In a report, the institute says relatively few teachers gain much from Illinois’ existing pension plan because benefits are accrued late into the career. Among teachers hired at relatively young ages, members of the tier-1 plan must work at least 30 years to receive pensions worth substantially more than their own required contributions, and tier-2 members must work at least 40 years.
The institute simulated future pension benefits for newly hired Illinois public school teachers in a cash balance plan similar to one proposed in the state senate and found 72% of newly hired public school teachers, including 56% of those who complete at least five years of service, would earn larger pensions, net of their contributions, in a cash balance plan compared to the tier-1 plan, even though the two plans would impose similar costs on taxpayers.
In its report, the Urban Institute notes that cash balance plans have similarities to 401(k) plans, but assets are pooled and professionally managed, and plans often guarantee some minimum investment return. The account balance may continue to increase with investment returns after employees separate from service, so those who separate early may accumulate substantial savings by the time they reach retirement age. By contrast, in the existing Illinois teachers pension system, retirement benefits are frozen when teachers separate, so inflation and lost interest erode their values while teachers wait to collect. In addition, cash balance plans allow participants to collect their benefits as lifetime annuities instead of having to purchase them from private insurance companies that may offer unfavorable rates.
According to the report, Illinois State Senator Daniel Biss introduced a bill in 2012 to create a cash balance plan for state employees, including public school teachers. Under his proposal, teachers and school districts would each contribute the same share of teachers’ salaries to the plan. Account balances would receive interest credits equal to the actual state return on investments, but no less than 5% and no more than 10% in any year. Both employee and employer contributions would vest immediately. Upon separation, teachers could immediately withdraw their balances, or they could keep their funds in the plan and receive an actuarially fair, lifetime annuity beginning at age 67. The annuity would be computed using a 5% interest rate and provide the same cost-of-living adjustment (COLA) as the tier-2 plan. Those who leave state employment before age 67 and choose to keep their balances in the plan would earn 5% interest each year until they begin collecting their annuities.
The Urban Institute’s report, “Evaluating Retirement Income Security for Illinois Public School Teachers,” is here.