LCPR02-061 is a blind amendment which would permit a current active Public Employees Retirement Association General Plan (PERA-General) member born on December 16, 1944, who became a PERA member on August 1, 1973, to purchase up to four years of service credit in the PERA-General plan for out-of-state teaching service, using the full-actuarial value methodology.

Our understanding is that the eligible individual provided four years of teaching service in Washington State. Various service credit purchase provisions were added to Teachers Retirement Association (TRA) and first class city teacher plan law in 1999 on a temporary basis. To use these provisions, the purchasing employee must be an active member of one of the applicable teacher pension plans, or a member of the higher education Individual Retirement Account Plan (IRAP). LCPR02-061 is patterned after these teacher plan provisions (specifically, Minnesota Statutes, Section 354.534), except that it is drafted as a special law provision.

Several service credit purchase provisions were added on a temporary basis to teacher plan laws in 1999. (The provisions applicable for TRA are coded as Sections 354.533 through 354.549.) Some of the periods authorized for purchase under those laws do not relate to any break in Minnesota 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.

This purchase of service credit provisions conflict with Commission purchase of service credit policy as stated in the Commission’s Principles of Pension Policy. The policy statement specifies that the period being purchased should have a clear Minnesota connection, and the employment should be public employment or quasi-public employment. Several of the provisions added in 1999 permit service credit purchases for employment that is not public employment, or which has no connection to Minnesota. The Commission may have departed from its usual policies in recommending the 1999 provisions to pass because the provisions were temporary (to sunset in May 2002), and were intended to deal with a short-term teacher employment situation. Since then, the Commission and Legislature have been pressured to extend these provisions of law beyond 2002. At the Commission’s February 12, 2002 meeting, the Commission considered bills (S.F. 3040 (Hottinger); H.F. 3294 (Seifert)) that would have extended these various purchase of service credit provisions to 2005. After discussion about the implications of these service credit purchase provisions and adverse selection concerns, the Commission recommended that the bills be revised to have the provisions sunset in 2003. That action suggests that the Commission is increasingly having reservations about these provisions.

If the LCPR were to hear LCPR02-061 as a bill, among the pension policy issues that the Commission might wish to consider are the following:

1. Fundamental Policy Shift Issues. 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, and recent Commission action suggests that the Commission increasingly has reservations regarding these provisions. LCPR02-061 is patterned after the TRA out-of-state teaching service provision (Section 354.534), and raises the same policy conflicts, plus the issue of extending this treatment beyond the teacher plans to a single individual. If the Commission concludes that these provisions should sunset because of the conflicts with long-standing policy, the Commission may be reluctant to extend the treatment to members of any other plan. Extending it to a single member is likely to lead to an extension to all members of non-teaching general employee plans, and possibly to public safety plans. The service that would be covered is not Minnesota public employment, and would require teaching service to be used as a basis for service credit in a non-teacher plan.

2. Harm to Pension Fund, Adverse Selection Problem. The service credit purchase provisions 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. If an individual makes a service credit purchase and the benefit plan is later enhanced before the individual retires, a windfall occurs.

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. Regarding LCPR02-061 specifically, the issue is whether Minnesota taxpayers should bear the risk associated with teaching service provided in Washington State.