Member examples help explain spiking proposal

In February the Ohio Public Employees Retirement System Board of Trustees voted to adopt a measure in part to address the practice of spiking one’s final average salary to receive higher retirement benefits.

The chief tool proposed by the OPERS Board is what we call the contribution-based benefit cap. It considers the member’s career contributions toward his or her pension, in addition to the final average salary, in determining one’s annual benefit.

Many of our members have responded to our social media discussions of this benefit cap by asking for more examples. We hope the following examples provide clarification of this issue. As we stated in the first blog on the subject, if the cap had been in place, it would have applied to only 2 percent of new retirees from 2006-10.

We repeat: The contribution-based spiking proposal will not impact members who have had normal raises and promotions throughout their careers. Rather, it is meant to temper benefit payouts that are out of line with a member’s career contributions that ultimately are subsidized by other members.

It is important to remember that this proposal requires the passage of legislation by the Ohio General Assembly prior to implementation.

The following examples help explain the benefit cap, and show that the cap only applies in unique circumstances with fact patterns that do not represent the typical career for public sector workers.  In addition, there are two graphics below that illustrate the examples.

For purposes of these examples, certain assumptions have been made:  the members began public service at age 23 and worked for 32 years.

  • “Al Steady”: This member received annual salary increases over his career and never was promoted. His five-year FAS was $37,481, and the accumulated contribution that represents his pension contribution, plus interest, was $85,325. Thus, Al would receive an uncapped annual pension benefit of $26,387.
     
  • “Bea Drop”: Bea worked for 22 years with a starting salary of $50,000 and annual raises, making over $100,000 in her last few years. Then, she moved into a part-time job with a pay cut to $13,938 and earned 4 percent annual raises for 10 years thereafter. Even though she had the salary drop and moved to part-time status, her annual pension benefit of $74,275 would be uncapped because of her high level of employee contributions over time compared to her final average salary of $105,505.
     
  • “Carl Ladder”: Carl received annual increases. But he also received a promotion every five years. He received a pay increase of $20,000 with each promotion, so his compensation chart looks like a stair step. Carl ended his career with a high salary ($231,082), but because of his significant contributions, he retired with an uncapped benefit of $147,385.
     
  • “Dan Spike”: Dan began his career with a salary of $12,000 and was earning a modest annual raise of 1 percent for 22 years. Then, he moved into a job that paid $100,000 more than his then-current salary of $14,789. That compensation spike later resulted in a benefit cap. Even though he worked for 10 years at the higher salary, his benefit would be capped at $68,481 instead of the projected $86,648 because his contributions were out of line with his FAS.
     
  • “Erin Jump”: Like Dan, Erin began her career making $12,000 in salary and received modest, 1 percent, raises each year for 27 years. Then, in the last five years of her career, she “jumped” to a new job paying $100,000 more than she was earning. Because of this change, her lifetime contributions were actually less than her five-year FAS. Her annual benefit would be capped at $44,199, instead of the $82,986 she would have received without the contribution-based benefit cap.

The contribution-based cap proposal would not have a transition plan, so it would apply equally to members of Groups A, B and C who have not contributed enough in employee contributions upon retirement.

We hope that these examples help to illustrate that the proposed benefit cap, and that the issue only applies to a small subset of our membership. Members who are able to spike their final average salaries have their benefits subsidized by members who do not spike, and this cap helps to control that disparity.

The practice of spiking is often cited by observers as a significant issue for public pension funds. It requires a legislative solution.

Spiking example chart

CBBC cap chart

 

 

Spiking example

Cap chart for various members

 

This entry was posted in Pensions. Bookmark the permalink.

35 Responses to Member examples help explain spiking proposal

  1. lindaschuetz says:

    This seems reasonable to me.
    .

  2. Greg says:

    Well done, thanks for the update!

  3. julie says:

    Are we missing something or not? If this cap proposal isn’t going to lower members benefit the younger they are then why do you need to have a different annuity factor number for different years of age? I hope i’m missing something because it sure sounds like everyone’s benefit will be lower the younger you are even if you have in your 30 years and without spiking.

    • Michael Pramik says:

      Julie,

      The proposed cap will not lower everyone’s benefit.

      The reason the cap requires a different annuity factor for different years of age is that the annuity factor converts the member’s accumulated contribution to an annuity payable over the retiree’s expected remaining life. Life expectancies vary depending on the age of retirement.

      — Ohio PERS

  4. Dave says:

    While it shows a nice set of examples, this still actually doesn’t tell how members would be affected without the list of Annuity Factors being supplied. I really think these should be published for the members, like all the other aspects of the proposal have been, before the proposal is submitted to lawmakers.

  5. Carol Poliseno says:

    Do you mean even if we already have are 30 years in now we would have to do a five (5) year FAS benefit instead of the three (3) years … or will the 30 years employees still use the three (3) year benefit cap???

    • Michael Pramik says:

      Carol,

      Members of our “Group A,” who must be eligible to retire within five years after the effective date of the legislation, would be grandfathered under the current age and service eligibility rules.

      –Ohio PERS

  6. Tom Severns says:

    I think it’s great that OPERS is finally addressing “spiking.” A key factor in determining the amount of an individual’s pension should be the total amount contributed by the individual and the employer – not just years of service and final average salary.

  7. Carol says:

    By using the equation from the earlier blog (Accumulated contribution x Annuity factor x Contribution-based benefit cap (CBBC) factor = Annual benefit) and using the stated CBBC factor of six, it appears that the annuity factor was not applied equally despite all these folks being of the same age (either 60 years old per the text or 55 years old per the graph). For Al Steady an annuity factor of a lowly .05 was used up to a whopping .07 used in Erin Jump’s CBBC calculation. Could OPERS please clarify this for us?

    • Michael Pramik says:

      Carol,

      The same annuity factor was used for all of the members in this example.

      –Ohio PERS

      • Carol says:

        Michael,
        If I use OPERS’ equation from the earlier blog and the actual numbers from the chart above then below are the values that were used for the Annuity Factor in these examples. Is a different equation being used to get to the above Benefit Caps? Thanks for your help as I am struggling with this example as the numbers just don’t add up, especially for Al Steady. He would have had his 3-year FAS capped after working full time for all 32 years without even one promotion.

        A: 85K x AF x 6 = 26K AF would equal .05098
        B: 225K x AF x 6 = 74K AF would equal .05481
        C: 361K x AF x 6 = 147K AF would equal .06787
        D: 161K x AF x 6 = 68K AF would equal .07039
        E: 104K x AF x 6 = 44K AF would equal .07051

        • Michael Pramik says:

          Carol,

          The problem is that you are trying to multiply the lifetime contributions by an annuity factor to come up with the annual benefit. The annuity factor is used to determine the benefit cap amount, not the annual benefit.

          The annual benefit is still determined by our current formula: (FAS) x (2.2%) x (years of service time). The benefit cap formula is (contributions plus interest) x (annuity factor) x (6).

          If the annual benefit is higher than the cap, which it is in the cases of “Dan Spike” and “Erin Jump,” then the cap amount is used as the benefit amount.

          –Ohio PERS

  8. tischer says:

    It is amazing. All the time you took to help members understand the calculations to assure them of the fairness of the calculation is commendable. What I don’t understand is why if you can make all these calculations with the annuity factors you have in hand and expect members to rely on your examples based on those factors, why you cannot simply display the annuity factors chart and let members calculate their own examples? Is it that you believe members are not smart enough to multiple numbers out of the simple formula you initially gave?

    • Michael Pramik says:

      Several members have asked us to publish an annuity factor chart so that they might calculate their projected pension benefits. We have not done so because the chart that will be used to determine the benefit cap will change between now and the passage of pension legislation.

      The factors will change for two reasons. First, they need to be updated in accordance with our recent, 5-year experience study. Second, our current factors assume an annual, 3 percent COLA. That no longer will be the case for members who retire after passage of pension legislation.

      When the final details of pension legislation are clear, our actuarial firm will calculate a new set of annuity factors, and it will be possible for members to determine their projected benefits relative to the possibility of a benefit cap.

      –Ohio PERS

  9. SJ says:

    You seem to have forgotten that, before 2008, contributions were 8.5%. Adjusting for this, and assuming retirement in 2019, Carl Ladder will be capped at $142,906 That amount decreases the more time he has before 2008, of course.

    You have said that this applies “to members who retire after pension legislation becomes law.” Since I have 34 years in, I believe that it is time to jump ship.

    • Michael Pramik says:

      SJ,

      Although we did not figure varying contribution rates in our latest examples, we can state that the 2 percent affected rate from 2006-10 considered varying contribution rates.

      –Ohio PERS

  10. Tim says:

    Who would have known as I near retirement I would be a “spiker” and a “two percenter”. We all can agree the system needs to be fair and financially sound. I believe the contribution based benefit cap is fair. I also believe there should be some type of transition as with all other proposed changes except COLA. If the anti-spiking only affects “two percent” then this has a huge impact on a few with a very small impact on the system if the provision is transitioned. I doubt lawmakers would object to a transition. Some of us have made significant career decisions based on long standing rules. The fair way is to transition.

    • Ben L says:

      100% agreed! I have just reached 29 years and having to sweat these important details with less than 365 is stressful to say the least.

  11. robert h. schuster says:

    This is my example that happen in northwest ohio—the example person is now deceased.
    Person served many years on state boards appointed by the governor, which only meet a few times a year, with a salary of $5000+- per year. Then after 20 years+- got appointed to $75,000 yearly board or commission salary for 3 years. Person also ran a business during those years. Drew his pension based on the $75,000. This happens to persons who are politically connected, I wonder how often this happens in the state.

  12. Dean says:

    Under the scenarios given for Dan Jump and Erin Spike, they basically worked for over 20 years making the federal minimum minimum wage and received a huge increase before retirement. Probably not a scenario likely for many members. What would the cap look like for a 26 year employee making $45k after 3% increases over his career and receiving a promotion paying $55k to a 32 year retirement? How would the spiking provisions affect those with a OPERS approved leave conversion plans?

    • Michael Pramik says:

      Dean,

      There is not enough information to provide you a definitive answer. For instance, we’re not sure if this employee made any service credit purchases, whether he or she has been continuously employed at full-time positions, or of the age at the time of retirement.

      However, making assumptions of a retirement age in the mid-50s, with continuous employment, no service purchases, 1 percent interest and a contribution level of 10 percent, the member’s formula benefit would be about $41,000 per year and the cap about $55,000.

      As you can see, the formula benefit in your example, given these assumptions, is nowhere near the cap amount. Someone making steady increases for decades and receiving one reasonable (in this case 22 percent) promotion would not threaten the cap.

      We will update this reply with an explanation of how the plan might affect members with an OPERS-approved leave conversion plan.

      –Ohio PERS

  13. hoping to retire soon says:

    Reducing the COLA just seems plain wrong, especially when it is already non-compounding.

    Those members retiring at younger ages will probably live to see their pensions dramatically eroded by this measure. As bizarre as it may seem, it is conceivable that the reduced pension of a person retiring early with, let’s say, 29 years (but in time to get the 3% guaranteed COLA) could eventually overtake the benefits of a similarly-salaried 30-year member who retires just after this legislation takes effect!

    This is quite a dilemma that those with 30 years will soon be facing — whether to keep working and lose the present COLA rate or retire almost immediately just before the new legislation takes effect (and hopefully there will be enough time to even make that decision). Somehow the five year transition period with the 3% COLA guarantee just doesn’t seem to suffice.

    I like the note in the Group A COLA calculator on the OPERS home page saying that the Consumer Price Index average for 1999-2008 would have been 2.8 percent. Looking at the CPI chart (which one member provided a link to in one of these blogs), it seems that that number was derived using the yearly CPI averages — some exceeding 3% as well others below 3 percent. But in reality, any high number would have hit a ceiling at the 3% level. By my reckoning, that 10-year period would really have an average of 2.64 percent.

    [ In other words, the yearly numbers of 2.2, 3.4, 2.8, 1.6, 2.3, 2.7, 3.4, 3.2, 2.8, and 3.8 should really be taken as 2.2, 3.0, 2.8, 1.6, 2.3, 2.7, 3.0, 3.0, 2.8, and 3.0. ]

    And what about 2009 when the CPI average was -0.4 percent? Would OPERS be reducing our benefits in a year like that? I may be wrong but I don’t remember reading any guarantee that the lowest COLA would be zero.

    It seems that the only fair way to tinker with the COLA provision, is to either leave it alone altogether or to gradually phase in the new system very very slowly.

    How about guaranteeing a 3% COLA for as many years as each member has in service time when the legislation gets passed, regardless of when they choose to eventually retire. That way a 30-year member would be guaranteed thirty years of the present COLA even if he or she doesn’t retire until another ten more years have passed; and a 10-year member would enjoy ten years at that rate even if it takes a couple decades before he or she starts collecting their benefits. I don’t think any member would be too upset by that type of phase in.

    The least OPERS could do would be to ask its actuaries to make an assessment about such an approach rather than to just simply say it is out of the question. As for myself, I guess I would not be too upset with the CPI approach if the increases were compounding.

  14. Bill says:

    Thankyou for the various examples, but you left one out. What about the person that has part of their compensation based on incentives and has highly varible income? I also have some concern over any system that the average member has trouble understanding. Will we know every year if we trigger the reduction or will members have to wait for retirement? Couldn’t anti-spiking take an easier form to understand (like just lenghthening the FAS period?). Thanks.

  15. Kathy says:

    How do service credit purchases affect the cap?

    • Michael Pramik says:

      Kathy,

      Member contributions made to purchase service credit increase the lifetime contribution balance. And, of course, service credit purchases would increase the formula benefit. As long as the service purchase is not subsidized by the system, it shouldn’t increase the member’s likelihood of being affected by the contribution based benefit cap.

      –Ohio PERS

  16. Kathy says:

    How would you know if the service purchase is subsidized by the system or not?

    • Michael Pramik says:

      Kathy,

      Generally, the cost of service purchases as describe in statute is based on a formula that is not based on the full actuarial liability. We also conducted a study on this topic in 2006, which gave us information as to subdized levels of service purchases.

      –Ohio PERS

      • Roswitha says:

        Show us the same example only the pepole are both 55 years old with 32 years of service. This spiking clause is to punish pepole who have their 30 years in at a younger age; if not show us and we will trust you. How can the retirement board do this to pepole who are ready to retire this year. If the spiking rule has to be put in the only fair way is to have it in the grandfather rule like everyother change; it’s only fair.

        • Michael Pramik says:

          Roswitha,

          Under the Special Coverage area on our home page there is a link to a calculator that will help you determine whether you would be affected by the cap, which was not created to “punish” people who retire at a young age.

          –Ohio PERS

  17. gregory says:

    I am very disappointed that OPERS is pulling a bait-and-switch with employees who, like me are, within 3, 4 or 5 years of retirement and who have, through hard work and effort, receive salary increases towards the end of their careers. After a long career with slow & gradual increases, I received a promotion to a position that I aspired to for years. With the promotion, received a 25% increases in my salary.. I hope to finish my career at that level, and now you have suddenly proposed to change the rules. In doing so you have created uncertainty as to whether or not I will be able to retire base upon the undefined “anti-spiking” provision. I feel as though I am being punished for working hard and taking on additional responsibility in my public employment. Moreover, this idea comes out of nowhere and is presented by the OPERS board as a fait accompli. At a minimum it should be grandfathered for people already eligible to retire, so as to give people fair notice

  18. David says:

    HTRS,

    You are correct that in some scenarios it’s possible that you could retire now with 29 years of service, and eventually see a monthly pension benefit *higher* than the one you’d have gotten if you’d waited.

    In many cases, the sum of all the benefits you’d receive would be higher, too – though that’s partly because you would start receiving benefits a year earlier. When you evaluate this comparison, don’t forget that if you work the extra year, you have another year’s salary in your pocket, which will almost certainly be more than you’ll receive in pension benefits.

    You can calculate this with a spreadsheet – and I have. Though I was comparing 28 and 29 years, the principle is the same.

    Here’s what I found. When I assumed that CPI would increase 1.5% each year, my 28-year monthly benefit (with the fixed 3% non-cumulative COLA) exceeded the 29-year monthly benefit in the 12th year.

    However, when I tried a CPI of 2.5%, things didn’t look so rosy. The earlier retirement’s monthly benefit finally caught up at 23 years. I should live so long!

    This illustrates one of the problems. If you run this calculation, what CPI average do you use? The last 10 years, the last 20, the last 30? Will the next 20 years look like the 1990s and 2000s, or more like the 1970s and 1980s?

    And that’s only one of the many unknowns and uncertainties that make this so tough to determine. For example, the feds have changed the way they compute the CPI over the years, so is an average even valid? If they change it again 2 or 5 or 10 years from now, how will that affect future benefit adjustments? Based on past changes, most likely they’d change it to make the reported number lower, not higher — but what if they were to take the opposite approach?

    Finally, as I understand it, there is no guarantee that if you retire today you’ll be locked into the fixed 3% COLA for the rest of your life. I’m sure that OPERS wants to give retirees as much stability as they can, but remember, our benefits are regulated by Ohio law. If someday the legislature says “no more COLA for anyone,” or “index everyone’s COLA to CPI,” then it’s curtains for your fixed 3% COLA.

    For that matter, if some future legislature decides that public employees are valuable to Ohio after all, and realizes that a secure retirement to look forward to is an incentive for good work, then someday we might even get a real cumulative COLA.

    Some of this is out of our hands, impossible to predict, but much is dependent on the legislature. If you’re a public employee or retiree and you’re not involved in Ohio politics, campaigning and working for legislative candidates who will support us, you’re not acting in your own best interest.

    Each person has to make up his own mind about when to retire, but I would recommend thinking very carefully before assuming that you’ll be ahead by retiring now and (maybe) locking in a fixed 3% COLA.

  19. David says:

    Gregory,

    I understand your position. But please remember – if you hadn’t been in OPERS and had been saving a percentage of your salary in an IRA or other investment all your working days, most of what you’d have to retire on would be based on your earlier salary, not your current one.

    It’s exactly the same with OPERS.

    For once, I agree with the critics. It’s more fair if what you receive at retirement is based on what you’ve put into the retirement system over the years, not on what your salary is now. In fact I think it’s rather generous of OPERS to base our benefits on our 3 (or 5) highest salary years, even with this proposed adjustment.

  20. Vicki says:

    I worked 23 years in a small library with a very small salary. I became a director in a mid-sized library which almost doubled my salary. I will be in this position for at least 10+ years before I retire. I bettered myself and now I find myself being punished for it. My salary increase was less than $20,000 but after plugging everything into your calculator, I’m finding that my increase is a “spike” and that I will be losing part of my pension because of it. You used $12,000 to $100,000 as an example of spiking, but you didn’t explain to everyone that a small $26,000 to $45,000 increase would also be considered a spike even 10 years before retirement. I consider a “spike” as something done in your fas years to artificially increase your final pension. I would be fine in supporting that kind of a spike. I don’t consider my situation as something that warrants a decrease in my pension.

  21. Terry Giancaterino says:

    So in regards to the spiking element. Does this part go in effect Jan. 07, or is it in effect now. Does the rule apply to group A or to anyone who is currently working and already has their 30 yr of service completed and are trying to reach year 33?

    • Michael Pramik says:

      Terry,

      It will go into effect for everyone who retires after the law’s effective date of Jan. 7. It does apply to Group A members. But by law any reduction in benefit for Group A members is limited to 5 percent of their “capless” benefit, unless during any full month of service after Jan. 1, 1987, the member’s earnable salary was less than $1,000.

      –Ohio PERS

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>

Comments Policy