Lessons from the Edgar plan: Why defined benefits can’t work
The problem The blame for Illinois’ pension crisis is often laid at the feet of state politicians who supposedly “skipped” payments and caused the state’s five pension systems to be underfunded. This has prompted legislators to add a “funding guarantee” to the current crop of pension reforms bills in order to stop any future pension...
The problem
The blame for Illinois’ pension crisis is often laid at the feet of state politicians who supposedly “skipped” payments and caused the state’s five pension systems to be underfunded. This has prompted legislators to add a “funding guarantee” to the current crop of pension reforms bills in order to stop any future pension underpayments and thereby solve the crisis. However, the numbers tell a different story.
Skipped payments are not the root cause of the state’s nearly $100 billion in pension debt. Overall the state – and by extension, taxpayers – have actually paid $8 billion more into the pension funds than was required under former Gov. Jim Edgar’s 1995 reform plan. This extra funding occurred despite the Illinois General Assembly’s two-year, $2.3 billion pension “holiday” in 2006.
The majority of the growth in the unfunded liability is due to the inherent flaws of defined benefit plans. Since the Edgar plan was implemented in 1996, the state’s unfunded liability has increased by nearly $80 billion. Missed investment returns, poor actuarial assumptions, overly generous benefits and structural underpayments have caused shortfalls in the pension funds. And underfunded pensions also mean less investment returns, as the funds cannot invest what they don’t have.
Defined benefit systems are unmanageable, unaffordable and unpredictable – they force governments to make promises to retirees based on assumptions politicians simply can’t deliver. Defined benefit plans fail because:
- Future investment returns can’t be predicted, though the systems optimistically assume 8 percent per year.
- More people are retiring and living longer, while the taxpayer pool that must pay for the benefits is shrinking.
- Salary and benefit increases given away by future legislatures can’t be controlled for.
- Unfunded liabilities become nearly impossible to pay down once they begin accumulating.
Our solution
House Bill 3303, sponsored by state Reps. Tom Morrison, R-Palatine, and Jeanne Ives, R-Wheaton, and Senate Bill 2026, sponsored by state Sen. Jim Oberweis, R-Sugar Grove, promote real reform by implementing a defined contribution model.
Through the introduction of personal retirement accounts, this approach preserves pension benefits already earned, end the defined benefit plan going forward and eliminate the irresponsible pension ramp.
The core of the plans has been scored by the Commission on Government Forecasting and Accountability. These bills save more money than any other plan that has been proposed to date.
Why this works
A defined contribution plan means that:
- Unfunded pension liabilities will no longer grow uncontrollably as they do under a defined benefit system.
- Taxpayers will no longer be responsible for continuously bailing out a failed defined benefit system.
- State employees will benefit from an employer contribution match to their retirement savings account in every paycheck.
Transitioning to a defined contribution system is the best way to restore fiscal order to the state.
Download the full report here.