Title: Defined Benefit and Defined Contribution Plans Realities and Myths: An Employer
1Defined Benefit and Defined Contribution Plans
Realities and Myths An Employers Perspective
- William H. Leighty
- Chief of Staff to Mark R. Warner
- Governor of the Commonwealth of Virginia
- Bill.Leighty_at_Governor.Virginia.Gov
2Basic Facts We are talking BIG !
- Nationally, by state, by company by individual,
total assets get noticed. - The payments to pension plans are equally
significant and always have high visibility in
the budget process. - Investments from public pension funds add 200
billion to the nations economic output. (Does
anyone really ever save anymore?)
3Basic Facts Lets get this straight right up
front.
- Large corporations participate in Defined Benefit
Plans. - Defined Benefit Plans continue to be the choice
of most public plans. - Pension plans, public or private, are funded by a
mix of investments, employer contributions and
employee contributions.
4Basic Facts Oh, by the way did I mention?
- Average expenses for Defined Benefit Plans are
approximately 0.30 of assets. - Expenses for Defined Contribution Plans range
between 0.50 and 2 of assets. - Average return on investments is higher for
Defined Benefit Plans than for Defined
Contribution Plans.
5Defined Benefit Plan We take care of you (to
some degree)
- Employer pays a defined amount upon retirement
based on length of service and final average
compensation. - Employer sets retirement eligibility age and
length of service. - Benefit is fixed and guaranteed.
- Investment risk is borne by the employer.
6Defined Benefit Plan The fine print.
- Employee must vest in the plan.
- Most plans provide annual Cost of Living
Adjustments (COLAs) to protect an employees
benefit from inflation. - Most plans also provide a survivor benefit and
disability benefit.
7Defined Contribution Plan You take care of
yourself (to some degree).
- Contributions are placed in an individual
account. - Employees are responsible for the investment of
the assets in the employee account. - Investment risk is borne by employee.
8Defined Contribution Plans The fine print.
- Amount of retirement benefit is uncertain as this
amount is based on an employees investments,
lifespan and rate of spending in retirement. - Benefit is guaranteed only through the purchase
of an annuity. - Employer accrues no unfunded liability for
funding benefit.
9Nature and Form of the Benefits A quick summary.
- Defined Benefit Plans (you aint gonna get rich!)
- Designed for income replacement.
- Provides retirement income
- Defined Contribution Plans (you could be a
millionaire! - Designed for capital accumulation.
- Provides an account balance.
- (If you are smarter than Warren Buffett)
10What Employers Want Regardless of plan design.
- A plan design for the benefit of employees.
- A plan design that offers stability in financial
planning. - A plan design that keeps expenses down.
- A plan design that does not require extensive
administrative complexity.
11What Employers Want Benefit for employees
- Defined Benefit Plans offer a stable and reliable
retirement benefit which is most attractive to
employees seeking long-term careers. The promise
of future benefits helps retain employees with
long service.(golden handcuffs) - Defined Contribution Plans are portable. The
benefit is most attractive for employees who wish
to preserve job mobility.
12What Employers Want Stable financial planning
- Constant benefit changes and actuarial
revaluations often contribute to volatility in
contribution rates. - Legislative bodies have little tolerance for
volatility - DC plans offer complete stability for the
employer.
13What Employers Want Low administrative expenses
and administrative burden
- Employers are pressured more than ever before to
lower cost. - Costs of complexity and cost of compliance are
bigger for DB vrs DC
14Current Public Plan Environment
- Alaska
- Legislature passed and Governor has approved
legislation that provides a mandatory Defined
Contribution Plan for new employees hired on or
after July 1, 2006.
15Current Public Plan Environment
- California
- Governor introduced pension initiative which
would end the Defined Benefit Plan in 2006. - The initiative was withdrawn from the ballot in
April 2005.
16Current Public Plan Environment
- Florida
- Began a Defined Contribution Plan for existing
employees and new hires in 2002. - Employers requested Defined Contribution Plan
because it offered more budget certainty and
empowerment for the employees.
17Current Public Plan Environment
- Michigan
- A mandatory Defined Contribution Plan for new
hires began in 1997. - Portability was an issue addressed by this
legislation.
18Current Public Plan Environment
- Nebraska
- Began a Defined Contribution Plan in 1960s for
state and county workers. - Conducted a large scale study in 2000 which
concluded that members of the Defined
Contribution Plan averaged investment returns of
6 where members of the Defined Benefit Plan had
an average return of 11. - Legislators closed the Defined Contribution Plan
January 1, 2003.
19Current Public Plan Environment
- New Mexico
- Governor has requested a feasibility study for
changing the Defined Benefit Plan for teachers to
a Defined Contribution Plan.
20Current Public Plan Environment
- North Dakota
- Established a Defined Contribution Plan for
non-classified employees in 2000. - 250 participants in the program.
21Current Public Plan Environment
- Ohio
- Defined Contribution Plan began in 2003.
- Provides extensive educational programs for
participants in Defined Contribution Plan.
22Current Public Plan Environment
- West Virginia
- Adopted a Defined Contribution Plan for teachers
in 1999. - Members of the Defined Contribution Plan lost
millions of dollars. - Legislature closed this program in 2005.
23Politics and Public Pension Plans
- ALEC (American Legislative Exchange Council) has
DC conversions high on their public agenda. - This issue is being argued on political terms by
non employers. - DC proponents have simplicity on their side.
24Conclusions
- DC vrs DB debate should be an employer driven
discussion. - It is not. It is being driven by politics.
- It is also fueled by a political environment that
is increasingly simplistic in addressing issues. - DC is has basic advantages that can be used by
proponents in making their argument. - DB Proponents need to reduce complexity and
compliance costs.