Thursday, January 25, 2007

Charlie Arlinghaus: State retirees should own their pensions, not an IOU

The following is a continuation of yesterday's topic. The below article appeared in the Union Leader.

To learn more about public policies related to education visit the The Josiah Bartlett Center for Public Policy

Charlie Arlinghaus: State retirees should own their pensions, not an IOU

Wednesday, Jan. 24, 2007

THE TAXPAYERS of New Hampshire have been scammed by the Dover police chief. But he hasn't broken any laws. He is guilty of scamming a bad system, not of out-and-out theft. The real culprit here isn't a police chief who used clever accounting to make the rules work for him. The culprit is the system itself.

Benefits in the retirement system are supposed to be based on a person's last three years of service so that retirement pay is related to salary level at the end of your career. In fact, the system uses not the last three years but the three highest years of pay in case someone worked part time toward the end of the career.

Recognizing the potential for abuse, the retirement system requires that the final year not be more than 150 percent more than the second highest year. This limits the impact of huge severance bonuses that might give an inaccurate picture of a person's actual salary.

However, the Dover situation exposed all the seams in the system available for exploitation. The chief received bonuses and unused leave payments amounting to about $250,000. Cleverly, he staggered the payments over three years to avoid the safeguards in the system. As a result, he will retire on $125,000 a year, despite his salary of $114,000.

As a matter of public policy, we don't have a retirement system so the wealthiest employees can get rich at taxpayer expense. In theory, the system exists to protect a worker in old age after years of faithful service. The ability to game the system doesn't really exist for the rank and file worker.

With the retirement system facing significant financial problems, there will be much discussion about cuts and contributions vs. benefits. Current retiree incomes won't be affected, but the structure of future benefits will change to some extent.

The solution should include a system where a retiree's benefit isn't defined by how clever he is at playing games with the system rules. The real answer is ownership.

Currently, benefits are based on complex formulas with rules put into place to try and account for the possibilities of abuse. However, at the end of the day, the level of benefits is a promise that can be broken or underfunded.

Although fund managers recommend that a system have assets that represent 90 percent of liabilities, New Hampshire's assets are only 67 percent, a significant shortfall. Because contributions to the system by employers are not tied to a particular employee, they are only approximate. In a tight budget year, it can be easy to fund a little less this year and worry about the future later.

In theory, retirement systems were like giant pyramid schemes. As long as there were workers following behind to pay benefits for the retirees today, the fund was going to be safe. This is more or less the same way Social Security works. Today's workers pay not for their own retirement but for people already retired. Someone following behind will pay for me when I retire.

In this type of system, you don't own your benefits. Instead, they are held as a promise, a trust that you will be taken care of when it's your turn. But as the baby boom generation retires, it puts pressure on every retirement system that is based on promises. Financial pressure will force reductions in benefits, increases in taxes from local and state government, or both.

We should move toward a more responsible system of portable retirement benefits that are owned by each employee and not controlled by politicians. In theory, each year an employee works, he builds up benefits. If he's entitled to a full benefit after 25 years, we owe him 1/25 after each year. We should put that earned benefit into an account for him each year. If he changes jobs, he can take the account with him because it's already funded, fully portable.

In the case of the Dover police chief, the lump sum payments, because they are part of his compensation, would have had a retirement value already. It wouldn't matter if they were taken over 20 years, three years or one year. There's no system to play games with, no balloon payments at the end.

Each year an employee works, he shouldn't accrue good will. He should accrue actual money he owns that can't be taken away. Benefits would then be certain and manageable for both the retiree and the taxpayers.

Charles M. Arlinghaus is president of the Josiah Bartlett Center for Public Policy in Concord.

Quote of the day.

"Corruption is an evil inherent in every government not controlled by a watchful public opinion." Ludwig von Mises speaking of the Government.

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