Special update from STRS

From STRS, August 11, 2009
Subject: [News] August Update From STRS Ohio

Although the State Teachers Retirement Board does not meet until later this month, we are issuing this update to provide current information to our members. Following the board meeting, which will be held Aug. 20-21, we will issue an August Board News.

NIRS REPORT SHOWS DEFINED BENEFIT PLANS REDUCE RISK OF POVERTY AND HARDSHIP AMONG OLDER AMERICANS Last fall, STRS Ohio shared information with its members about the formation of the National Institute on Retirement Security (NIRS). This organization, which STRS Ohio joined as a charter member, is using research and education programs to show how defined benefit plans enhance retirement security for their participants.

The most recent report issued by NIRS shows that defined benefit pension income plays a critical role in reducing the risk of poverty and hardship among older Americans. The report, titled "The Pension Factor: Assessing the Role of Defined Benefit Plans in Reducing Elder Hardships," notes that pension income resulted in a savings of $7.3 billion in public assistance expenditures and 4.7 million fewer households in poverty or near poverty in 2006 in the United States. More than 23 million older Americans received a defined benefit pension that year.

The value of the defined benefit plan is well understood by the State Teachers Retirement Board; preserving STRS Ohio's Defined Benefit Plan for future generations of Ohio educators is one of the driving forces behind the board's current long-range contingency planning (see article below). About 441,000 of STRS Ohio's members are currently enrolled in or receiving benefits from the system's Defined Benefit Plan.

To read the complete NIRS report, go to http://www.nirsonline.org.

WORK CONTINUES ON FUNDING PLAN STRS Ohio members will receive an STRS Ohio newsletter in their mail this month. The newsletter provides a detailed article about the Retirement Board's discussions that began last March to strengthen the solvency of both the pension fund and the health care fund. Looking long term, the reduced level of STRS Ohio's investment assets, coupled with future expected investment earnings and current contribution levels, will result in a shortfall for the pension fund. Unless changes are made, STRS Ohio will eventually be unable to pay members' projected benefits.

The timeliness of the board's discussions became even more apparent when the Ohio Retirement Study Council, which is the legislative oversight body for Ohio's five public pension systems, instructed each system in May to present board-approved plans for achieving or maintaining a 30-year funding period at the ORSC's Sept. 9 meeting.

Options currently under consideration for inclusion in STRS Ohio's plan include:

- Increasing contributions from the current 10% from active teachers and/or 14% from employers.

- Instituting a minimum retirement age or years of service for retirement.

- Increasing the number of years used to calculate final average salary to five from three.

- Changing the formula for calculating pensions.

- Changing the cost-of-living adjustment (COLA).

We would encourage all STRS Ohio members to read this month's newsletter, as well as other future STRS Ohio communications. This will enable you to keep current with the board's discussions, as well as with the expected work by the Ohio Legislature in the coming months on pension legislation.

During the past few weeks, many members have written or called STRS Ohio, expressing their opinions and ideas about the Retirement Board's long-term contingency planning. We have also talked with many members personally, as well as with constituency groups. Board members and staff greatly appreciate the input. However, we are also aware of some misperceptions held by some members. We would like to address some of these items in this update.

PERCEPTION: Once the Retirement Board adopts a plan, the staff can begin implementing it. FACT: The adoption of a plan is actually only the first step. ANY CHANGES the board wants to make will REQUIRE CHANGES IN CURRENT LAW, as each option the board is considering is contained in a section of the Ohio Revised Code. The only way for the law to change is through legislation passed by the Ohio Legislature and signed by the governor.

As noted earlier in this update, all five pension systems in Ohio will present their board-approved plans to the Ohio Retirement Study Council (ORSC) on Sept. 9. The ORSC consists of three members of the Ohio House of Representatives, three members of the Ohio Senate and three members appointed by the governor. It is expected that each plan will be unique to that system, as each system faces different funding challenges based on the pertinent economic and demographic factors affecting current and future unfunded liabilities.

Following the September meeting, the ORSC staff will evaluate each system's plans, work with the systems' staff to find commonalities, perhaps start drafting bill language and report the results of their findings to the council members. Since the ORSC meets monthly, this report could occur at the ORSC's October meeting. Eventually, one bill covering all five systems is expected to be drafted and introduced. Then, the normal legislative process will begin that includes (a) assignment of the bill to a committee; (b) committee hearings; and (c) passage of the bill out of committee for a floor vote - and then the process repeats itself in the other chamber. Assuming the bill moves successfully through all these phases, it then goes to the governor for his signature. THEN, AND ONLY THEN, CAN ANY CHANGES BEGIN.

PERCEPTION: The Retirement Board is considering the elimination of the cost-of-living adjustment (COLA) as one of the ways to strengthen pension solvency. FACT: The Retirement Board has never discussed the complete elimination of the COLA, nor has any constituency group called for the elimination of the COLA. However, the board has discussed reducing the COLA and/or delaying when it begins following a member's retirement in combination with other changes to shore up the pension fund.

PERCEPTION: One of the options being considered is to decrease the COLA, but only for those who are age 65 or older. FACT: This option is not being considered by the board. As noted above, the board is discussing a reduction in the COLA and/or delaying when its payment to a retiree might begin. One example might be to reduce the COLA to 2%, beginning at age 65. Those younger than 65 would not receive a COLA until they reach age 65. This is just one illustration of how a change could be constructed; the board has not yet made any decisions.

PERCEPTION: The markets are starting to recover. Changes aren't necessary; better investment returns will solve the problem. FACT: STRS Ohio cannot "invest" its way out of the funding challenge it faces. Even before the unprecedented downturn in the markets, STRS Ohio's funding period already exceeded 40 years. State statute requires Ohio's pension plans, including STRS Ohio, to have a 30-year or shorter funding period or a plan in place to accomplish this. STRS Ohio would need a 20% annual compound return over the next five years to reduce its funding period to 30 years. This is highly unlikely. The Dow Jones, currently at about 9,200, would need to be above 24,000. In looking at its options, the board is assuming an 8% return on its investments - knowing that in any individual year, returns may exceed or fall short of this number. However, 8% over the long term is not enough, by itself, to restore long-term solvency to the pension fund.

PERCEPTION: If STRS Ohio had never offered the enhanced 35-year benefit, these changes wouldn't be necessary. FACT: The 35-year benefit has contributed to increased unfunded liabilities, but so have the other components of S.B. 190 that included changes to the pension formula for active teachers; recalculation of the base benefit for many retirees; and a one-time increase for all benefit recipients who needed a raise to restore their benefit to at least 85% of its original purchasing power.

Over time, there have been a number of factors that have impacted funding for pension benefits - not just S.B. 190. These include other improvements to the benefit formula and to various groups of retirees; more than $711 million in "13th checks"; allocations of more than $5.4 billion to the separate health care fund; and legislation setting the COLA at 3% in 2002. Increased life expectancy among STRS Ohio members and lower-than-expected payroll growth among active teachers have also had an impact.

To address these growing liabilities, STRS Ohio took several steps over the years, including increasing members' contributions; lowering the annual interest rate paid on member withdrawals; stopping the 13th check; decreasing the amount of employer contributions put into the health care fund; reducing the match on reemployed retirees' lump-sum payments or monthly annuity benefits; and adjusting investment asset allocations and accompanying expected returns.

Even with these changes, the funding period for the pension fund stood at 41.2 years on July 1, 2008. This means that based on the value of investment assets at that time, we expected to pay off all unfunded liabilities over the next 41 years by achieving an 8% annual rate of return and meeting all other actuarial assumptions. However, due to the recession, the market value of our investment assets declined by about $24 billion over the past two fiscal years. As a result, STRS Ohio's unfunded liability almost doubled in just one year and the funding period now stands at "infinity." Much more significant changes are needed to enable STRS Ohio to meet its funding challenge.

PERCEPTION: Retirement Board members are paid for serving on the board. FACT: Retirement Board members are not paid for their board service. They receive reimbursement only for their expenses, such as mileage for traveling to Columbus for meetings or food and lodging when they need to stay overnight for multiple-day board meetings.

PERCEPTION: Most members are not happy with the proposed changes. Since board members are supposed to serve the membership, they should listen to their members and not make any changes. FACT: It is always important that both board and staff listen to the concerns and comments of STRS Ohio members and consider them in their deliberations. However, these same board and staff members have a responsibility to be good fiduciaries of the pension fund. Knowing that the pension fund will eventually run out of money to pay projected benefits unless changes are made, the board and staff have the responsibility as fiduciaries to try and make changes that ensure the long-term solvency of STRS Ohio for future generations of teachers. Early on, the board and staff recognized that there were no easy solutions and proposed changes would not be well received by many members. However, if no changes are made, there is a very real probability that there will be no STRS Ohio Defined Benefit Plan within 30 years.