Public pension plans have long been assumed to be safer than their private counterparts. But the reduction, suspension or elimination of cost-of-living adjustments in 17 states proves there are no guarantees in retirement income, according to a brief issued by the Center for Retirement Research at Boston College.
Public pension plans at the state and local level fall outside ERISA's domain, but are often protected by laws that constrain the ability to change benefits, including COLAs.
Yet as the recession exposed systemic underfunding in public pensions, the center said some states cut COLAs not only for current workers, but also for current retirees.
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As of 2009, 75 percent of public pension plans provided either an annual fixed-rate COLA increase, or one tied to the Consumer Price Index, which tracks inflation. The remainder of the plans granted ad hoc adjustments, or increases tied to the fund's performance.
According the center, New Jersey, Rhode Island and Oklahoma, three states with some of the most grievous funding issues, have cut COLAs for the foreseeable future. New Jersey said all COLAs are suspended until pension plans are 80 percent funded (the national average is 76 percent), at which time a committee will reassess their viability.
The majority of states that adjusted COLAs had fixed-annual inflation guarantees in place, typically between 2.5-3.5 percent. In an era of low inflation, that guarantee meant a real increase in benefits for retirees.
Other states abandoned a set rate, instead linking future increases to the CPI or fund's performance. Illinois and New Mexico simply reduced their fixed rate. Florida stripped COLAs altogether, but plans to reinstate a 3 percent guaranteed increase in 2016.
COLA reductions have real consequences to retirees. The center estimates that the elimination of a 2-percent COLA increase, when compounded over time, reduces lifetime benefits by 15-17 percent, and the elimination of a 3-percent COLA increase reduces lifetime benefits by 22-25 percent.
Those beneficiaries in states that are not covered by Social Security have greater exposure to inflation (annual inflation-correlated adjustments are made to Social Security). Colorado, Illinois, Maine and Ohio are all states that reduced COLAs and whose workers are not covered by Social Security.
In general, courts are not regarding COLAs as a protected core benefit. The takeaway: defined benefit promises in public plans can be broken going forward.
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Nick Thornton
Nick Thornton is a financial writer covering retirement and health care issues for BenefitsPRO and ALM Media. He greatly enjoys learning from the vast minds in the legal, academic, advisory and money management communities when covering the retirement space. He's also written on international marketing trends, financial institution risk management, defense and energy issues, the restaurant industry in New York City, surfing, cigars, rum, travel, and fishing. When not writing, he's pushing into some land or water.
