Create a ‘what if’ plan that assumes pension is cut by half
By Robert Powell | MarketWatch – Wed, Jul 24, 2013 6:30
AM EDT
Associated
Press/Paul Sancya - Protesters carry a sign outside the Levin Federal
Courthouse in Detroit,
Wednesday, July 24, 2013. Detroit's
bankruptcy is hitting a courtroom for the first time as a judge considers …more
State and local government
workers with traditional pension plans might want to revisit their retirement-income
plans in the wake of Detroit’s
filing for bankruptcy.As many know by now, workers and retirees for that troubled city, which has an underfunded pension liability of some $3.5 billion, face the possibility that their pensions could be reduced drastically in a worst-case scenario.
A hearing to determine whether a lawsuit by the city’s 20,000-plus retired public employees can block the bankruptcy is scheduled to be held Wednesday.
But no matter what happens, experts say that now would be a good time for public-sector workers and retirees—especially those whose employers have underfunded pensions—to revisit their retirement plan, crunch out a few what-if scenarios, and adjust their current or planned lifestyle accordingly.
“Despite their having earned their benefits through years of employment, alarming headlines are shaking current and future retirees’ confidence in their retirement security,” said Richard Schroder, president of Anova Consulting Group, a Brookline, Mass., market research and consulting firm focused on the retirement-services space.
According to published reports, public pensions aren’t the only ones in trouble. The Teamsters’ Central States, Southeast & Southwest Pension Plan, which is the nation’s largest multiemployer pension fund, faces tough times, too. Documents filed at the end of 2012 by the Rosemont, Ill.-based fund show that its liabilities are almost double its assets — $34.9 billion versus $17.8 billion, according to a recent BenefitsPro report, Teamsters pension plan stuck in crisis.
Detroit’s bankruptcy and the underfunded status of the Teamsters’ pension are only the latest examples of an age of increasing uncertainty for Americans planning for retirement, Schroder said.
Create a worst-case plan
“Now more than ever, it is incumbent upon Americans to take increased responsibility for their personal financial well-being,” Schroder said. “At one point or another, most of us have been given the advice to ‘not put all our eggs in one basket,’ and the same concept applies to retirement.”
Schroder said worst-case “what-if” scenarios, such as the prospect of pension benefits being reduced, should be considered as part of retirement planning. He also said most Americans would be well-served by improving their financial literacy or having discussions with a qualified financial adviser.
What’s an appropriate worst-case scenario? Consider the case of Central Falls, R.I.: After declaring bankruptcy in 2011, that city slashed one in three of its retirees’ pension checks by more than half, with the majority of the city’s former public-safety workers set to lose tens of thousands of dollars a year, according to published reports. The former acting fire chief’s pension dropped by $41,684 a year, from $75,789 to $34,105; a former firefighter’s pension dropped by $37,628, from $68,414 to $30,786; and a former policeman’s pension dropped by $36,493, from $66,351 to $29,858.
Given that example, part of your worst-case scenario planning should be to envision how you’d get by if your expected pension was cut in half. That should give you a sense of whether you could live on the reduced pension, or whether you might need to bump up your savings rate, or delay retirement, or return to work, or reduce your standard of living, or any combination of those actions. (MarketWatch has a “Retirement Planner” calculator where you can test various what-if scenarios.)
“Individually, each person may not be able to affect the outcome around her respective pension reform,” said Jeffrey Tomaneng, a financial adviser at Lincoln Investment Planning. “However, he or she does have the ability to control expectations and make adjustments to lifestyle and budget.”
From the planner’s view, Tomaneng said, you still use the same fundamentals of the financial-planning process. “You still discuss worst-case, best-case and variations of in-between scenarios,” he said. “Spend less, earn more, save more, work longer, retire somewhere cheaper and so forth.”
Tomaneng noted that in Massachusetts former Polaroid employees, in the wake of that company’s bankruptcy, are already receiving payments from the federal Pension Benefit Guaranty Corp. (PBGC) at a fraction of what they were supposed to receive. “Many have delayed their retirements and cut back on their lifestyles to give them a better shot of making sure they don’t outlive their money,” he said.
Tomaneng said he’s also been addressing with younger clients the possibility of reduced benefits from Social Security. “For these union workers and retirees the discussion and planning needs to happen right away,” he said.
Is your pension funded?
Americans would also be well-served to check the degree to which their pension plan is funded.
Indeed, some cities and states are much worse off than others. For instance, in 2010, Joshua Rauh, a professor of finance at Stanford University, and Robert Novy-Marx, an associate professor of finance at the University of Rochester, identified the 10 major cities that they calculated would be the first to run out of pension-fund money. At the time, that list included Philadelphia; Chicago; Boston; Cincinnati; St. Paul; Jacksonville, Fla.; New York City; Baltimore; Detroit; and Fort Worth.
Meanwhile, the gap between the promises states have made for public employees’ retirement benefits and the money they have set aside to pay these bills was at least $1.38 trillion in fiscal year 2010, according to the Pew Center for the States’s analysis of pension and retiree health-care funding. According to the report, Connecticut, Illinois, Kentucky and Rhode Island were the worst among the states, with pensions funded under 55% in 2010. Pew also noted that states collectively had only 5% of the funds needed to pay for their retirees’ health care and other non-pension benefits—such as life insurance. And 17 states had not set aside any money to fund their retiree health-care liabilities. (Read Expecting to retire with a public pension? Better have a Plan B.)
Others agreed that it’s important to check the financial status of your pension plan. “Any type of plan participant, public, private, or union should always keep an eye out on the financial status of their employer,” said Ary Rosenbaum, an ERISA retirement plan attorney for his firm, The Rosenbaum Law Firm.
Rosenbaum noted that union plans and private pensions offer more safety to plan participants when it comes to providing information, because plan participants have a right to access their plan’s funding notice, which can tell them how underfunded their plans are. If their plan is covered by the PBGC and funding of the pension is less than 80%, then plan participants are required to receive a notice of the plan’s funding level. But the PBGC doesn’t cover most state and local public-sector pension plans.
“Plan participants should know that whether their plans are protected by the PBGC or not, there is always a risk that their pension benefits can be curtailed by bankruptcy court as what probably will happen to City of Detroit pensioners,” said Rosenbaum. “So they should plan accordingly.”
No need to push panic button?
Some experts don’t think that all current and retired state and local government workers need to push the panic button and redo their retirement plans.
Notwithstanding a few outliers, retirement benefits for the vast majority of the more than 8 million retired employees of state and local government are safe and secure, said Keith Brainard, the research director of the National Association of State Retirement Administrators, a nonprofit association whose members include the directors of many of the nation’s state- and territorial-level public retirement systems.
As of March 31, 2013, for instance, combined assets of these funds exceeded $3.5 trillion, more than 15 times what the funds pay out each year in benefits, he said. What’s more, Brainard said, these plans collect in employee and employer contributions each year much of the amount they pay in benefits.
There are undoubtedly some public plans in trouble, and some in serious trouble, such as those in the state of Illinois, Brainard said. Yet nearly every state has made changes to their retirement plans since 2009, some more than once. A number of states, including Colorado, Minnesota, Maine, South Dakota, Rhode Island and New Jersey, have reduced their unfunded liabilities, in part or in whole by reducing future cost-of-living adjustments (COLAs) for current retirees. In addition, many states have increased required contributions for employees, including current workers in many cases.
In the cases of Detroit and Central Falls, Brainard said a distinguishing feature is the decline in revenue those cities experienced. Reading between the lines, if you currently work for or are retired from a municipality where revenues are declining and there haven’t been changes made to the pension plan, consider working on your plan-B retirement strategy.
Because retiree health-care benefits generally have far fewer legal protections than pension benefits do, Brainard said, we are likely to see more reductions in those benefits than among pensions.
Bottom line: When it comes to your pension, leave nothing to chance. Create a just-in-case plan. Prepare for the worst and hope for the best.
Robert Powell is editor of Retirement Weekly, published by MarketWatch. Follow his tweets at RJPIII. Got questions about retirement? Get answers. Email rpowell@marketwatch.com.
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