Last week, this column advised that the next state budget strengthen the state’s financial foundation by moving state government employees from a defined benefit (pension) plan to a defined contribution (401(k) or IRA) plan. This week, let us delve deeper into why this would be good for state employees and Wisconsin’s taxpayers.
One of the great ticking budgetary time bombs in our nation is the looming unfunded pension obligation. State and local politicians have promised government retirees much more money than they have actually budgeted. In total, the unfunded pension debt for all state and local governments is almost $1.4 trillion, based on research by the Pew Charitable Trusts.
This means that taxpayers around the nation are on the hook for $1.4 trillion to be paid to retirees that has not been set aside. That bill will come due and taxpayers will be forced to pay the debt by raising taxes, reducing government services, reneging on their promise to retirees, or, most likely, all of the above. Out-of-control pension debt has already bankrupted several cities, including Detroit, and is pushing several states, like Illinois, New Jersey and Connecticut, to the brink of insolvency. Pension plans are a relic of the past. They are from a time when it was difficult for regular people to access the investment markets and people living to 80 was unusual. Pension plans have bankrupted some of America’s largest companies and are now impacting governments. That is why only 19 percent of private-sector workers still have a pension while 87 percent of government workers have one.
Thanks to the sound budgetary management of Wisconsin’s politicians of both parties, Wisconsin is not facing an immediate crisis. As of 2016, Wisconsin’s pension obligation is about $93 billion and the Wisconsin Retirement System is about 99 percent funded, leaving a relatively small deficit of $853 million.
It is precisely because Wisconsin is in a fiscal position of strength that we should make changes for the future now. Remember that every pension bomb is the result of people with good intentions making bad decisions. Wisconsin is not immune from the blowback of human nature. Waiting until we are in a crisis before making changes will only lead to poor decisions and bad consequences.
The benefits to taxpayers of moving Wisconsin’s government employees to a 401(k)-style retirement plan are huge. First and foremost, it eliminates the potential of the pension bomb blowing up Wisconsin’s budget. Since the pension fund is almost fully funded, it will take some sound management to make sure it is properly drawn down to pay out the pensions of everyone currently under it. Meanwhile, taxpayers will not have any unfunded obligations to new employees or employees who choose to switch to the new plan.
Second, eliminating the pension will help encourage a healthy turnover of employees. Since a retiree’s pension is calculated based on their final average earnings and years of service, too many government employees hang on long after their passion for the work has waned. At the other end of the scale, Wisconsin’s pension plan allows employees to retire as early as age 50 with full benefits. This leaves taxpayers paying for a retiree for another 30 to 40 years while also paying a replacement employee. A 401(k) plan, in which the employee owns their retirement fund and can take it with them whenever they want, is a benefit to taxpayers and the employee.
For Wisconsin’s government employees, moving to a 401(k) or IRA plan has even more benefits. Perhaps the greatest benefit is that employees would own their retirement funds and not be subject to the problems of future politicians. The possibility of having benefits reduced or eliminated due to lack of money is not a hypothetical scenario. It has happened to thousands upon thousands of workers in our nation as private and public pension plans have slipped into insolvency. By taking ownership of their own retirement funds, employees are only subject to the amount of risk they choose to take on.
Furthermore, government employees would no longer feel a need to be a slave to their pension. They are free to move on to a different job in the private sector whenever they choose without negative consequences. Employees will also be able to choose the investment portfolio that most closely matches their tolerance for risk. If they want to be super safe, that’s great. If they want to risk for potentially more return that’s great, too. Government should always lean in favor of empowering individuals to make their own choices.
Also, unlike pensions, 401(k) and IRA plans have the ability to create generational wealth. Pension benefits cannot be passed on to the next generation. When the employee and their spouse die, the pension dies with them. The unused balance of 401(k) and IRA plans can be passed on when the owner dies. This helps facilitate generational wealth creation for Wisconsin families.
By moving Wisconsin’s government employees to a 401(k) plan now, the state can honor its obligations to employees and retirees under the current pension plan, provide a fantastic benefit for new employees, and protect future generations of taxpayers from a debt bomb exploding in their wallets.
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