Simple pension math

Now that Cuomo has floated his new Tier 6 pension plan proposals, it's time to do a little pension math.

Elected officials generally skipped basic math when they were in school. Facts usually interfere with political careers. Pensions, however, are all about the numbers. That is when everyone is behaving. Of course, someone always misbehaves and that is where the trouble starts.

Andrew wants everyone to work until 65, contribute 6% of pay, and not have any overtime in the pension benefit. I guess the employees won't have to pay 6% on overtime pay then.

Age 65 retirement creates serious management issues but sounds tough. Police, fire, sanitation, corrections, and heavy labor positions, however, will all need special retirement ages and these are the areas with heavy pension costs. I'm also not sure that everyone will be keen on 65 year old teachers, either. 62 has always been a good general target.

I wonder why Bloomberg gave the teachers an age 57 benefit in 2008. Maybe, it was because he was trying to change term limits in 2008.

The overtime issue is just a lot of noise. If you are using the current Tier 4 five year compensation window, it is very difficult for an employee to inflate his/her final compensation. The city also can exercise some management control but then again we are talking about political appointees and not competent managers.

Now for a little math. The 6% employee contribution rate for every year of service is a interesting idea. Let's see what pension benefit that it would support.

Given:

1. an employee starts working at age 30
2. his/her starting annual salary is $25,000
3. he/she averages a 2% pay raise every year
4. the employer also contributes 6% of pay every year (that is $66,341 total each for both employee and employer)
5. the assets earn a conservative 6% a year,

then the employee can retire at age 62 with a fully funded annual annuity of $33,226.

His/her final salary would be $46,189. His/her three year final average salary would be $45,289. His/her pension reserve would be equal to $352,943 using the 6% rate of return. The $33,226 is generated by dividing an IRS 6%/age 62 annuity factor of 10.6222 into the pension reserve ($352,943/10.6222). That is an annuity equal to 73.36% of the three year average.

The pre 2000 Tier 4 benefit at age 62 was 63% of the employees three year average. With the employee only contributing 3% and a 6% rate of return, the employer would have had to contribute 7.3% of earnings to support the 63% benefit.

You can see that a 6% contribution by the employee will raise the benefit percentage for the employee and reduce the employer's contribution rate even with the conservative 6% investment rate of return. The employees, however, will have to make sure the trustees stop gambling (my opinion) with the employees' money.

It is interesting that the NYCERS makes a guaranteed 7% interest on all pension loans to active employees. That is 7% per annum compared to the average 2.4% per annum total return that the trustees have earned over the last eleven years.