Are you saving $14,180 a year for your pension? That is how much you would have needed to save – every year for the last 35 years – to pay yourself a pension equal to that of a federal public servant retiring today. That’s a lot of money and precisely why taxpayers are on the hook for an unfunded federal pension liability of $208 billion, according to a recent C.D. Howe Institute report.
To save taxpayers from this giant and growing future bill, the government needs to make changes to these pension plans.
The reason taxpayers owe so much for these bureaucrat, military and RCMP pensions is that they are very, very generous. Only MPs have more generous pensions.
Most employees in the federal public sector enjoy defined-benefit pension plans. They may retire and be paid a guaranteed pension of 70 per cent of the average of their highest five consecutive years of paid service. These pensions are fully indexed annually to cover cost of living adjustments (COLA). These days they get 2.9 per cent a year COLA, which is almost three times the rate of inflation.
In 2009-10 the number of federal employees reportedly earning over $100,000 was 42,050, having almost tripled in five years. Earning $100,000 puts one in the top 2 per cent of income earners in Canada.
Imagine an employee who started working for the federal government at age 25 whose average salary for pension calculations is $100,000. This employee is entitled to retire at age 60 with a full pension starting at $70,000 per year, indexed for life. At age 81 she would be paid $135,099. With an average life expectancy of 81, this recipient will be given 24 years of benefits totaling $2,379,887.
Anyone else retiring on their own savings would require $1,014,200 in the bank at retirement (CPP excepted), earning a 5 per cent annual return, just to yield an annual payment of $70,000 – with no indexed growth! In order to save up that amount an individual would have to save $11,194 per year, every year for 35 years. If one was lucky enough to have an employer willing to match contributions then a person would still need to find $5,597 – per year every year. Not easy to do, especially in the early days of your career!
In order to have enough to pay oneself an indexed pension like a retired public servant starting at $70,000 and growing to $135,099 after 24 years, you would have to have saved $1,280,732. This means an individual would have to save $14,180 a year – every year for 35 years – and earn 5 per cent every year in compounded interest, hoping the markets never crash. If your employer pays half then you still must save $7,090 every year from age 22 to 57!
In 2010, there are 261,159 federal retirees and survivors receiving retirement payments. This is projected to grow to 296,180 in 2015 – a 13.4 per cent increase – when fewer taxpayers will be around to pay for more retirees. That’s expensive.
To reform the plan the government needs to consider a mixture of a variety of measures: require that contributors pay higher contribution rates, reduce benefits, delay retirement and reduce indexation. In making these changes the government will likely need to grandfather some employees already close to retirement.
Next they absolutely must convert the plan for non-grandfathered and all future employees to a defined-contribution plan. A defined-contribution plan is like most private sector plans where an employee’s contributions are matched by the employer (taxpayer) dollar-for-dollar and invested in the market. If the markets crash or pension administrators mis-judge returns, life expectancy or retirement rates, taxpayers aren’t on the hook for the shortfall.
Importantly, the government needs to limit salary increases. For every 1 per cent general increase in public sector pay, the government books a future pension liability of $5.4 billion.
The number of federal employees also needs to be reduced.
Politicians have avoided making this tough decision and taking decisive action over fear of bureaucrat backlash. In doing so, they risk taxpayer backlash as these bills increasing come due. The choice for government is between fiscal prudence by reform or employee pandering and further reckless spending.
It should be a very easy choice.