Some Employees Must Plan for a Retirement Without Social Security

Financial wellness programs and broader use of auto-enrollment in DC plans could help public sector employees who are missing out on a major source of retirement income.

The three-legged stool of retirement savings—a pension, Social Security and personal savings—is an old concept for what it takes for employees to have a secure retirement. In the private sector, one leg of the stool—a pension—has disappeared for many employees, but some employees in the public sector are missing a leg as well: Social Security.

National Association of Government Defined Contribution Administrators (NAGDCA) Executive Director Matt Petersen, based in Milwaukee, Wisconsin, says, originally, all state and local pensions were considered a Social Security replacement, and then there was a time when state and local governments could opt in to Social Security, but 15 states decided not to. A look at Social Security’s history shows that in 1950, state and local government employees not covered by a government retirement system were added to the Social Security System. In 1954, state and local government employees—except firefighters and police officers—that were covered under a retirement system could be included if agreed to by referendum, and in 1956, firefighters and police officers could be included if agreed by referendum.

Josh Franzel, president and CEO of the Center for State and Local Government Excellence (SLGE) in Washington, D.C., says this translates to about one-quarter of state and local government employees in general, which includes 40% of teachers and two-thirds of first responders.

Some people may assume that because state and local government employees are covered by a public sector defined benefit (DB) plan, they are “set for life.” However, public DB plans have gone through many changes over the years.

In the wake of the financial crisis of 2008, public pension plans made several reforms including benefit cuts and increases in the age and tenure required to claim benefits. A 2016 report from the SLGE showed 74% of state plans and 57% of large local plans had cut benefits or raised employee contributions to curb rising costs. New employees most commonly experienced increases in the age and tenure required to claim benefits. They also were likely to see reductions in the benefit multiplier and increases in the number of years used to calculate final average salary. Higher employee contributions were the most common benefit cut for current employees followed by reductions to the cost-of-living adjustment (COLA). 

Franzel says people overlook the effect of a reduction or elimination of COLAs, especially over longer periods of time. Some government plans don’t offer a COLA if they fall below a certain funding level. “The changes have impacted the generosity of benefits,” he says.

Petersen says NAGDCA has seen public DB plans with different tiers. “Even people working in the same office may be in a different tier and have different guarantees of retirement income,” he says. The problem is there is no solution to help employees in different tiers plan for retirement differently. “There are people spending a lot of effort on how to solve this,” Petersen says.

Franzel says he thinks it’s important to focus on income replacement. “As DB benefits change, public employees need to be focused on how to adjust,” he says.

Many state and local governments offer defined contribution (DC) plan options for employees—either 403(b) plans or 457(b) plans. This would be the second leg of their retirement savings stool, but with employees contributing so much to their DB plans, is it feasible to ask them to put more into a DC plan?

“Our plan sponsors have this conversation almost every day,” Petersen says. “With lower salaries and the average teacher municipal worker putting 5% to 8% of his salary into a DB plan, it gets difficult for him to save on his own.” Layer on top of that the day-to-day financial stresses of employees and figuring out where to put scare dollars is a difficult problem to solve, he adds.

NAGDCA members challenged with helping employees work within the confines of their own reality and communicating with participants are encouraged to promote financial literacy and meet participants on their own terms, Petersen says.

Franzel says SLGE is also pushing for the use of financial wellness and helping employees understand key concepts in long-term planning. A study published in January 2019 found only 26% of human resource (HR) directors report that their local government offers a financial literacy program and just 13% say their local government is planning one. Asked why they do not offer a financial literacy program, 45% said it is because leadership has not identified it as a priority, 30% say it is due to a lack of internal resources and another 30% say it is because of a lack of financial resources.

In its just published survey, SLGE found only 29% of respondents are offered a financial literacy or financial education program by their employer. The three financial wellness topic areas of greatest interest to employees are retirement planning (66%); investments (39%); and budget and planning (23%). 

“In the public sector, financial wellness education is usually geared toward federal employees and military personnel,” Franzel says. “There needs to be more focus on the state and local workforce. We are studying what is being offered, what employees would like to have and how to implement financial wellness programs.”

Aside from financial wellness, both Franzel and Petersen say their groups are pushing for broader availability of automatic enrollment for public sector DC plans.

According to the NAGDCA’s website, 9 states currently allow auto-enrollment for all public sector plans. Sixteen allow auto-enrollment for some public sector plans, and 25 states prevent auto-enrollment. A study by SLGE, ICMA-RC and Greenwald & Associates found nearly half of state and local government employees approve of auto-enrollment. If they were automatically enrolled into a DC plan, 77% say they would remain in the plan.

Franzel notes that SLGE has found evidence that auto-enrollment is successful in increasing state and local government employees’ retirement savings. For example, when it looked at South Dakota, “even though employees hadn’t had salary increases, when auto-enrollment was implemented, there was an 85 percentage point difference in enrollment into the state’s 457(b) plan,” he says. “When employees think they can’t participate in a supplemental plan, that’s not always the case.”

Petersen says NAGDCA is trying to educate providers about why some states do not allow auto-enrollment. “If that is understood, there may be some action to change things. We’ve seen it in Illinois, which recently passed legislation to allow it,” he says.

Petersen notes that the city of Los Angeles also worked to allow for auto-enrollment. In California, government plans can’t use auto-enrollment unless it is in a labor agreement, so the city worked to have it put into a union labor agreement. “Lean on each other,” Petersen says. “To get auto-enrollment passed, that’s what government employers have to do.”

NAGDCA is doing other things to help improve the retirement security outlooks for public sector employees. It has formed a partnership with the Employee Benefit Research Institute (EBRI) for a public retirement research lab. They are working with providers and plan sponsors to pool data to see what is going on in public sector. Petersen says there is not much data about how public sector DC plan participants are behaving, which make it difficult to work on improvements.

The association is also advocating for the inclusion of collective investment trusts (CITs) in 403(b) plans. “If an employee has to rely on a 403(b) plan for additional retirement income, he should have more opportunity to invest at low cost,” Petersen says.