Understanding the Tiers of the Pension System
In the previous column, “Understanding the Tiers of the Pension System (Part 1),” Tiers 1, 2 and 3 of the 5 tiers of the pension system covering members of the TPAF and PERS were explained. In each case, the change in tier resulted in a lesser retirement benefit for anyone entering the system after the date of the introduction of the new tier. Thus, the changes in Tier 2 resulted in lower pension amounts than had been in effect in Tier 1, and the changes in Tier 3 resulted in lower retirement benefits than had been in effect in Tier 2.
Two years after Tier 3 became effective, Tier 4 became law, and two years after Tier 4 became law, Tier 5 became law. Tiers 4 and 5 brought more severe reductions than the earlier three tiers had. (As with the earlier changes, the under funding of the systems was the reason given by the Legislature and Governor Christie for the continuing reductions of Tiers 4 and 5.
Tier 4 took effect on May 22, 2010. It reduced the pension formula from N/55 to N/60 and increased the final average salary calculation from 3 years to 5 years. These two actions resulted in the pension formula changing from N/55 times the average of the highest 3 years to N/60 times the average of the highest five years for educators entering the systems on or after May 22, 2010. It reduced pension amounts by 12% to 15% for Tier 4 enrollees, depending upon the raw salaries. (Remember, the salaries used in the formula had been capped at the Social Security wage base as part of the Tier 2 changes.)
Further, it increased the number of hours that new enrollees had to work in order to qualify for the regular pension to 32 hours per week. Educators who did not work 32 hours per week were no longer enrolled in the regular pension system, but were enrolled in the Defined Contribution Plan, the 401k plan established in Tier 2. (Prior to the advent of Tier 4, enrollment in TPAF and PERS only required an educator to earn $7,500 annually.) If the Tier 4 enrollees do not advance to at least 32 hours at some point prior to reaching retirement age, the eventual pension they will have at retirement that be smaller than those who retire from the regular pension system.
Lastly, Disability Retirements, a staple of the pension system since its founding were eliminated and replaced with a Long Term Insurance plan.
Two years later, Chapter 78 of the Public Laws of 2011 brought Tier 5, which is the current level of retirement benefits into which all new educators and new other public employees are enrolled.
Tier 5 bought a series of major changes for educators and other public employees who entered public service after June 28, 2011:
- the normal retirement age (the age at which anyone may retire and collect a pension regardless of years of service) rose to age 65,
- early retirement became any age before age 65 and requires 30 years of credit,
- the early retirement penalty is 3% per year for every year before age 65.
(As an example, a Tier 5 enrollee who is age 55 and has 31 years of credit may retire on an early retirement. The pension calculation for this retiree is 31 divided by 65 times the average of the highest 5 years of salary reduced by a penalty of 30% (10 years times 3% for each year under age 65.) The pension begins being paid at age 55.
- a Tier 5 retiree with ten or more years of credit who has not reached age 65 must wait until age 65 to collect a deferred retirement. There is no penalty for this retiree because h/she is not collecting until age 65.
(As an example, a Tier 5 enrollee who is age 60 with 20 years of credit may only retire on a deferred retirement and must wait until age 65 to begin receiving his/her pension. At age 65, this retiree will receive a pension based on 20 divided by 65 times the average of the highest five years of salary. There is no penalty because this retiree is not collecting until age 65.)
Finally, Tier 5 brought two major changes that affects all current and future retirees, regardless of the tier in effect at the time of their retirement:
- Tier 5 increased the pension contribution rate paid by all active pension members from 5.5% to 7.5%. In the initial year of 2011, the contribution rate rose from 5.5% to 6.5%. Then, in the next seven years, the rate rose at 1/7 of 1 % each year until it reached 7.5% per year in 2018 for all active members of the TPAF and the PERS. Currently, the contribution rate paid by all members of the systems is 7.5%.
- And then in the most draconian change in the years from 2007 to 2011, Tier 5 called for the suspension of future annual cost-of-living adjustment benefits for all retirees going forward. This major feature of the retirement system will stay suspended until the solvency of the systems improves significantly.