Over the last several decades there has been a sea change in funding for employee pensions. Historically, pensions have been based on defined benefit formulas that provided retirees with a set dollar amount, based on salary, tenure and other factors. Under the defined benefit system, any shortfalls in funding were the responsibility of the employer. Over the years, employers, both public and private, have found these obligations increasingly overwhelming and unsustainable.
In response, there has been a shift, led by private employers, to defined contribution plans, under which, the employer’s contribution is fixed and the financial risk is placed on the employee. While the shift to defined contribution plans is well established in the private sector, public pension plans have remained heavily weighted toward defined benefit plans.
Things are changing. In the public sector, for a variety of reasons, pension plans have been underfunded and vulnerable to unpredictable market performance. As a result, required pension payments are crowding out other government expenditures. In response, a number of states have moved to shift workers, primarily new hires, to pension plans that tie, at least part of the pension benefit, to a defined contribution plan.
All comments and suggestions are welcome.
Walter J. Kirchberger, CFA