Thursday, March 24, 2011

Pension Millionaires

Senator Raymond Lavigne has been in the news lately after resigning to avoid getting kicked out of the senate and losing his \$79,000 per year pension. The part of this that struck me was the article writer’s choice to describe the money at stake as a “\$79,000 pension” rather than its full value which is clearly more than a million dollars. Similarly, generous pension plans make many government workers pension millionaires.

People tend to value spread out payments as less than their total cost. So, a couple spending a day at an amusement park spending a series of small amounts such as \$30 each to get in, \$25 for snacks, and \$15 for parking won’t feel like they spent a total of \$100. The Lavigne article would probably have drawn more ire if the pension’s present value of more than \$1 million were quoted.

Moving to the subject of government workers, a Statistics Canada publication says the following:

“In fiscal year 2006/2007, the average age at retirement of the public servants studied was 58.4 and they retired on average with 29.2 years of pensionable service.”

From this information, we can estimate the value of the average public servant’s pension. (An interesting coincidence is that the average public servant retires with pensionable service of half their lives.)

According to a CBC article, life expectancy for someone who makes it to retirement age is a little under 85 years (as of 2005 to 2007). So, let’s say that the average public servant who makes it to retirement is retired for 26 years (85 minus 58.4, rounded down).

At 2% pension per year of service, the average pension is 58.4% of salary. We could just multiply this by 26 years, but this ignores cost of living increases (pension indexing to CPI) and it ignores the time value of money. If we say that the time value of money is 2% above inflation, then the present value of a 26-year pension is 20.5 times one year’s pension payments. For a pension at 58.4% of salary, the present value of an average pension is 12 times salary. Actuaries may take issue with some of the specific figures I’ve used, but my calculations are close to the mark.

So, the average public servant who retires with a salary above \$83,000 has a pension worth more than a million dollars. The government employs many people who are pension millionaires, but I suspect that most of them don’t feel like millionaires.

1. The disgusting this about public service defined benefit pension plans is that tax payers take on a lot of the risk for the future value of the public servant's pension.

Many ask the question, why do I have to pay for their pension? Before going any further, I should point out that everyone pays for someone's pension (assuming that the employer shares part of the employee's pension costs). If I work for a national bank, the bank charges you for services, which a portion of goes to paying for my pension (assuming they have a plan).

What is obscene with respect to public service pensions is that they are define benefit plans (DBs). I can safely assume that people with DBs are in the minority. Some people don't even have a matching contribution program.

Some would argue, well you should get a government job then, if you want a better pension. I would argue back, why does it matter? Why should someone that doesn't have a pension plan pay for someone to have a much sweeter deal? Why should place of employment define what kind of pension plan you get.

Something backed by taxpayers should not be more extravagant than what the average taxpayer has.

2. @Daniel: It's interesting how attitudes toward government workers ebbs and flows. During the late 1990s tech boom I worked with many government people and they were envious of all the stock options flying around in the private sector. Of course, the value of stock options is usually way overestimated, particularly those held by rank and file employees. In the end, government workers have had the better deal with the defined benefit pension plans as you say.

3. I work for a government agency and (hopefully) will still have a DB pension when I retire. We pay 7% of gross earnings into the pension plan, so how does that factor into your calculations? The one part that your post leaves out is the effect that our DBP has on RRSP room. After the pension adjustment, i'm left with maybe 4-5k contribution room. I know people that have left the company to pursue more money in finance/oil/etc, but I'd rather have stability. I know we have a good deal, but I don't know why everyone loves to hate us. In a race for the bottom, the rich win.

4. I certainly see where Daniel is coming from - why should it matter? Place of employment should not define what kind of pension plan you get, but it is what it is, a huge, massive perk for being a public employee.

Anyone with a full gold-plated DBP should feel damn lucky to have it, and they are indeed millionaires after 25 years of service.

5. What irritates me is workers who "retire" and then return to their job as a contractor. Not only is the double dipping expensive but it doesn't free up a position for a new hire. The company gets logjammed with no new opportunities for young grads.

6. Chris,

Firstly,the hate on has a lot to do with the fact that your 7% contribution is topped up by your employer (taxpayers) totaling more than 30% of your gross salary in many cases, when in the private sector our RRSP limit has only recently topped up to 22%!!! Why should any public sector employee be affordable a benefit which is not even available to the private sector people....

Secondly, your argument about a reduction to your RRSP room is fruitless... Why on earth would you want to contribute to an RRSP? If you DBP is worth 79 K per year, yOu'll be in the high tax bracket anyway.... and therefore an RRSP has no benefit... take your million dollar pension and stop whinning, you have it damn good.

A) public sector salaries are greater than an equal position in the private sector
B) you can retire ten years sooner than private sector employees
C) you have a index pension equal to more than a millionion dollars in an rrsp which is guareenteed and index to inflation....

cry me a river if i hurt your feelings and you don't understand why there is a hate on....

7. @Chris: I don't think it makes any sense to hate government workers. It is the government who agreed to pay generous pensions. Workers can hardly be blamed for agreeing to a good deal.

@My Own Advisor: It sounds like you and Daniel are calling for some sort of universal pension plan covering all Canadians. This sounds like a massive undertaking.

@Susan: I don't have much information about retired public sector workers going back to work as consultants, but it doesn't seem to happen much in private industry. Even workers in their 40s in private industry fear being replaced by a 25-year old at half the pay.

@Anonymous: You're right that government workers have a sweet deal even after accounting for lowered RRSP room and pension contributions. But let's try to keep this civil. As I said to Chris, there is no point in directing frustration at the workers themselves. It is the government that is spending your tax money.

8. sorry i got out of hand... i filed my taxes last night.

You are right, let's focus our attention at the people who gave it to them in the first place.

1. In the USA at least at the County level most workers do not get \$50k, \$60K or more! Most will earn a defined benefit closer to \$25K or \$39K and will supplement that with 401K savings and any Soc security they earned and paid into! I'm sorry, but 15-30 years of service in a position of value at the county ( Social workers, IT techs, Foster care Admin, homeless Adult protective services, on and on ) has to be worth a measly \$25K? I won;t even earn that much after 18 years. And anyone jealous has too options. Get their own job with a pension in or OUTSIDE gov work, or change how gov and private sectors handle worker retirement plans. Oh , are you mad at public sector pensions too? Because you pay for those as well it's just harder to see the bill.

2. @Rsmith: I'm no expert on the U.S. public sector, but from what I do know, it is much less generous than than Canada's public sector. However, a pension of \$25k/year is quite a bit after only 18 years of service. It doesn't make sense to have a career only 18 years long, so it should take much longer than this to get a pension that allows you to never work again.

9. @Anonymous: You can be forgiven a rant after doing your taxes. I've certainly subjected family and friends to a few tax-related rants lately.

10. Don't focus on the \$79k pensions... I doubt very many civil servants will ever get anything like that. As an engineer in a provincial government, when (if) I retire with 25 years' service I expect about 30k, which will be reduced to 25k at age 65.

I know that I make easily 30-40% less than if I had worked in the private sector. If I had done so, and invested wisely over the period, I suspect I could have set myself up with a nest egg that would considerably exceed my government pension.

(These are realizations I have made over the last few years after starting to read blogs like yours... so thanks for all your info!! Had I realized this many years earlier, though, I probably would have quit government and gone private sector, too late now... call it "Private Sector Jealousy")

1. Thank you for a reality check! They always focus on the upper tier, fat cat managers that make the pensions of \$50K and up... when most COUNTY workers will get less than \$30K a year, and out of that, take taxes of course. And at least in IT , the pay is much less in gov than private sector, but I wanted the stability and not layoffs, out sourcing worries or down sizing. It was a trade off I gladly made.

2. @Rsmith: In Canada, the government consistently pays more than the private sector for comparable skill level of workers. IT workers in the private sector are under constant threat of losing their jobs because someone better is available.

11. @Anonymous: No doubt a senator's \$79,000 pension is larger than most public servants get, but it only takes a pension of about \$50,000 to be worth a million dollars.

I've worked in the private sector my whole career and I've worked on many projects where we collaborated with governments. I've heard the "I could make so much more in the private sector" lament from many government workers, particularly during the tech boom. Obviously I don't know about your case, but most of the government people who made this complaint to me were wrong, in my opinion. Government people usually have an overly optimistic view of private sector pay and aren't realistic about the talents required to get the higher-paying jobs. Engineering jobs have a very wide pay range in the private sector and many people with engineering degrees cannot get or cannot hold engineering jobs.

12. Great topic, one guaranteed to draw lots of commentary. I wouldn't be surprised to see down the road changes to government pensions where new hires get a less generous deal. I share Susan's concern about double-dipping.(And thanks for the mention in your Friday post).

13. I am a public servant and would trade my DB plan for a DC plan with matching contributions in a second. Why? Because every public servant that dies will take his pension with him. If you die on day 1 of your retirement, your children won't see a single penny, and it will be returned to general revenues. A little known fact is government pension plans return a large portion of the government's contributions as they are mostly self sustaining. A side penalty is that I have essentially no room for registered savings to the massive pension adjustment.

14. @Anonymous: I don't think many actuaries would agree with your analysis. It's true that you lose on a life-annuity style of pension if you die young, but across all possible lifetime outcomes the DB plan public servant's have looks very good.

On the subject of DC plan contribution matching, this is usually capped. During the years where I had matching it was capped at 3% of income. So, the bulk of my RRSP contributions were not matched.

I'm not sure what you mean by the pension plan for public servants being self-sustaining.

15. First off, I acknowledge that I have it 'good'. However, being only 5 years into my government job (engineering) I also agree with Susan about the double-dippers. There are many people at my office that retire and come back as 'contractors'. I do not support this course of action as it deprives jobs from young graduates, but the blame falls on the shoulders of management who did not manage the knowledge transfer aspect of their jobs. If you don't hire anyone for 10 years, you're bound to have an issue. If you know an expert is going to retire in a few years, you should really have a young person working hand in hand with them.

16. "Secondly, your argument about a reduction to your RRSP room is fruitless... Why on earth would you want to contribute to an RRSP? If you DBP is worth 79 K per year, yOu'll be in the high tax bracket anyway.... and therefore an RRSP has no benefit... take your million dollar pension and stop whinning, you have it damn good.

A) public sector salaries are greater than an equal position in the private sector
B) you can retire ten years sooner than private sector employees
C) you have a index pension equal to more than a millionion dollars in an rrsp which is guareenteed and index to inflation...."

The point is that people (public or private) that have pensions at work really have no other means to save for retirement because the pension adjustment wipes out their RRSP room.

A) says who? I don't know anyone in the public sector who earns more than someone in the private. And I have worked in both.

B) Key word there is "can". If you meet the requirements. According to the Feds, the average public servant working today started working for the Feds at age 32 or something like that. To get a full pension they will have to work 30 years. And plenty of people in the private sector retire before 65.

C)What's the average salary of a public servant? Maybe \$55K? So IF (big if) they actually stay for 30 years, they'll get ~\$38k a year? Including CPP.

Funny thing is I know more than a few people who parrot your "overpaid" ideology. When challenged to go work in the Public sector I only ever hear two types of answers. 1) They won't hire me, they say I'm not qualified. 2) No way!! Give up my stock options/profit sharing/flexibility or nah I'm a small business person (incorporated, so they pay themselves dividends instead of a salary and therefore pay a fraction of the income tax during their working life than the public servant they criticize)

17. If government pensions are so good---join the government. I am not Canadian- but my husband worked for the US government for 30 years. His pay for the first 25 was smaller than private industry, a lot smaller. The trade off was the pension in the end. We were willing to stick it out to have a defined benefit.
Now if you would like to go back and adjust salaries 30 years ago, I am sure I could invest that and have a normal pension today.
BTW- remember that "average" means the person in the middle. My husband is far below the average, so are most pensioners who retired five years ago with us.

1. Uhm, "join the government" - what an inane reply. That's called communism.

18. @Janette: I'm sure that some people do seek government jobs to get the pension. While I don't know anything about your husband's specific case, I'm skeptical of claims that government workers are paid less than those in private industry. This is because in many cases where I heard these claims and got to know the people involved, they were frequently making false comparisons. Essentially, they were looking at private sectors jobs that they weren't talented enough to get. This came from focusing on the most highly paid private sector jobs rather than more typical jobs.

In general, the most talented government workers are underpaid compared to private industry and the least talented government workers are overpaid.

19. I agree with many opinions expressed from both perspectives. I do think however that we must separate the jobs involved. Public sector employees who have no professional designation or special talents will still receive the public pension. In many cases the people who do these jobs in the private sector get no pensions or perks.