In the United States, public sector pensions are offered by federal, state and local levels of government and are available to most public sector employees. The promise of a pension on retirement is a significant part of government compensation. Public pensions have long been advertised as offering generous, guaranteed benefits for public employees while collecting low and stable contributions from taxpayers (Biggs 2013). The employer contributions to these plans may vest either immediately or after a certain number of years of service and can then be withdrawn or rolled over to another retirement plan if the employee leaves the company. These retirement plans may be defined-benefit (DB) or defined-contribution (DC) pension plans; although defined-benefit plans have been most widely used by public agencies in the U.S. throughout the late twentieth century. Studies show that public sectors find that defined-benefit pension plans are strongly preferred over defined-contribution plans primarily because defined-benefit plans are more cost efficient than defined-contribution plans due to higher investment returns and longevity risk pooling (Pension Rights Center 2011).
According to Mikesell (2011), providing pensions can be expensive, particularly in light of the fact that people are living longer and returns that can be earned on funds invested to finance retirement income have recently been dismal. Public pension funding has become a pressing policy issue in the wake of the financial crisis and given the pending retirement of a large number of baby boomers entering retirement age. The pension crisis has posed financial difficulty in paying for federal, state, and local pensions in the U.S. for several reasons; the primary reason being the difference between pension obligations and the resources set aside to fund them known as underfunding. This paper will give some background on the two aforementioned pension plans, the crisis plaguing the federal, state and local pension plans and the causes and proposed solutions to the pension plan crisis.
Types of Pensions Plans
There are two primary types of retirement plans that employers offer to their employees. One of the two plans is DC plans, which are primarily 401(k) s and IRAs and operates like a savings account. These accounts have numerous tax-advantages and are largely funded by the employee. Although employers make regular contributions to an employee’s investment account, they make no guarantee about the dollar value that will be paid on retirement. In a DC plan, the investment risk and investment rewards are assumed by the employee and not by the employer. Sometimes the risk could be substantial depending upon the investment choices and the performance level of the chosen investments. If the contributions to the plan have been insufficient or if the securities in which the contributions have been invested lose value or appreciate too slowly, the...