Published Online: November 20, 2007
Published in Print: November 28, 2007, as Teacher Pension Plans’ Structure Criticized
Includes correction(s): December 13, 2011

Teacher Pension Plans’ Structure Criticized

At a time when millions of babyboomer teachers are nearing retirement, their decisions on when to leave the classroom are guided more by the early-retirement incentives built into state pension plans than by educational considerations, according to new research by a pair of economists.

Those pension formulas, devised by state legislatures, generally encourage teachers who are seeking to maximize their lifetime pension payouts to retire in their mid-50s—effectively penalizing them for teaching longer than that, argues an article appearing in the Winter 2008 issue of the magazine Education Next, published by the Hoover Institution at Stanford University.

The research—by Robert M. Costrell, an education reform and economics professor at the University of Arkansas-Fayetteville and Michael Podgursky, an economics professor at the University of Missouri-Columbia—calls attention to the long-lasting consequences of what they view as outdated teacher-pension systems.

Those systems vary from state to state but have a common set of flaws, the researchers say: They reward teachers who stay in the same job for 20-plus years, offer diminishing incentives for experienced teachers to continue, and make it hard for teachers to move to different jobs.

‘Harsh Trade-Offs’

States must attack the problem head-on, the researchers advise. If not, they warn, the teacher supply will be disrupted as more teachers retire than are hired; state and district budgets will be strapped now that it’s time to start paying expensive, early-retirement pensions; and an intergenerational conflict will intensify between younger teachers, who may get shortchanged to pay for retirements, and the veteran teachers who are the beneficiaries of the status quo.

“It is a real educational issue, and it’s going to force harsh tradeoffs,” Mr. Costrell said in an interview, adding that retirement benefits are eating up a greater share of school expenditures each year.

The problem also will plague states and districts trying to lure private-sector professionals into the teaching profession, the researchers say, especially those in mathematics and science, where employees are more highly compensated and in demand.

Though there is little empirical evidence to show how pension policies are affecting the teacher labor force, Mr. Costrell and Mr. Podgursky say existing studies indicate teachers respond to these kinds of incentives and disincentives.

“These are large sums of money, and you can’t be indifferent to that,”Mr. Costrell said.

However, John Abraham, the deputy director of research for the American Federation of Teachers, said just because such incentives are built into the system doesn’t mean teachers take advantage of early retirement.

“There are a whole bunch of social and economic reasons for why people retire when they do,” Mr. Abraham said.

Differences by State

The researchers describe a “push and pull” problem that results in giant spikes in retirement wealth that can happen at certain ages, or with certain years of service. The decision to retire at any given time can mean a difference of hundreds of thousands of dollars over the span of a teacher’s retirement. The authors explain the situation by using examples from two states with different formulas.

Financial Incentive for Early Retirement

Because of the way state teacher-pension plans are set up, the age at which a teacher decides to leave the job can have a big effect on how much that teacher stands to collect in pension benefits over the course of retirement. Ohio is one example.

OHIO TEACHER Salary: $78,000

RETIREMENT SCENARIOS:

Age at Retirement: 49 (with 24 years of experience)
Pension wealth: $315,000

Age at Retirement: 55 (with 30 years of experience)
Pension wealth: $971,000

Age at Retirement: 60 (with 35 years of experience)
Pension wealth $1.2 million

In Ohio, a teacher with 24 years of service who wants to retire at age 49 will get a pension worth $315,000, based on average life expectancy, that the teacher can start drawing at age 60. But staying just another six years will escalate the value of his or her total pension to $971,000, which the teacher can start drawing immediately at age 55 under early retirement.

In Arkansas, which structures its pension system differently, a teacher with 28 years of experience would become eligible for early retirement at age 50. That teacher may want to keep teaching—but each year he or she stays on the job, the teacher gives up a year of pension payouts, and would never recoup that amount, the study found. Still, the teacher and school district would keep contributing 20 percent of the teacher’s wages into the overall pension fund.

The push-pull phenomenon, and the consequences of early retirement, can be seen playing out in several states.

Earlier this year, New York state Commissioner of Education Richard P. Mills started drumming up support for allowing retired teachers to come back to the classroom for five years—without sacrificing their pension benefits— to help with shortages of qualified teacher in high-needs areas, such as New York City.

In Kentucky, a report released Nov. 12 by the Prichard Committee for Academic Excellence, a statewide citizens’ advocacy group, shows that over the past 12 years, retirement costs accounted for about 50 percent of the $2.6 billion in increased spending on K-12 education.

“That doesn’t leave very much for professional development and other classroom initiatives that actually help kids learn,” said Robert F. Sexton, the group’s executive director.

Failure to Keep Up

Teacher-retirement plans generally have not kept up with pension changes in the private sector. Many private-sector retirement plans are defined-contribution plans, such as 401(k) plans, in which workers and their employers contribute a certain percentage of wages to a retirement fund upfront, and the employee can transfer the accumulated amount from job to job.

There is no guarantee, however, of a specific retirement payout or monthly check.

That’s far different from what typically for teachers are definedbenefit plans, in which retirees are guaranteed a set amount of money throughout retirement, and in which contributions fund the overall pension system and are not tied directly to individual retirement checks.

Often, legislatures make teacher pension changes when the stock market is roaring and teacher retirement funds look richer, the authors say.

“It’s easy to give away [such benefits],” said Mr. Podgursky. “But once you giveth, you can’t take it away.”

Washington state, for example, which gave generously during the stock-market boom of 1998, has had to back away from a “gain sharing” plan that gave pensioners a slice of the investment returns if the pension fund gained more than 10 percent in value in a year.

In Rhode Island, Gov. Donald L. Carcieri, a Republican, and some legislators are weighing whether to change from a traditional publicemployee and teacher-pension plan to a defined-contribution plan.

The change would cost millions of dollars initially, but would eventually help erase a nearly $5 billion unfunded pension liability.

“The challenge is to finance the transition during our budget situation,” said Steve Kass, a spokesman for Gov. Carcieri, referring to the state’s budget deficit, projected to be at least $200 million next year.

‘Piecemeal’ Solutions

Some states, including Arkansas, have created plans in which veteran teachers can stay in the classroom and collect their pensions, which are deposited in individual retirement accounts until they retire. Other states, such as California, allow teachers to come back to their profession after a break—12 months, for example—without giving up pension payments, or to work part time and not accrue additional benefits.

“There is a tendency to come at this in a piecemeal way,” Mr. Podgursky said. “Let’s re-examine this thing from top to bottom. That’s what we really think states need to be doing.”

Michigan is among the states taking a somewhat piecemeal approach. Lawmakers managed to balance a $43 billion budget in the face of a $1.75 billion budget deficit this year in part by passing legislation in September, later signed by Democratic Gov. Jennifer M. Granholm, requiring new teachers to contribute more to the pension system to pay for health care, and to work six years longer before they can qualify for subsidized health insurance when they retire.

Chuck Agerstrand, a retirement consultant with the Michigan Education Association, an affiliate of the NEA, said it will take too long to realize the savings from what it sees as a quick-fix approach. He said the state needs to fund all of its retiree costs upfront, not leave the tab for future legislatures and governors to pick up.

“These problems are fixable,” Mr. Agerstrand said. “But the longer we wait, the more difficult and expensive it gets.”

Vol. 27, Issue 13, Page 6

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Correction: 
An earlier version of the chart that accompanied this story misstated the annual salary of a typical Ohio teacher used to calculate pension wealth at certain retirement ages. The correct figure is $78,000.

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