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Waiver on Retirement Income Tax Gains Steam in Rhode Island

Rhode Island is one of a handful of states that tax social security and pension benefits. But the idea of offering a waiver on those taxes is gaining momentum in the state, and the push for retiree tax relief is coming from several directions. The idea has been proposed by labor group leaders, who say a waiver could be part of a settlement in the lawsuit over the state’s 2011 pension reforms. From the Providence Journal:

The president of the Rhode Island retiree chapter of the American Federation of Teachers is “cautiously optimistic” that a waiver of state taxes on pensions and Social Security benefits could provide the framework for a settlement of the high-stakes pension lawsuit. […] Roger P. Boudreau, the state retirement board member who is also president of the Rhode Island branch of the AFT’s retirees chapter, made this prediction on October 28, at an informational meeting of members of the Rhode Island Public Employees’ Retiree Coalition. The coalition was created to represent retirees’ interests in the union challenge to the state’s 2011 pension overhaul. Boudreau could not be reached for comment on Friday. But his Oct. 28 comments were captured in the “RIPERC Legal Defense Fund Newsletter” for October-November 2014 that said, in part: “Roger also expressed cautious optimism that an opportunity to settle the dispute through negotiations with the General Assembly would occur in the upcoming session. One of the things that Roger spoke about exploring is a waiver of RI income taxes for pensions and Social Security; a statutory waiver would have a major impact on retirement security for all retirees, and the labor movement has always represented all workers, including nonmembers, in a quest for economic and social justice.” […] Added Robert Walsh, the executive director of the National Education Association of Rhode Island: ”The idea has been around for years – probably before Gina was Treasurer [and] dating back to the first pension lawsuit. “I think it makes sense either on a stand-alone basis or as part of a larger settlement but no discussions are ongoing that I am aware of, but the retiree group has its own steering committee and lawyer,” Walsh said. “On the bigger issue, I support the resumption of settlement discussions and if there are ideas such as income tax relief on pensions and Social Security that will help resolve the issue they should be fully explored,” Walsh said. “Until the lawsuits are resolved it will be hard to focus on other issues, so a comprehensive settlement would be good for all concerned.”

Unions aren’t the only ones championing the waiver on retirement income. State lawmakers are looking for ways to make Rhode Island friendlier to retirees, although they remain non-committal on specific proposals. According to the Providence Journal:

House and Senate leaders just this week cited tax relief for retirees as one of their top priorities for the new legislative session that will begin in January. […] This was the response from House Speaker Nicholas Mattiello’s spokesman on Friday, when asked if Mattiello had [a waiver] in mind when he pledged on Thursday to seriously consider the exemption of state taxes on pension and other retirement income: “He said the intent of the legislation he is looking closely to enact is to help all retirees and has nothing to do with the pension lawsuit. He said any consideration of the pension lawsuit would be dealt with independently.” When asked Friday where she stood on a state tax exemption for retirement income, Governor-elect Gina Raimondo said she would need to see specifics before she could evaluate the proposal.

In Rhode Island, out-of-state government pensions are fully taxed as income. Photo by John Morgan via Flickr CC License

Are Pensions More Important To Retirement Security Than Data Shows?

Alan L. Gustman, Thomas L. Steinmeier and Nahid Tabatabai have authored a paper exploring the possibility that the importance of pensions, and the financial support they provide retirees, is understated in retirement income data.

The paper, titled “Mismeasurement of Pensions Before and After Retirement”, was published in the Journal of Pension Economics and Finance.

From the paper:

There are a number of reasons why the value of pensions after retirement may be underestimated, especially if evaluation is based on sources of income realized in retirement. First, not all pensions are in pay status, even after the person leaves the pension job. When a pension is not in pay status, it is commonly ignored in questions related to pension incomes. Even when a pension is in pay status, a survey may not include income from the pension. For example, as pointed out by Anguelov, Iams and Purcell (2012), CPS data on pension incomes in retirement count only annuitized income, but not irregular income from pensions, such as periodic withdrawals from 401k accounts. This is an important problem because funds in DC pension accounts often are not claimed until the covered worker reaches age 70, when withdrawals are mandated. Indeed, a disproportionate amount of benefits may not be withdrawn until even later.

The paper provides further reason that survey data may not accurately portray pension benefits received by retirees:

Another factor is that actual benefit payments may be reduced from the pension called for by the simple benefit formula advertised by the firm when an annuity is chosen that differs from the single life annuity emphasized by plan. For example, the annuitized benefit will be reduced when, as required by law, a spouse or survivor benefit is chosen. The reduction will depend on the ages of each spouse and on whether the survivor benefit is half the main benefit, whether it is two thirds as in Social Security, or whether the annual benefit will remain unchanged upon the death of the covered worker. There may be further reductions if the retiree chooses a guaranteed minimum payout period.

To be sure, these differences in payout due to actuarial adjustments do not create actual differences in the present value of benefits. But one must know the details of the respondent’s choice as to spouse and survivor benefits and other characteristics of the annuity, and adjust using appropriate life tables. That is, a proper analysis would not just consider the annual pension payment, but would also consider the value of payments that will be made in future years to the surviving spouse. Typically these details are not available on a survey and no such adjustment is made.

The paper delves much deeper into this issue – read the full paper here.

Photo by www.SeniorLiving.Org

CalPERS Collects $249 Million in Bank of America Lawsuit

Pension360 has previously reported that CalPERS was due to receive a substantial sum of money from a settlement with Bank of America, stemming from a lawsuit over failed mortgage securities the bank sold investors.

This week, the dollar figure was solidified: CalPERS has announced it will receive a $249.3 million payout from the bank.

How Financially Sophisticated is America’s Older Population?

As people grow older, they start paying more attention to their retirement.

But evidence suggests that much of the United States’ older population is ill equipped to take responsibility for their retirement security – because their financial sophistication falls short of where it needs to be to make the complex financial decisions retirement requires.

A paper, authored by Annamaria Lusardi, Olivia S. Mitchell, and Vilsa Curto and published in the Journal of Pension Economics and Finance, takes a closer look at the financial sophistication of older Americans.

From the paper:

In 2008, we subjected around 1,000 randomly-selected HRS respondents in the United States to a special module of questions assessing knowledge of the stock market and asset prices, investment strategies, risk diversification, the importance of fees, and related topics. Respondents averaged age 67, with about half (55%) female. Some 15% had less than a high school education, 32% had completed high school, 24% had some college, and 28% had college or advanced degrees. Most (81%) of the respondents were White, with 9% African-American, and 8% Hispanic.

[…]

The 10 questions of key interest here are grouped into four categories, according to the topic they cover: knowledge of capital markets, risk diversification, knowledge of fees, and savvy/numeracy.

The results:

Older Americans displayed a deep lack of understanding about key concepts related to risk diversification, bond prices, and portfolio choice. For instance, many respondents expressed a support for holding own employer company stock, despite the fact that it is unlikely to be wise to hold much own employer stock from a risk diversification viewpoint…

A large majority of respondents (60%) also did not know about asset pricing, which we explore by asking whether people knew about the inverse relationship between bond prices and interest rates. This is a particularly good question to assess financial sophistication because it is difficult (if not impossible) to know or infer the correct answer to this question without having some knowledge of finance.

[…]

When presented with the statement ‘If the interest rate falls, bond prices will fall’ (second wording), only about one-third (35.7%) of respondents answered correctly; when the wording was reversed (first wording: ‘If the interest rate falls, bond prices will rise’), more answer correctly (44.7%) and this difference is statistically significant.

[…]

Many respondents were aware that ‘Even if one is smart, it is very difficult to pick individual stocks that will have better than average returns.’ But here, too, responses varied depending on how the question was asked: in one case 73.7% got the correct answer, but only 37.6% got it correct using the reverse ordering. In other words, this question, too, was poorly understood by respondents.

The authors also posed questions about risk diversification and fees:

Almost two-thirds of respondents knew that ‘it is not a good idea to invest in a few stocks rather than in many stocks or in mutual funds,’ which might be thought to imply some sophistication about risk. Yet this question jointly tests knowledge of risk diversification and awareness of mutual funds, as indicated by results when we reversed the question wording: responses proved quite sensitive. The second risk question sought to avoid this by simplifying the question and using less financial terminology; and now we find that most knew that spreading money across 20 stocks rather than two decreased the risk of losing money (and here, word order did not matter).

[…]

Several prior studies have found that investors often overlook fees when deciding how to invest…In our sample of older Americans, around two-thirds seemed to know that mutual fund fees are important when investing for the long run. Nonetheless, responses were again sensitive to question wording, perhaps due to the fact that respondents needed to know both about mutual funds and investing for the long run. Additionally, a large majority of respondents said they would find it difficult to locate mutual funds charging annual fees of less than one percent of assets, suggesting that many respondents may not know about low-cost mutual funds. The fact that again there is some sensitivity to question wording confirms that, here too, respondents have difficulty with financial terminology (fees, mutual funds, etc.).

The paper, titled Financial literacy and financial sophistication in the older population, features much more analysis and discussion of the survey data, and can be read in full here.

Urban Institute Endorses Bill That Would Turn Over Pension Assets To Insurance Companies

A bill that’s spend the last year gathering dust in Congress has been given new life this week after the Urban Institute gave the bill it’s top grade, saying the proposal “really addresses the retirement security issue”.

The bill, authored by Sen. Orrin Hatch (R-Utah), would let local governments turn over the assets of their pension plans to insurance companies. The insurance companies would then make payments to retirees. More details from Wonkblog:

On Wednesday, Hatch’s proposal, aimed at getting local governments and states off the hook for future pension liabilities, got a big thumbs-up from the non-partisan Urban Institute.

After reviewing the plan, the research organization gave the idea its top grade, saying it eliminates a troublesome financial risk for state and local governments, protects workers who change jobs frequently, and rewards young workers–all while providing a steady stream of income for retirees.

“Unlike any other plan I have seen, it really addresses the retirement security issue, the funding problem, and it provides incentives to allow employers to attract and retain a productive workforce,” said Richard Johnson, director of the Urban Institute’s Retirement Policy Center. “It is hard to balance those three objectives.”

The Hatch bill is similar to a financial maneuver taken by several big corporations, from General Motors and Ford to Heinz and Verizon, which have moved to shed pension liabilities in recent years. For local governments and states, the unfunded liabilities are huge, ranging anywhere from $1.4 trillion to more than $4 trillion, depending on the assumptions plugged in by actuaries.

As it stands, a study of 150 plans by the Center for Retirement Research at Boston College found that the plans have just 72 percent of the assets on hand needed to cover future liabilities, a figure that drops to just under 65 percent if new accounting standards are used.

Insurance companies love the bill. But not everyone thinks it’s a good idea, writes Michael Fletcher:

It has been panned by municipal employee unions and their allies, who worry that payments will not be as generous as current pension schemes, particularly for long-tenured workers. Johnson noted, however, that many pension plans tend to shortchange workers who stay on the job fewer than 20 years, and he said Hatch’s plan would address that, although workers who stayed on the job longer would get smaller payments than their predecessors.

Still, some critics have called it “a solution in search of a problem,” a characterization that has left Hatch incredulous.

“My bill is not a solution in search of a problem, and it is certainly not meant to be an attack on anyone or anything,” Hatch said during a Capitol Hill event Wednesday. “It is meant to offer and alternative path to employers who want to continue delivering lifetime retirement income for their workers in a world where that is becoming increasingly difficult.”

The bill wouldn’t force the hand of state and local funds; governments would have the choice of handing over their assets to insurance companies, but it would be voluntary.

Photo by: “US Capitol dome Jan 2006″ by Diliff. Licensed under Creative Commons Attribution 2.5 via Wikimedia Commons

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