S.F. 3040 (Hottinger); H.F. 3294 (Seifert): TRA and First Class City Teacher Plans, Service Credit Purchase Payment Deadline Extension extends the deadline for use of the revised full actuarial value procedure (Section 356.55) from July 1, 2003, to July 1, 2005, and extends the various service credit purchase provisions enacted in 1999 for teacher plans from May 16, 2002, through May 16, 2005.

The service credit purchase provisions added on a temporary basis to law in 1999 include several provisions. Some of the periods authorized for purchase under those laws do not relate to any break in public service. Some permit service credit purchase in a Minnesota public plan for periods of private sector employment or employment in church-related schools. The provisions include service credit for military service provided before the employee entered Minnesota public employment, out-of-state and out-of-country teaching service, uncovered maternity leaves or maternity-related breaks in service, private or parochial teaching service, Peace Corp or VISTA service, and charter school teaching service.

The Legislative Commission on Pensions and Retirement (LCPR) was also informed that an amendment is likely to be offered. That amendment, A02-1036, drafted by the Revisor’s Office, would add to the bill an extension from May 16, 2002, to May 16, 2005, of similar military service credit purchase authority temporarily added to the Minnesota State Retirement System (MSRS) and Public Employees Retirement Association (PERA) plans, and authority added in 2001 for service credit purchases for parental and family-related leaves to numerous plans, including certain local police or paid fire plans.

Among the pension policy issues raised by this proposal are the following:

1. Fundamental Policy Shift.  The Commission’s long-standing purchase of service credit policy, last formally revised on December 6, 1998, includes a requirement that service credit purchases should be permitted only if the cases are each separately examined, if the period to be purchased is public employment or substantially akin to public employment, if the prior service period has a significant connection to Minnesota, and if the payment received fully covers the added cost to the pension plan that occurs by permitting the service credit.
   
   Many of the purchase of service credit provisions enacted in 1999 or later are not consistent with these Commission policies. These provisions were temporary and are set to expire in May 2002. It is possible that the Commission and the Legislature authorized these provisions, despite their conflict with long-standing policy, because they were temporary measures intended meet a short-term employment situation. A continued extension, permitting these provisions to remain in effect, adds to the tension with established pension policy.

2. Harm to Pension Fund, Adverse Selection Problem.  These provisions of law create adverse selection. In theory no harm will occur to the plan, providing all assumptions used in computing the purchase price are met. The problem in practice is that those assumptions will not be satisfied. The computation method determines a purchase price under the assumption that the pension fund will earn an 8.5 percent return on the money received until the individual’s retirement date. In investment markets like those we have experienced in the last few years, the pension fund cannot earn an 8.5 percent return. If the fund is unable to earn an 8.5 percent return on the money received under the service credit purchase, that purchase is subsidized. In some recent years, the investment return was actually negative, rather than positive 8.5 percent or higher. In bad market environments people are most likely to make these purchases, and in those situations the fund is most likely to be harmed.

3. Interaction with Benefit Increase Proposals.  When service credit purchase prices are computed, they are computed assuming the current pension plan. Whenever an individual makes a service credit purchase and the benefit plan is enhanced before the individual retires, a windfall occurs. TRA and first class city teacher plan administrators and various teacher union officials currently are working on a proposal to merge TRA and the three first class city teacher fund associations. Early discussion among the teacher groups suggested that the merger proposal was likely to include a request for a substantial benefit improvement. The possibility of a considerable benefit improvement under the merger proposal may lead to an increase in prior service purchases, in the expectation that the purchase will be subsidized due to a later benefit improvement.

4. Transfer of Risk.  The various service credit purchase provisions added to TRA, first class city teacher plan law, MSRS, PERA, and various other funds a few years ago amount to an opportunity for members of those defined benefit plans to convert personal savings and defined contribution plan assets, where there are no guarantees, into a defined benefit plan asset that is guaranteed. The responsibility for investing the assets and all investment and mortality risk is shifted from the member to the pension fund. The issue is whether permitting that transfer reflects good public pension policy.