Spillovers from State and Local Pensions to Social Security: Do Benefits for Uncovered Workers Meet Federal Standards?

WP#2018-9

Abstract

Federal law allows certain state and local government employees to be excluded from Social Security coverage if they are covered by an employer pension of sufficient generosity. Public sector retirement systems have grown less generous in recent years, and a couple of plans could exhaust their assets in the next decade, putting benefits at risk. If pension sponsors are inattentive to federal generosity requirements when cutting benefits, current and future initiatives to curb costs may conflict with their obligations to the U.S. Social Security Administration (SSA). This project combines data from a variety of sources to assess whether state and local governments are currently satisfying the federal standards and whether the standards continue to provide benefits of equal generosity to Social Security.

The paper found that:

  • Although public plans satisfy the regulations, uncovered state and local government employees do not always receive Social Security-equivalent resources in retirement because the law regulates benefits only at age 67 (rather than lifetime benefits) and allows for long vesting periods.
  • State and local pensions often set very long vesting periods and are increasingly unlikely to grant full cost-of-living adjustments (COLA) after retirement. Yet, they also allow members to collect full benefits at much younger ages than Social Security. Incorporating vesting, the COLA, and the normal retirement age into a generosity test based on lifetime pension wealth shows that some plans fall short, but this finding is very sensitive to the employment patterns of the uncovered employees.
  • A couple of plans that exclude their members from Social Security could soon exhaust the assets in their trust funds and revert to pay-as-you-go systems, endangering future benefits and putting them in violation of federal generosity standards.

 
The policy implications of the findings are:

  • Federal generosity standards for state and local pensions could be updated to ensure Social Security-equivalent protections.
  • Over time, mandatory enrollment of state and local government employees in Social Security would obviate the need for federal monitoring of their pensions.