Prepared by: Zachary Christensen, Steven Gassenberger, Leonard Gilroy, & Ryan Frost
Presented by: Zachary Christensen Date: October 20, 2021
Chairman Brandes, members of the committee, thank you for the opportunity to offer our brief analysis of the current state of the FRS Investment Plan.
My name is Zachary Christensen, and I am a managing director of the Pension Integrity Project at Reason Foundation, a national 501(c)3 public policy think tank, and prior to that, I was a public pension analyst for the Hoover Institution at Stanford University.
The Pension Integrity Project offers pro-bono consulting to public officials and other stakeholders to help them design and implement policy solutions aimed at improving plan resiliency and promoting retirement security for public employees. We have played a technical assistance role in over 50 state-level retirement system reforms in states like Texas, Michigan, Arizona, Colorado, South Carolina and New Mexico since 2015.
To consult on the state’s public retirement plans, we developed an actuarial model of the Florida Retirement System (FRS), which we believe can be a valuable asset to you as you consider possible changes. As researchers who have analyzed FRS for years, we appreciate the opportunity to discuss our perspective on the current FRS Investment Plan, the important role it plays in public service in Florida, and potential enhancements to bring it more in line with national best practices and better serve both employees and taxpayers.
FRS, with its choice-based retirement offerings, is a plan design leader in this nation. Most states provide a one-size-fits-all retirement option to public workers, while Florida provides two distinctive paths towards financial security in retirement. All new hires, except those in the Special Risk class, are automatically enrolled into the FRS Investment Plan by the end of their eighth month of employment unless they choose the FRS pension option. Since most public employees hired into FRS-participating employers today leave the public workforce within 10 years—and the FRS Investment Plan is inherently a portable retirement benefit—we believe that setting the Investment Plan as the default was a prudent policy established by this legislature. Using the Investment Plan as the default most appropriately matches the dynamics of your public workforce.
When the FRS Investment Plan was created during the 2000 legislative session, the intent was to offer public employees an additional path to a financially secured retirement. In its first year available to new hires, the plan saw less than 5% of public employees elect the option. Between 2002 and 2017, the percentage of active members who had selected the FRS Investment Plan option increased steadily, exceeding 20% before it was made the default option in 2018.
Our analysis of the FRS system’s membership retention data shows just a 33% probability that new hires will stay in public employment long enough to meet the 8-year vesting requirement for the alternative FRS Pension Plan. With these trends in mind, Florida lawmakers appropriately switched the default choice to the Investment Plan, but it is still up to them to ensure this option provides an adequate and secure retirement.
Additionally, the FRS Investment Plan offers a solid mix of proprietary investment funds with market average fees, as well as a series of reasonably priced target-date funds for participants preferring a “one-choice, set-it-and-forget-it” option.
The architects of the Investment Plan also deserve credit for structuring the plan in a way that in no way hinders the state’s ability to eventually pay off legacy pension debt. Although more newly-hired members are now selecting the Investment Plan, the state’s contribution policy ensures that this has no effect on amortization payments to the legacy FRS pension plan. This is exactly what we recommend to other states that are establishing new optional retirement plans.
Overall, we see these as very positive attributes of the FRS Investment Plan forming a good foundation for a public retirement plan. That said, we have identified four additional opportunities to strengthen the plan with some adjustments we believe will make it more sustainable and better serve both future public workers and the average taxpayer for the long run:
- The most immediate challenge facing the Investment Plan are insufficient contribution rates. Retirement experts agree that a total contribution rate of between 12% and 15% to a defined contribution plan is necessary over a career to adequately fund a retirement benefit, when combined with Social Security and personal savings. For the largest membership class in FRS—Regular Class—the current combined 6.3% FRS Investment Plan contribution rate, split 3% Employee/3.3% Employer, falls short of this standard. This means that most of Florida’s public workers (close to 88 percent) are not receiving adequate contributions into their account to provide a secure retirement. This is the largest shortcoming of the FRS Investment Plan, and it will require legislative leadership to commit financially in the plan’s mission.
- There is little reference in the FRS Investment Plan material that specifically speaks to plan objectives. The “Summary Plan Description” states, “[e]ach FRS plan is designed to provide you with a good foundation for financial security when considered along with Social Security, other retirement programs, and your own personal savings (including savings accounts, IRAs, and deferred compensation programs offered through your employer, among other resources).” This statement may be sufficient for FRS generally but falls short of stating specific plan objectives, as it is too general and lacking in supporting detail. If future employees are going to elect the FRS Investment Plan as their path to financial security, they need to be confident that the FRS Investment Plan mission aligns with theirs. Policymakers could add specific language about providing valuable options for lifetime income, as well as objectives on providing this benefit in a way that is cost-efficient and without the creation of unfunded liabilities.
- In the area of products offered to FRS Investment Plan members, FRS stakeholders can update some of the already positive aspects of the FRS Investment Plan by improving on target- date portfolio constructions in ways that allow more flexibility for individual life and retirement situations.
- The standard distribution method offered under the FRS Investment Plan is a lump-sum withdrawal upon separation of service. The employee can roll this distribution over to an IRA or take periodic distributions. Despite a quality lifetime annuity option being available to members, stakeholders could further mitigate the risk on employees through deferred annuities.
Beyond these four opportunities for improving the Investment Plan, there are other small changes that can also be explored like improvements to the FRS disability benefit (which Investment Plan members participate in) and adjustments to the vesting of employer contributions. More information on all of these options is available in a commentary published on the Reason.org website.
The Florida legislature has been a national leader in introducing retirement choice and plan design options that empower public employees to choose the best retirement path for themselves and their families. Implementing the recommendations discussed here will provide public employees and taxpayers more stability, predictability, and accountability, ensuring FRS can provide financially sustainable and attractive benefits for generations to come.
Thank you again for the invitation to speak today, and I would be happy to answer any questions.
A recording of the committee meeting on October 20th, 2021 is available here.
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