Across the country, new governors and state legislators are being sworn into office this month. Many of these policymakers will cast votes and make decisions regarding public pensions during their time in office. New legislators often enter office with little knowledge about public pensions, why they work, how they are funded, etc. In the spirit of this new year, we thought we would take some time today to review the basics of public pensions.
What is a public pension?
A defined benefit pension plan is a retirement plan to which employees and employers contribute. Financial assets and risks are pooled collectively, which protects individual workers and retirees from the ups and downs of the financial markets. Pension benefits are guaranteed for life, which means a retiree cannot outlive their retirement savings. Defined benefit pensions are the most secure and reliable retirement plan!
How are pension benefits calculated?
In most plans, pension benefits are calculated according to a formula that includes salary, years of service, and a benefit multiplier.
Who receives a public pension?
Many public employees earn a defined benefit pension through their service to their communities. This includes teachers, firefighters, sanitation workers, nurses, librarians, employees of state and local governments, and many others. In some states, public employees do not participate in Social Security, so their pension benefit may be all they have in retirement.
How are public pensions funded?
Public pension plans receive funding from three sources: employee contributions, employer contributions, and investment earnings. Investment earnings typically represent between two-thirds and three-fourths of pension plan revenues.
What are the differences between pensions and defined contribution plans?
Defined contribution plans, such as 401(k)s, do not provide a guaranteed benefit at retirement. Workers are largely responsible for managing their own investments and are exposed to the whims of financial markets. Retirees with savings in a defined contribution plan run the risk of outliving their savings if they did not save enough or if they spend it down too quickly.