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Public-Sector DB and DC Plan Households May Need to Review Savings Habits

Public Sector Plans

New research finds that households with a public-sector defined contribution (DC) plan who have a primary defined benefit (DB) plan feel more comfortable spending than those without a primary DB plan, but that comfort level may be short-sighted.

According to the research conducted by the Public Retirement Research Lab (PRRL) and J.P. Morgan Asset Management, when households have a primary plan that is a traditional DB plan, the households are found to spend more relative to their income than those who have a primary DC or hybrid plan.

Yet, for the households with newly hired public-sector DC plan participants, the benefits from the primary plan are likely to be less than those of longer tenured or retired cohorts. In fact, state and local governments have been active in reforming the pension plans offered to public-sector employees, which, in many cases, has resulted in significant changes in the benefits offered, generally reducing guaranteed benefits for those newly hired, the research notes.

As a result, the households with new hires may not be as prepared for retirement as they expect, the organizations explain in Spending and Saving Behavior of Public Sector Defined Contribution Plan Participants, which analyzes the spending and saving behavior of nearly 37,000 households with public sector DC plan participants. 

The findings show many households with public-sector DC plans that have a primary DB plan as part of their retirement benefits package largely have not adjusted their spending and saving behavior—even though pension benefits have been reduced for many state and local governments over the last decade.

Thus, what the DB plan will actually provide in retirement may not be as well understood beyond knowing that the guaranteed benefit exists—especially by individuals who are far from retirement. This could have significant ramifications for these households at retirement when the benefits are not as generous as expected.

Moreover, those with a primary DB plan contribute less as a percentage of income to their DC plan, on average. According to the research, this is likely the result of the requirement to contribute to most primary DC and hybrid plans versus the supplemental nature of the DC plan for those with a primary DB plan.

In contrast, when the primary plan is something other than a traditional DB plan, households with DC plan participants are found to have spending and saving behaviors that could lead to better retirement preparation, the report notes.

The researchers further observe that the absence of Social Security coverage does not correlate with reduced spending relative to income the way that the absence of a primary DB plan does. “Yet, if the household’s DC plan participant is not covered by Social Security and has lower expected guaranteed retirement benefits, the household may need to rely on more savings to generate higher potential retirement incomes without the additional guaranteed benefits of Social Security,” the report states.

“Public sector employees, in particular newly hired employees, could benefit from more education about their retirement plan offerings and finances through financial wellness or similar programs to better understand their plan benefit structure, how that can impact current and future spending, and the potential need to save more,” notes Matt Petersen, Executive Director of the National Association of Government Defined Contribution Administrators (NAGDCA).

And given many states having tight budgets, employees’ use of their DC plan could make the difference in how comfortable their retirement is financially, the report further emphasizes.

“These research findings point to the importance of public sector employees understanding their retirement benefits package holistically to make an informed decision about spending and saving in order to achieve retirement success,” explains Kelly Hahn, Defined Contribution Strategist at J.P. Morgan Asset Management. “Plan sponsors have an important role to play here, by helping their employees understand the generosity of their DB plan and any lack that may need to be addressed through the use of a DC plan.”

The data on which the analysis was conducted was taken from the PRRL Database and JPMorgan Chase Bank, NA. The PRRL Database contains public-sector DB participant and plan data from nearly 200 457(b), 401(a), 403(b), 401(k) and other DC plans, including nearly 2.3 million state, county, city, and subdivision government employees. The PRRL is an industry-sponsored collaborative effort of the Employee Benefit Research Institute (EBRI) and NAGDCA.