the
introduction of defined contribution arrangements.
C
Although the introduction of defined contribution
plans by some states has received a lot of press at-
tention, activity to date has been modest. Moreover,
most of the recent eorts have been a move to either
hybrid plans, with a mandatory defined contribution
and defined benefit component, or to cash balance
plans, where participants are guaranteed a return of
or percent.
Sponsors’ shifts from complete reliance on tradi-
tional defined benefit plans appear to be driven by a
desire to avoid future unfunded liabilities, to reduce
investment and mortality risk, and to provide some
benefits to short-tenure workers. Of course, moving
away from defined benefit plans means that individu-
als must face the risk of poor investment returns, the
risk that they might outlive their assets, and the risk
that inflation will erode the value of their income in
retirement – on at least a portion of their retirement
savings in hybrid plans. Participants in cash balance
plans do receive a guaranteed return but, among
the plans adopted to date, it is less than the typical
-percent guarantee in traditional defined benefit
plans. But if some defined contribution component
or cash balance arrangement enhances the likelihood
of responsible funding, public sector employees may
enjoy some increased security.
E
Forty-eight states provide access to a supplemen-
While the accrual rate is the same as it was under
tary defined contribution plan (Ferrara ).
the two existing defined benefit plans for school
employees, the age and service requirements for this
The District of Columbia also requires its general
plan have been increased and the COLA eliminated.
government employees to join a primary defined
contribution plan, but the analysis here is limited
Liljenquist ().
to states. Other states have considered moving to
a primary defined contribution plan. For example,
Employers are also required to pay percent of
California’s governor proposed such a switch in
payroll to the Utah Retirement System to amortize
, but this plan generated substantial opposition
legacy unfunded pension liabilities.
from public employee unions and the proposal was
dropped in . For more details on other at-
CalSTRS defined benefit plan included a mandato-
tempts to move into defined contribution plans, see
ry cash balance component from -; this com-
American Federation of State, County and Municipal
ponent is now discontinued and the contributions
Employees ().
instead go into the defined benefit plan. California
still has a small (-person) optional cash balance
In addition, Washington state introduced a hybrid
plan for part-time employees at public schools.
option for two of its plans.
Michigan SERS is a mandatory defined contribu-
Utah, which oers employees a choice between a
tion plan, while Michigan MPSERS is a mandatory
hybrid and a defined contribution plan, is classified
hybrid plan. CalSTRS’ defined benefit plan included
as mandatory hybrid, because employees are required
a mandatory cash balance component from -
to have some defined contribution plan. Ohio PERS
, which was discontinued in . Utah, which
and STRS, which oer a choice of defined contri-
oers employees a choice between a hybrid and a
bution, hybrid, or defined benefit, are classified as
defined contribution plan, is classified as mandatory
optional defined contribution since employees are not
hybrid, because employees are required to have some
required to have any defined contribution plan.
defined contribution plan. Ohio PERS and STRS,
which oer a choice of defined contribution, hybrid,
Teacher Retirement System of Texas ().
or defined benefit, are classified as optional defined
contribution since employees are not required to have
In the public sector, the only defined contribution
any defined contribution plan.
plans that are technically (k)s are grandfathered
plans that were established by May , ; Georgia’s
plan was originally created before as an optional
supplement to its primary defined benefit plan. See
U.S. Government Accountability Oce ().
The Board of Trustees can increase the benefit
factor in the future to up to percent if funds are
available.
GovMonitor (); and Michigan Association of
School Boards ().
Michigan House Fiscal Agency ().
Center for Retirement Research
R
American Federation of State, County, and Municipal
Employees. . “State Pension Threat Levels.”
Washington, DC.
Ferrara, Peter J. . “Public Sector Pension Reform:
Creating Portable Pensions for Government Em-
ployees.” Policy Brief. Washington, DC: Americans
for Tax Reform.
GovMonitor. . “Michigan to Reform State Em-
ployee and Public School Retirement Systems.”
(March ).
Liljenquist, Daniel R. .”New Public Employees’
Tier II Contributory Retirement Act.” S.B. . Salt
Lake City, UT: Utah State Legislature.
Michigan Association of School Boards. . “Retire-
ment Reform: An Analysis of Public Act of
– MPSERS Reform.” Lansing, MI.
Michigan House Fiscal Agency. . “Converting
MPSERS from a Defined Benefit (DB) to a De-
fined Contribution (DC) System.” Memorandum.
Lansing, MI.
Munnell, Alicia H. . State and Local Pensions:
What Now? Washington, DC: Brookings Institu-
tion Press.
National Association of State Retirement Adminis-
trators. . “State Hybrid Retirement Plans.”
Washington, DC.
Public Plans Database. -. Center for Retire-
ment Research at Boston College and Center for
State and Local Government Excellence.
Teacher Retirement System of Texas. . Pension
Benefit Design Study. Austin, TX.
U.S. Government Accountability Oce. . State
and Local Government Pension Plans: Economic
Downturn Spurs Eorts to Address Costs and Sustain-
ability. Report # GAO--. Washington, DC.
Issue in Brief
APPENDICES
A A
T A. S S R P I D C
P, P-C
Variables
Number of
observations
Mean
Standard
deviation
Minimum Maximum
Average benefits/average salary , . .
Unfunded liability/payroll , . .
Teachers in plan , . .
Republican control , . .
Social Security coverage , . .
Source: Authors’ calculations.
T A. S S R P I D C
P, P-C
Variables
Number of
observations
Mean
Standard
deviation
Minimum Maximum
Average benefits/average salary , . .
Unfunded liability/payroll , . .
Teachers in plan , . .
Republican control , . .
Social Security coverage , . .
Source: Authors’ calculations.
T A. R R P I
D C P
Variables Pre-crisis Post-crisis
Average benefits/average salary . . *
(.) (.)
Unfunded liability/payroll . . **
(.) (.)
Teachers in plan -. ** -. **
(.) (.)
Republican control . * . ***
(.) (.)
Social Security coverage -. .
(.) (.)
Pseudo R
. .
Number of observations , ,
Note: Robust standard errors for state-level clustering are in parenthe-
ses. The coecients are significant at the -percent level (*), -percent
level (**), or -percent level (***).
Source: A
uthors’ calculations.
Issue in Brief
A B
T B. C P D C P
Plan name
Participants Assets (millions)
Year enacted
Optional defined contribution plans
Colorado PERA – PERAChoice , , , , $ $ $ $ $
Florida FRS Investment Fund , , , , , , , , , ,
Montana PERS – DCRP , , , , ,
North Dakota PERS – DCRP
Ohio PERS – Member-Directed Plan , , , , ,
Ohio STRS – Member-Directed & Combined Plans , , , , ,
South Carolina SCRS – State ORP , , , , ,
Utah – Tier II Defined Contribution Plan
Optional hybrid plans
Ohio PERS – Combined Plan , , , , ,
Washington PERS – Plan , , , , , , , , , ,
Washington SERS – Plan , , , , , , , , ,
Washington TRS – Plan , , , , , , , , , ,
Mandatory defined contribution plans
Alaska PERS – DCR Plan , , , , ,
Alaska TRS – DCR Plan , , , ,
Michigan SERS , , ,
a
,
a
,
a
, , , , ,
a
Mandatory hybrid plans
California CalSTRS – DB Supplement Program , , , , , , , , , ,
Georgia GSEPS , , , ,
Indiana PERF – ASA , , , , , , , , , ,
Indiana TRF – ASA , , , , , , , , , ,
Michigan MPSERS , , ,
Center for Retirement Research
Issue in Brief
Plan name
Participants Assets (millions)
Year enacted
Oregon PERS – IAP
Rhode Island ERSRI
Tennessee – TCRS State and Teachers
Utah – Tier II Contributory Hybrid
Virginia VRS Hybrid
b
b
,
,
,
,
,
,
,
,
a
,
,
,
,
,
,
,
,
Mandatory cash balance
Kansas KPERS
Kentucky RS
Louisiana SERS
Louisiana TRS
Nebraska County ERS
Nebraska State ERS
Texas Municipal TMRS
Texas County & District TCDRS
c
b
Ruled unconstitutional
Ruled unconstitutional
, , ,
, , ,
, , ,
, , ,
,
,
,
,
,
,
,
a
,
$
,
,
$
,
,
$
,
,
$
,
,
$
,
a
Authors’ estimates.
b
Eective for new hires Jan. , .
c
Eective for new hires Jan. , .
Sources: Public Plans Database ( and ); and various financial and actuarial reports.
pubplans.bc.edu
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service. The opinions and conclusions expressed in this
brief are solely those of the authors and do not represent the
opinions or policy of the CRR or the Center for State and Lo-
cal Government Excellence.
Center for Retirement Research
