DALLAS -- A new law overhauling retirement benefits for Michigan teachers will be a credit positive for school districts and the state because they must no longer shoulder the entire burden of poor investment returns in the future, said Moody’s Investors Service.
The legislation, signed by Gov. Rick Snyder last week, requires employees to cover half of the associated amortization costs if unfunded liabilities materialize, and the new hybrid system will be closed if it falls below a reported funded ratio of 85%.
“These governments will no longer carry the entire burden of investment performance risk for new employee pensions,” Moody’s wrote in a report on Thursday.
Shifting the burden of investment performance is important because the failure to meet the assumed rate of return alone is responsible for almost $20 billion of the pension shortfall the Michigan Public Schools Employee Retirement System faces today. State and participating governments’ challenge of funding MPSERS has grown considerably over the past 10 years, with employer pension contributions rising to 27% of payroll in the fiscal year that ended September 30, 2016, compared with 9% of payroll in 2007, according to Moody's.
The legislation closes to new employees an existing hybrid plan that was established in 2010. The new plan requires a 4% employer contribution plus an optional 3% employee contribution that would be matched by the state, for a total of 10% of the employee’s salary. The legislation requires a 6% assumed rate of return in the new hybrid plan and imposes new reporting and analysis requirements. The existing plan assumes a 7% return. The law will apply to all employees hired after February 1, 2018.
The state would incur about $24 million in additional fiscal year 2017-2018 costs including $11.8 million for the defined contribution changes and $11.3 million for the hybrid plan, and $1 million for a higher match proposed for the existing defined contribution plan. The overall cost rises to $38.7 million in the next fiscal biennium and to $53 million in fiscal 2019-2020.
Moody’s has downgraded 17 school districts in the state so far this year based on their weak financial positions and high levels of debt and pension liabilities.