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Just as private-sector employers have moved away from traditional pension plans in favor of hybrid plans, some states have done the same.
Kansas, Kentucky, Louisiana and Nebraska have passed legislation creating cash balance plans for new state employees, though Louisiana's effort is on hold following a legal challenge by a group of state employees.
Like their private-sector counterparts, public employers moving to cash balance plans are driven by several factors, such as trying to reduce costs and making the benefit more understandable, experts say.
In a cash balance plan, the benefit earned is equal to a percentage of current pay with interest, such as the rate on the 30-year U.S. Treasury bond, being added. Participants typically take the benefit immediately as a lump-sum when they retire, rather than a monthly annuity, a potential cost savings to the plan sponsor.
“Since benefits are frequently paid as lump sums, the employer bears no longevity risk and the investment risk ends at the point of distribution,” said Sheldon Gamzon, a principal at PricewaterhouseCoopers L.L.P. in New York.
While cash balance plans' benefit formulas resemble defined contribution plans, they are different in one key way: Employees are shielded from investment risk.
Among states, Nebraska took the lead in 2002 when it passed legislation enrolling employees hired on or after Jan. 1, 2003, in a cash balance plan where employees contributions equal 4.8% of compensation and the state contributes $1.56 for every dollar contributed by employees. Participants get a minimum interest credit of 5%.
In 2012, Kansas passed legislation creating a cash balance plan for state employees hired on or after Jan. 1, 2015. Under the plan, employees will contribute 6% of pay, while employer contributions will range from 3% to 6% depending on employees' years of service. Interest credited will be at least 4%.
Last year, Kentucky approved a measure creating a cash balance plan for employees hired on or after Jan. 1, 2014. Most new workers contribute an amount equal to 5% of pay. Employers contribute an amount equal to 4% of pay, with employees' account balances earning 4% interest annually.
But Louisiana's 2012 attempt to create a cash balance plan was blocked last year by the state's Supreme Court, which ruled the measure violated the state constitution by failing to win approval from at least two-thirds of state lawmakers. “We think the cash balance plan is good for the people of Louisiana because it helps get our retirement liabilities under control, protects taxpayers and provides new state employees with a portable retirement account that realizes investment earnings,” Louisiana Gov. Bobby Jindal said in a statement at the time of the June 2013 court ruling.
Alarmed by escalating costs and deteriorating funding levels, lawmakers in dozens of states have passed measures to shore up public pension programs in the past several years.