A Cautionary Tale for Public Pension Plans Considering a Move to DC

August 22, 2019

Research takes a closer look at what seems like a logical fix

Maintaining the Defined Benefit (DB) plan can be the most cost effective option for public pension plans in the long run despite funding shortfalls. Because of their uphill battle to close funding gaps, many consider moving employees to a Defined Contribution (DC) plan. However, this might not be the most beneficial to the plan sponsor.

I read a recent study, “Enduring Challenges: Examining the Experiences of States that Closed Pension Plans," by the National Institute on Retirement Security (NIRS) that suggests otherwise, supporting our view on the subject here at SEI. NRIS has also made available a webinar recording on its research.

Ignites recently recapped that study, reviewing case studies of six different state retirement systems’ changes to their retirement plans, how it impacted funding and the overall financial health of the plan.

The results may surprise some sponsors
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The researchers found that funding challenges don’t go away by changing or reducing retirement benefits for future employees. Closing the DB plan does not erase or lower the funding gap, and the new DC benefits costs are likely to be of similar annual cost to the eliminated DB benefits. In addition, when DB plans are closed, fewer employees are paying into the plan, contributing to the shortfall. And who makes up the difference? Often, state taxpayers.

The Ignites article, “Switching to DC Plans Not a Solution for Pension Funding Gaps: Report,” explains: "Four states that have closed their pension plans to new hires in recent years found the move to defined contribution or other plans actually increased pension costs while leaving employees less ready for retirement, according to research published by the National Institute on Retirement Security."

"Moving new employees to defined contribution plans is tempting — but will do little to solve the problem." - Ignites Research

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Ignites also looked at alternative plans that some employers are exploring to deliver retirement funding to their employees, such as hybrid plans or collective defined plans. 

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Legal Note

Information provided by SEI Investments Management Corporation (SIMC), a registered investment adviser and wholly owned subsidiary of SEI Investments Company.

This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. The content is for educational purposes only.

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