If you work for a private company, you may have a retirement account like a 401(k) or IRA. These plans depend on how well your investments perform, which means the amount of money you’ll have when you retire can go up or down depending on the stock market.
A pension plan offers something different: a guaranteed amount of money every month after you retire, no matter what happens with the market.
Pensions used to be common in both private and public jobs, but now most private companies no longer offer them. However, many public employees — like teachers, police officers and firefighters — still get pensions.
For public employees, pensions are a key part of their compensation because government jobs often pay less than similar private-sector jobs.
How are pensions funded?
Unlike a 401(k) or IRA, where you take the risk of market ups and downs, your employer takes that risk with a pension. They are responsible for making sure you get paid a promised specific amount each month, even during bad economic times.
Pensions are funded by money from two places:
● Your employer (like the state, city or school district) adds money to the fund as well.
This money is invested over the years to grow. The goal is to have enough in the fund to pay everyone who retires. If a pension fund for public employees doesn’t grow as expected, taxpayers may need to help cover the gap.
How are pension payments calculated?
A pension is a promise from your employer to pay you a certain amount after retirement. How much that amount will be depends on three things:
● Years of service: The longer you work, the more you earn toward your pension.
● Salary history: Most pensions use the average pay of your highest-earning years (often the last few years of your career) to calculate how much you’ll get.
● Multiplier: A percentage that determines how much of your salary you get for each year of work.
Suppose you worked for 30 years and your average salary during your highest earning years was $100,000 per year. If your retirement plan gives you 2% of your highest average salary for every year of service, your pension would pay $60,000 a year for the rest of your life (2% × 30 years × $100,000), plus adjustments for inflation.
This system means working longer and earning more can lead to a bigger pension.
Challenges facing pension systems
Pensions offer retirees a steady income, which makes retirement much more secure. However, pensions face challenges, especially in public systems:
● Underfunding: Some pension funds don’t have enough money to cover future payments due to poor investments, low contributions or retirees living longer than expected.
● Pension spiking: This adds unexpected costs to the system.
When pension funds fall short, governments might have to raise taxes or cut public services to cover the gap. And employees who still have not retired may need to contribute more of their income to the pension system or receive poorer future benefits.
What is pension spiking?
Pension spiking happens when employees look for ways to boost their income with the aim to increase their pension payouts. For example, if someone works a lot of overtime or cashes out unused vacation days before retiring, their pension could be based on this higher income instead of their normal salary.
Most pension funds are not structured to account for these sudden income spikes, leaving them unprepared for the increased payouts. This can lead to funding shortfalls, making it harder to cover benefits for all retirees.
Pension systems in Washington
Washington’s state-managed retirement system covers approximately 650,000 members, including about 300,000 retirees or inactive employees and 350,000 active workers who are still contributing to the system. These members are or were employed by any of roughly 1,400 public employers, including state, county and city governments, school districts and various public agencies.
The system runs six major public pension plans:
● Public Employees’ Retirement System (PERS)
● Teachers’ Retirement System (TRS)
● School Employees’ Retirement System (SERS)
● Public Safety Employees’ Retirement System (PSERS)
● Law Enforcement Officers’ and Fire Fighters’ Retirement System (LEOFF)
● Washington State Patrol Retirement System (WSPRS)
● Judicial Retirement System (JRS)
Some cities, like Seattle, Spokane and Tacoma, run their own pension systems for their employees. However, firefighters and police officers across the state participate in the state-run LEOFF plan, no matter where they work.
The opinions expressed in reader comments are those of the author only and do not reflect the opinions of The Seattle Times.