The High Costs of the Proposed Cost-of-Living Adjustments to Washington’s Pension Plans
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Commentary

The High Costs of the Proposed Cost-of-Living Adjustments to Washington’s Pension Plans

These Washington state retirement plans, TRS 1 and PERS 1, already have combined unfunded liabilities of $8.4 billion.

A recent opinion piece by Alan Burke, executive director of the Washington State School Retirees’ Association (WSSRA), claims that lawmakers do not adequately value older retirees in Washington state. But if Washington’s policymakers follow his suggested advice to enhance retiree benefits in an already underfunded pension plan, they could very well undermine retirement security instead of improving it.  

Burke argues that beyond an “occasional token gesture” from the state legislature, former schoolteachers in the Teachers Plan 1 (TRS 1) and former public employees in Public Employees Plan 1 (PERS 1)—which both closed to new hires in 1977—aren’t receiving the necessary amount of attention. But his proposed solution to implement a one-time three percent cost of living adjustment (COLA) to these retiree groups—introduced in the 2019 legislative session as HB 1390—appears to contradict this priority because pensioners in PERS 1 and TRS 1 have already received every contractual pension benefit they were promised when they were hired.

What Burke labels as a “smart fix” is an oversimplified solution that leans on increasing liabilities in two plans that already have combined unfunded liabilities of $8.4 billion, meaning the plans are billions of dollars short of the assets needed to pay for retirees’ benefits in the future.

TRS 1 and PERS 1 members have had a complicated history with COLAs. From the plans’ inceptions in the 1930s until 1987 these members had no access to a COLA, while the newer plans in the state had a COLA built into their normal cost, and therefore pre-funded. In 1987, an optional COLA was introduced for any Plan 1 member at the time of retirement. Members who elected to purchase this COLA paid for it through an actuarially reduced retirement benefit.

Then in 1995, the legislature implemented a “Uniform COLA” (UCOLA). The UCOLA was an annual increase to a retiree’s pension at no cost to them. Also, the increase was based on years of service rather than inflation changes, meaning teachers and public employees who were in the plan for the longest time and had the largest pensions received the highest increases. The state ended the UCOLA program in 2010 due, in part, to declining revenues following the 2008 recession.

The Optional COLA is still able to be purchased today for PERS 1 and TRS 1 members at their time of retirement, but left in place of the UCOLA were two alternative retiree benefit structures: the basic minimum benefit and the alternate minimum benefit. These two minimum benefits amount to a safety net for Plan 1 members who have been retired the longest and have an increasingly smaller annual pension compared to inflation. For the basic minimum, if the retiree’s benefit falls below a specified dollar amount multiplied by their years of service, they are granted a COLA. For the alternate minimum, retirees are granted a fixed-dollar amount in lieu of their calculated pension benefit if that fixed-dollar amount is higher. To be eligible for the alternate minimum, the retiree must have worked 20 years and been retired for 25 years or worked for 25 years and have been retired for 20 years. This amount increases by three percent each year. These minimum benefits are free to the retiree, with the pension plan socializing the cost of this added benefit.

Further into his commentary, Burke suggests that retirees’ needs are ignored without a COLA (meaning an employer-funded COLA), and that the cost of a one-time three percent COLA would be a modest $25 million, which is “less than one-half of one percent of the $5 billion in new money that was included in the 2019-2021 budget the governor just signed.”

There are a few realities that need to be addressed about those statements. First, while it is true that Plan 1’s do not have a prefunded cost-of-living adjustments, the time to solve that was at the time of plan design, when decades of contributions and investment returns could pay for it, not when 99 percent of the plan’s members are retired. Second, every Plan 1 retiree post-1987 has had the option to purchase a COLA at retirement by taking an actuarial reduction on their benefit. Third, the two minimum benefits already ensure that no members benefit falls too far behind inflation. And lastly, a three percent COLA would cost far more than $25 million.

The pricing from the Plan 1 actuaries shows that the estimated employer cost of HB 1390 is $67.5 million for the 2019-2021 biennium alone. Further, the 10-year total cost of a one-time three percent COLA is $412.4 million— and that’s if all plan assumptions as of today are correct. If Washington state continues its trend of lowering its investment return assumption, that $412 million would be much higher. In addition, the unfunded actuarial liabilities in these plans would increase by approximately $280 million, pushing the plans’ funded status down by around one percent each, and most likely expanding the length of time needed for each to pay off its unfunded liabilities.

A key detail not mentioned in the column is who would primarily pay for this additional liability: Washington’s local governments, which are already on the hook to pay a supplemental rate of seven percent of active members’ salary to pay down the PERS 1 and TRS 1 unfunded liabilities. Asking them to foot another $412 million over the next 10 years, which they have not budgeted for, is asking for the kind of cutbacks of essential services that have been seen in other states due to rising pension costs.

Lastly, PERS 1 and TRS 1 members received a “modest one-time COLA” just last year. Yet bill hearings last year made it clear that retirees and their appointees do not want a one-time COLA. They want an ongoing, ‘free’ increase like the UCOLA provided for them from 1995-2011.

What was also clear from public testimony is that retired members who did not select the Optional COLA at retirement between 1995 and 2010, due to the UCOLA being in effect, feel they are out of luck because they don’t have options to purchase a COLA until their benefit reaches one of the minimums mentioned earlier. As a compromise, the state could look at opening a qualifying window where those retired members could make the Optional COLA purchase through an actuarially reduced benefit, as currently active members can at the time of retirement. This would be the fairest way that these members could earn ongoing purchasing power without harming Washington’s local governments.

Ryan Frost

Ryan Frost is a policy analyst with the Pension Integrity Project at Reason Foundation.