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Cypen & Cypen
October 31, 2013

Stephen H. Cypen, Esq., Editor

1.   DEFINED BENEFIT PENSIONS STILL BEST BANG FOR THE BUCK: In 2008, National Institute on Retirement Security issued a report that shattered a myth about the cost of retirement plans. A Better Bang for the Buck: The Economic Efficiencies of Defined Benefit Pension Plans was co-authored by an economist and an actuary, and reviewed by outside experts for accuracy.  Its validity has withstood the test of time. The analysis indicates that key structural advantages inherent in defined benefit plans -- particularly the pooling of risks and assets -- fuel the fiscal efficiency of pensions. Today, this research remains valid. A pension can deliver the same retirement income at about a 46% lower cost than an individual defined contribution account because pensions:

•         Avoid the problem of "over-saving," by pooling the longevity risks of large numbers of individuals.

•         Are ageless, and therefore can perpetually maintain an optimally balanced investment portfolio rather than adjusting over time to a lower risk/return asset allocation.

•         Achieve higher investment returns as compared to individual investors because of professional asset management and lower fees.

Recently, TIAA-CREF Institute released a paper questioning the model used in the 2008 NIRS Report.  Unfortunately, the TIAA-CREF paper relies exclusively on a flawed critique of the assumptions of the NIRS model. Moreover, it fails to offer a concrete cost analysis that supports its assertion that DC plans provide benefits at a cost equivalent to that of DB plans. NIRS stands by its research: the structural DB cost advantages quantified in the 2008 Report -- derived from well-documented research on investment returns, fees, and asset allocation -- remain valid based on current data about DB and DC plan features and performance. In the spirit of ensuring the continued integrity of NIRS research, NIRS reviewed the TIAA-CREF paper, and found the following flawed reasoning:

•         The TIAA-CREF paper makes its argument on a model that does not exist in the real world.

•         The TIAA-CREF paper argues that it is unfair to claim a cost advantage based on longevity risk pooling for DB pensions, because some DC plans offer annuities. However, individual annuity take-up rates are low, costs are higher, and many annuities are not life annuities.

•         TIAA-CREF incorrectly claims the 2008 NIRS Report assumed a 100 basis point advantage for DB pensions on fees alone, and asserts that risk adjusted returns are same for DB and DC plans. Industry data continue to show that DB plans earn higher actual returns. Ultimately, NIRS’s conseravative assumption of 100 basis points advantage for DB plans based on both professional asset allocation and lower expenses remains valid.

At bottom, the original A Better Bang for the Buck was more than fair in modeling a typical DC plan without many of the problems of individual investing documented in behavioral finance research. While NIRS applauds efforts to add desirable DB features to DC plans, it is not sufficient to achieve the same cost efficiency as DB plans. NIRS welcomes analysis of its research, and is committed to rigorous review. In this case, the paper by TIAA-CREF fails credibly to refute NIRS research. NIRS stands firm behind its analysis and its conclusion that DB pensions offer benefits at a substantially lower cost than is possible under DC plans -- whether typical or best practice.

2.  DC PLANS STILL HESITANT ABOUT LIFETIME INCOME:  Developers of investment strategies designed to ensure participants do not outlive their retirement savings must feel it will take a lifetime before defined contribution plans buy what they are selling, reports These in-plan lifetime income strategies range from annuities embedded in the plan to managed accounts that allow monthly drawdowns of balances upon retirement. But many DC plan executives are reluctant to adopt these options because of questions about costs, product complexity and participant interest. Those at the largest plans fear they could be subjected to increased fiduciary liability. Indeed, most companies will not act until they get greater guidance from the Department of Labor.  The main obstacle is that the sponsors want a specific safe harbor from the department to protect them against lawsuits if a provider fails to deliver or goes out of business. DC plan executives want a clear cut list that outlines their responsibilities in choosing a provider. They want to know what happens if a provider does not meet its responsibilities. A recent Callan survey found 69% of DC plan executives were very unlikely to offer a retirement income option this year, and another 12.5% were somewhat unlikely to do so. Only 6.5% of survey respondents offered an in-plan annuity option last year. UBS Global Asset Management Americas, began offering a lifetime income option two years ago, but has no clients. BlackRock's version has been around for 6 years, but it does not have a client either. AllianceBernstein LP, which entered the market three years ago, has identified one client, which uses a customized and unbundled version of the offering. What about the simple solution? -- DB.

3.  GAUGING THE BURDEN OF PUBLIC PENSIONS ON CITIES:  Center for State & Local Government Excellence has released a new Issue Brief that starts with a question: how much do residents of a city pay for pensions -- not just for city pensions, but also for school district and county pensions in their jurisdiction? Stories in the popular press suggest, particularly in the wake of the bankruptcy of Detroit, that pensions are the major expense of American cities, and will lead to their widespread collapse. Thus, it is important to know the burden of pensions on cities. This burden can be measured in two ways. First is the direct cost of pensions to city governments. These costs include contributions to locally-administered plans, contributions to state non-teacher plans and contributions to state teacher plans on behalf of dependent school districts. The direct cost measures the pressure on the city’s finances. But there is also a broader question: how much do residents of a city pay for pensions? Here one would add to the city’s direct costs contributions made by independent school districts that serve city residents and contributions that city residents make to county plans. This second concept, which is more comprehensive, avoids distortions created by local government arrangements, and provides a measure of residents’ incentive to move -- is the focus of the brief. The question is how much pension costs, measured comprehensively, account for out of total local revenue raised from city taxpayers. The discussion proceeds as follows. The initial section highlights importance of looking beyond the cost of locally-administered plans, and describes the process of collecting and allocating the amounts paid for pensions by school districts within the city and by counties in which the cities are located. The second section describes the sample of 173 cities, and illustrates how costs and revenues from the various units of local government are allocated to city taxpayers. The third section reports that, for the full sample, overall pension costs borne by city residents amount to 7.9% of revenue. The discrepancy between the 7.9% and the average reported in the U.S. Census of 5.6% is primarily because the brief uses the full Annual Required Contribution, while the Census reports the amount that the local governments actually paid. In terms of individual cities, taxpayer costs average 2.7% of revenue for the least expensive fifth of cities and 12.3% for the top fifth. Among major cities, Chicago, New York and Philadelphia have high pension costs. Detroit was number 61 primarily because it issued Pension Obligation Bonds in 2005, which increased its overall borrowing costs but reduced its reported pension expense. The final section concludes that pension costs are closer to 5% of revenue than to 50% for cities, even in the wake of two financial crises and the Great Recession. However, in those cases where pensions are both expensive and underfunded, such as Chicago, they exacerbate fiscal problems. (Note that in item 3 of our October 24, 2013 Newsletter, Illinois Senate President John Cullerton said as a percentage of state general revenues, pension payments would continue to be about 20%. The actual number is only 17%.)

4. DEBT SAVERS IN DEFINED CONTRIBUTION PLANS: says the average 401(k) and other defined contribution plan participant now defers over 8% of his annual income toward retirement savings through the plan and social security taxes, making it one of the largest expenses for households. Yet retirement readiness of DC participants remains stubbornly low: the typical worker near retirement only has about 2 years of replacement income saved, or about 15 years short of the median lifespan post-retirement. One explanation for the stubbornly low retirement readiness of workers may be an increase in household debt. With more household income going to pay off debt, households may have less money to save, and face higher costs of living in retirement. In the paper, assesses the relationship between DC participants’ debt and savings behavior, and finds: 

•         The monthly debt obligation of active DC households near retirement (50 – 65 years old) increased by 69% between 1992 and 2010, now adding up to about $.22 of every $1.00 earned. (Among all DC participants, the debt obligation increased by 9%.) 

•         Over 60% of households that have a DC plan added more debt to their family balance sheet than they contributed to retirement savings between 2010-2011, a group that we refer to as “debt savers.” (About 20% of DC participants accumulated credit card debt faster than retirement savings.) 

•         Most DC participants who accumulate credit card, auto loan, home equity, mortgage or other forms of debt faster than retirement savings are over 40 years old, college educated, earn over $50,000 a year, and have insufficient emergency savings.  (Some 41% of debt savers are over the age of 50.) 

•         DC participants who accumulate any type of debt faster than retirement contributions have 50% less of their annual income saved for retirement compared to DC participants more focused on building retirement savings. (In particular, debt savers have about 2 years of replacement income saved, compared to nearly 4 years among non-debt savers.)

These data indicate that a large share of DC participants are accumulating debt faster than they are accumulating retirement savings, and that the majority of these participants are over the age of 40 -- a time period when participants are expected to be deleveraging and focused on accumulating savings retirement. This growth in debt can come at the expense of being able to afford increased retirement savings deferrals, increases the likelihood that a participant will breach his retirement savings and raises the cost of retirement. Hellowallet recommends that DC plan sponsors provide participants with holistic guidance designed to improve their retirement readiness, which can help determine the safest and most successful path for participants to build wealth. 

5. THOUSANDS OF FEDERAL EMPLOYEES WITHDREW RETIREMENT INVESTMENTS DURING SHUTDOWN: Federal employees turned to their retirement investments for cash during the government shutdown, with thousands of workers taking hardship withdrawals to support themselves through the unpaid period.  According to, nearly 3,000 more feds withdrew from their Thrift Saving Plans during the shutdown than did in October of 2012. When the shutdown began, roughly 900,000 federal employees were unsure if they would get paid for the time they missed, although Congress has since agreed to issue retroactive pay to the furloughed workers. Employees required to work during the shutdown also did not receive pay until the government reopened, although they were guaranteed back pay from the outset.  Furloughed federal employees were prohibited from contributing to their TSPs during the shutdown, but those contributions will be paid retroactively as a result of the back pay. The workers were allowed to make withdrawals of at least $1,000 due to “financial hardship.”  Employees who made the withdrawals had to prove negative monthly cash flow or extraordinary new expenses, such as medical or legal bills, and are now banned from contributing to their accounts for six months. They will also lose their agency’s matching contributions for that time period. TSP participants also moved their investments into safer funds during the shutdown. There were 128,000 inter-fund transfers during the 16-day shutdown, compared to 126,000 transfers during the entire month of September. A significant amount of those transfers went into the G fund, which invests in government securities and is the TSP’s safest offering. 

6.  SOCIAL SECURITY BENEFITS WILL RISE 1.5% FOR 2014: Monthly Social Security and Supplemental Security Income benefits for nearly 63 million Americans will increase 1.5% in 2014, the Social Security Administration announced. The 1.5% cost-of-living adjustment will begin with benefits that more than 57 million beneficiaries receive, in January 2014. Increased payments to more than 8 million SSI beneficiaries will begin on December 31, 2013. Some other changes that take effect in January of each year are based on the increase in average wages. Based on that increase, the maximum amount of earnings subject to the Social Security tax will increase to $117,000 from $113,700. Of the estimated 165 million workers who will pay Social Security taxes in 2014, about 10 million will pay higher taxes as a result of the increase in the taxable maximum.  The Social Security Act provides for how the COLA is calculated.

7. JEWISH WISDOMS: Let me tell you the one thing I have against Moses. He took us forty years into the desert in order to bring us to the one place in the Middle East that has no oil!  Golda Meir


9. TODAY IN HISTORY: In 1969, race riot in Jacksonville, Florida.

10. KEEP THOSE CARDS AND LETTERS COMING: Several readers regularly supply us with suggestions or tips for newsletter items. Please feel free to send us or point us to matters you think would be of interest to our readers. Subject to editorial discretion, we may print them. Rest assured that we will not publish any names as referring   sources.

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Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.

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