When Dropout Nation last looked at Tennessee’s defined-benefit pension for teachers, the State Employees, Teachers, Higher Education Employees, it noted that its overly-inflated assumed rate of return on investments had hidden the true size of its virtual insolvency by 27 percent. Volunteer State taxpayers essentially would have to take on a true pension deficit of $3.3 billion, which would require contributing an additional $328 million annually over 17 years (or 45 percent more than the $731 million paid out in 2012) to bring the pension back to solvency.
Since then, the Volunteer State under the leadership of Treasurer David Lillard and Gov. Bill Haslam, has taken some important steps toward addressing its pension woes. This is good news. Yet the Volunteer State still understates the actual size of the teachers’ pension’s insolvency, meaning that the solutions aren’t fully addressing the long-term problem at hand.
At least the good news is that Tennessee is slowly moving new teachers and other employees into a hybrid pension plan. Starting this month, newly-hired teachers would still get a defined-benefit pension. Unlike colleagues currently on payrolls, who can retire at age 60, new teachers can only collect a full pension once they either reach age 65. New hires would also be required to contribute at least percent of salary to a defined-contribution plan, to which a district or local government will match dollar for dollar up to a maximum of five percent of salary. Theoretically, the plan should save Volunteer State taxpayers
Another change, signed into law last week by Gov. Haslam, requires districts and other local governments to fully pay required contributions to the pension. Under the state’s new Public Employee Defined Benefit Financial Security Act, districts and local governments that aren’t fully paying their contributions must submit plans to do so by 2020 and it must meet a formula prescribed by the Government Accounting Standards Board. If they don’t, the state will divert subsidies from its coffers to SETHEEPP in order to make up the shortfall.
Yet it isn’t all good news for Tennessee taxpayers and children on the pension front. For one, under the new hybrid pension, retiring teachers will still be eligible for cost-of-living increases that can range from one-half of one percent to three percent; those increases, by the way, compound annually. This means that the Volunteer State’s pension insolvency can continue to grow because of generous annuity hikes. There’s also the fact that all pensioners are getting a 1.5 percent cost-of-living hike this year, which further exacerbates the pension’s insolvency.
The defined-benefit part of the hybrid pension also doesn’t have a guaranteed saving rate, an important feature because it actually ensures teachers that they will actually be able to collect some money instead of a promise to be paid 30 percent of final year’s salary, as the current defined-benefit pension currently does. In fact, new teachers are still guaranteed to get annuity payments equal to 30 percent of the salary earned before retirement. Again, this only adds to Tennessee’s burdens, not alleviates them.
Then there’s the fact that the pension reforms undertaken by the state really haven’t dealt with the underlying issues driving the teachers’ pension’s virtual insolvency.
SETHEEP still assumes a rate of return of 7.5 percent on its investments, according to its 2013 annual report. This is an inflated number that doesn’t square with the 5.2 percent five-year return rate experienced in the market (
Another problem that went unaddressed: The fact that SETHEEPP, along with the rest of the state’s pension system, only conducts actuarial analysis of its financial condition. In fact, none of Tennessee’s pensions have provided up-to-date data on their fiscal conditions since 2011. As a result of this data lag, the officially-reported pension deficit of $2.6 billion (and more-likely $3.3 billion because of its overly-inflated assumed rates of return on investments) is likely even higher. Considering that the pension’s annuity payouts have increased by 8.5 percent within the last year (from $1.5 billion in 2012 to $1.6 billion in 2013) — and has increased more than a two-fold (from $827 million to $1.6 billion) between 2004 and 2013 — the Tennessee teachers’ pension isn’t providing policymakers or taxpayers the knowledge they need to assess its actual financial position.
Meanwhile none of Tennessee’s pensions have addressed their unfunded commitments, or obligations to invest in hedge funds and other risky private equity investments. These unfunded commitments can wreck havoc on the balance sheets of pensions because the money managers running hedge funds and other alternative investment vehicles can issue capital calls at any given moment — even if private equity investments account for a smidgeon of an overall portfolio. By 2013, SETHEEPP, along with the rest of the state’s Consolidated Retirement System, still had $774 million in unfunded commitments it had to meet. If forced to pay up right now, SETHEEPP would likely have to bear $564 million of that burden, wiping out 60 percent of the $932 million contributed to the pension in 2013. This reality is one reason why pensions, which are geared toward providing safe long-term income to its annuitants, should not be investing in any form of alternative investment vehicle in the first place.
Finally, while the pension reforms did not address the fact that veteran teachers and other employees are still not contributing enough to their own retirements. Teachers contribute just 21 cents out of every dollar put into SETHEEPP in 2013, unchanged from the previous year; given that collective bargaining agreements often end up giving districts full responsibility for both employee and employer contributions, teachers aren’t likely putting in that much. Placing the onus of addressing the pension’s insolvency on districts and other local governments isn’t a sensible solution.
Dropout Nation will take a further look at Tennessee’s teachers’ pension numbers once the state issues its annual report. But it is clear that while the Volunteer State has taken some steps towards addressing its teachers’ pension’s insolvency, it hasn’t done enough to address its woes for the long haul.
Photo courtesy of Nashville Public Radio.