Testimony: Texas Pension Reform Effort Would Improve Retirement Security, Lower Costs

Testimony submitted to the Texas House Appropriations Committee, May 4th, 2021 on Senate Bill 321. 

Chairman Bonnen, committee members, thank you for the opportunity to share our technical perspective on Senate Bill 321. We would respectfully submit comments for the record on behalf of the Pension Integrity Project at Reason Foundation, a national 501(c)(3) libertarian-leaning think tank. The Pension Integrity Project offers pro-bono technical assistance and policy research to help public officials and pension stakeholders design and implement policy solutions aimed at improving public pension plan resiliency, promoting retirement security for public employees, and lowering long-term financial risks to taxpayers.

We commend the committee for working on the Employees Retirement System of Texas (ERS) solvency challenges. Over the last 20 years, ERS has gone from 105 percent funded with a surplus of $867 million to holding over $14.7 billion in unfunded pension obligations that are implicitly protected by both the state and federal constitutions. According to ERS reports, over $8 billion in pension debt is the result of investment returns performing lower than expected, and another $4.5 billion of this debt is the result of the state systematically underfunding ERS.

ERS actuaries have determined that the state needs to contribute 15.98 percent of payroll to put the plan on the path to full funding over the next 30 years. However, the current employer contribution rate for ERS that is fixed in state law adds up to only 10 percent of payroll, shorting ERS the remaining 5.98 percent needed to get back on track to full funding and creating the equivalent of a structural budget deficit within the pension plan.

Almost every single year for the last 18 years (2003-2020) the state’s statutory contribution rate has been below the rate actuaries determine is needed to put ERS on a path to solvency. If nothing changes, ERS is very likely to become insolvent and exhaust its assets – the only question then will be when.

To make matters more challenging, roughly two-thirds of all newly hired state employees leave public employment in Texas within five years, requiring them to forfeit the employer contributions made on their behalf during their tenure and diminishing their retirement security. Only approximately 15 percent of the people hired by the state end up working long enough to receive a full pension, suggesting that the current benefit is not only financially unsustainable but is also antiquated and not well suited to the modern, evolving workforce.

In short, the state is structurally underfunding a retirement plan designed to address the needs of a small cohort of public employees. Pension costs and debt are rising rapidly even though benefits haven’t changed. If not addressed, as ERS actuaries and administrators have warned, the system will never reach full funding, nor will the current funding method ever pay down the plan’s $14.7 billion in pension debt. Maintaining the status quo will only ensure continued inequalities between career and non-career state employees and drive up the cost to taxpayers.

SB 321 would change this trajectory in a demonstrably positive direction by providing a new, modern, and low-risk “cash balance” retirement plan for new hires, offering a way for ERS to improve the retirement benefit offering—and thus retirement security–for new workers while addressing the core issues causing today’s unfunded liability. From our perspective:

• We have built an actuarial model for ERS, and according to our modeling for SB 321, we estimate the bill would save the state about $15 billion over 30 years, assuming all actuarial assumptions, including investment returns, prove accurate.
• SB 321 would not change benefits or retirement terms for any current employee, it only affects future hires.
• The proposed cash balance plan would improve retirement security for workers by offering a unique plan design that blends the beneficial portability of a defined contribution-style retirement plan with the legally guaranteed, annuitized benefit payment stream of a traditional pension.
• Cash balance retirement plans are designed to guarantee asset growth while providing a steady accrual rate, offering members portability, and ensuring a path to retirement security for both career and non-career public employees.
• The proposed cash balance plan design is similar to the two state-administered cash balance plans serving Texas municipal and county governmental systems, both of which have long track records of affordably providing guaranteed retirement benefits. SB 321 is also similar to other well-funded cash balance plans operating in Nebraska and Kansas right now, among others.
• The proposed cash balance plan is also paired with a prudent and responsible mechanism to pay down the $14.7 billion in current ERS unfunded liabilities by requiring the legislature to abandon discretionary contribution rate setting and shifting to a new funding policy designed to pay off all legacy pension debt by 2054 and stop structurally underfunding the legacy ERS plan.
• A cash-balance plan design option for new hires, for example, is a type of guaranteed pension used in states like and even Texas with many local governments, designed to be more portable and accrue benefits more evenly than a traditional pension, while placing less financial risk on the employer.

We commend the committee for working to modernize and fully fund ERS in a meaningful way. Texas does not allow structural budget deficits in the state budget, nor should it tolerate the equivalent of a structural budget deficit in its pension funds. Adopting policies to tackle the challenges facing ERS will align member, employer and taxpayer interests and create a more resilient and sustainable ERS for future generations.

Thank you again for the opportunity to share the Pension Integrity Project’s findings. Please feel free to reach out if there are any questions or concerns.