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Retirees, taxpayers and local governments across Michigan face a threat from unfunded pension liabilities. These obligations divert resources away from public health and safety services and could lead
to tax increases or benefit cuts.
Politicians have promised billions of dollars to retirees, but the money is not there — and someone has to pay the bill.
Only defined benefit pension plans have unfunded liabilities. Their benefits are guaranteed and not based on what an employee contributed. In contrast, defined contribution plans — like 401(k)s — are paid out to employees as they are earned. For governments to stop accumulating new pension liabilities, they need to enroll new employees in defined contribution plans.
An unfunded pension liability represents the amount of money a government has promised to retirees in benefits but for which it does not have the funds. In a defined benefit system, state and local governments make payments to employees’ pensions while they work. Then, by the time the employees retire, their benefits have been saved.
But governments are behind on their payments. The state of Michigan and most local governments have not been putting away enough money each year.
The Michigan Public School Employees Retirement System used 87 percent of its funding this year simply to pay down its unfunded liability. To put it another way, it only saves 13 percent of its funding for the current generation of employees who are paying into the system. This backward method of funding spends more and more on retirees and neglects saving for active employees.
The school system has an unfunded pension liability of $26.7 billion and is only 60.5 percent funded.
This issue extends far beyond the school system. City and county pensions face similar problems with their defined benefit plans.
Michigan’s 100 largest cities have saved 69 percent of what they need. Combined, these city pensions are $4.2 billion short.
Some city pensions look much better than others. Consider, for example, Michigan’s second- and third-largest cities. Grand Rapids is 97 percent funded and needs $29 million to catch up. Warren is 67 percent funded and has a $206.6 million unfunded liability.
At the county level, pensions are only 76 percent funded. Michigan’s 83 counties together are $2.5 billion short of being fully funded.
Wayne County has less than half — 49 percent — of the money it needs to make good on its promises. That’s the lowest percentage in the state and gives the county an unfunded liability of $846 million.
Neighboring Oakland County’s defined benefit plan has 98 percent of the money it needs, with an unfunded liability of $12.7 million. The county closed that plan in 1994 because it expected a problem with unfunded liabilities in the future. It now offers a defined contribution plan to new employees. By contrast, Wayne County’s defined benefit plan is still open to new hires.
Michigan's Constitution says that promised pensions must be paid. But it also says governments need to put enough money away for their systems. Right now that isn't happening.
Politicians of all stripes and government officials in most communities have shown that they cannot be trusted to fully fund defined benefit plans. The solution is simple: Shift all new employees to 401(k)-type plans. Doing so will force public entities to pay for a secure retirement without piling up liabilities for future citizens.
Local governments in Michigan must keep their promise to current retirees and workers. But they need a different retirement system for new workers.
