Most of the pension reforms states have passed since 2009 have made changes to their existing defined benefit plans.
The reforms have included modifications to the eligibility requirements or benefit levels. In a few cases, state and local governments have turned to hybrid plan designs, which add a defined contribution (DC) plan while preserving a defined benefit element.
Although there has been no general trend toward shifting employees to a defined contribution plan as the primary retirement benefit, some states are beginning to look at defined contribution plans as a primary offering for certain employee groups.
How will DC plans affect retirement security?
There are questions, however, about how a shift to DC plans would affect retirement security, since they are based on individual investment returns that can fluctuate over time and do not produce a guaranteed return. As such, most experts believe they must meet a few conditions.
Some of these conditions, outlined in a recent report, “The Evolving Role of Defined Contribution Plans in the Public Sector,” include:
- making participation as simple as possible
- equipping employees with the proper tools, education, and counseling to enable them to assume greater responsibility for the financing of their retirement income
- bolstering retirement security with options for annuitization of benefits and periodic cost of living increases
For the employer, the conditions usually center around the issue of cost. An independent analysis is usually required to determine if closing a defined benefit plan and setting up a defined contribution plan will result in cost savings and, if so, when.
Montana and Florida consider DC plans
Two states are currently considering these issues as they seek to increase the role DC plans play in the retirement offerings for their public employees.
Some in the Montana legislature believe that the issue of whether to keep the state’s defined benefit plan intact or switch new hires to a defined contribution plan should be decided by state voters. A bill is currently making its way through the state legislature, which, if approved, would put a referendum on the state ballot in November 2014 that would ask voters to decide the issue. Significant debate is expected on this issue.
The Florida Senate has proposed SB 1392, a bill that would close the state’s defined benefit plan to new employees and enact a 401(k) plan for new hires. A similar bill was approved by its House last month and SB 1392 is now headed for a vote on the Senate floor. The respective bills do not enjoy unanimous support, with some lawmakers questioning the proposed savings that would result from closing the plan.
Defined contribution plans, while not approaching anything that could be described as a trend in pension reform, are gaining in popularity as other reforms increasing eligibility requirements, cutting benefits, and introducing hybrid (elements of defined benefit and defined contribution) plans have already been made. The cases in Montana and Florida will be important to watch as they could forecast similar scenarios in other states.