Current Pension Topics
Time to Correct Inequity

By JOEL L. FRANK

ALERT: To all of you who use a commissioned-based investment product for your 403(b) account: you have until Sept. 24, 2007 to transfer, under Revenue Ruling 90-24, your account balance to a no-load, low-cost investment. Call me for details and pass the word along to your colleagues, friends and family. Time is of the essence!

Mr. Frank is a fee-only Retirement Financial Planner and a retired NYC High School Teacher of Accounting. He can be reached by telephone at (732) 536-9472, or via e-mail at rollover@optonline.net .

NEW YORK STATE CONSTITUTION ARTICLE V, SECTION 7

"After July first, nineteen hundred forty, membership in any pension or retirement system of the state or of a civil division thereof shall be a contractual relationship, the benefits of which shall not be diminished or impaired."

This single sentence is the legal reason why the retirement benefits in play on your date of hire stay with you until you die. It is a very important benefit. This single sentence is the reason why during the fiscal crisis of the 1970s the city could not repeal the benefits of the five city retirement systems and place all of the members in a less-generous retirement benefit plan. This single sentence is the very reason why we have the pension tier structure. Your pension tier membership coincides with your date of hire.

Having said that, here is an example of a law in violation of Article V, Section 7: The State Legislature passes a law reducing the crediting interest rate on mandatory contributions, made by members of Tiers 3-4, from 5 percent to 4 percent. This may only be done constitutionally (legally) if the law first authorizes the establishment of a Tier 5 for employees first hired on or after Oct. 1, 2007. Only the employees hired on or after Oct. 1, 2007 will be Tier 5 members and thus, subject to the 4-percent interest rate. Over the years, there have been many cases where the trustees of the various retirement systems have acted in ways to "diminish or impair" the pension benefit of members in violation of Article V, Section 7 of the Constitution. Invariably these cases were decided against the retirement system and in favor of the employee.

But what about a situation where a retirement system acts in violation of the "impairment clause" in a way that benefits the member but harms the employer (the taxpayers)? Remember, it's a two-way street. The Teachers' Retirement of the City of New York (TRS) is such a retirement system. In addition to administering a "pension or retirement system" to which all teachers must join, TRS administers a voluntary Investment Plan funded solely by the employee's voluntary salary-reduction contributions. The TRS Investment Plan is authorized under Section 403(b) of the Internal Revenue Code.

Constitutionally Protected Interest rate of 7.0 percent.

7.0 percent is the constitutionally guaranteed and protected interest rate applied to the Annuity Savings accounts of members who first joined the TRS "pension or retirement system" on or before June 30, 1976 (members of Tiers 1-2). For those that first joined the TRS "pension or retirement system" after June 30, 1976 (members of Tiers 3-4), the crediting rate on their required contributions is a statutory 5 percent. Every two years the Legislature revisits the 7-percent rate and either leaves it alone or increases it.

Constitutionally, it may be reduced, but not below 7 percent. Since July 1, 1988 the Legislature has seen fit to maintain the rate at 8.25 percent. The 8.25 percent is in effect until June 30, 2009, at which time the Legislature must re-set it again.

Misapplication of the 8.25-Percent Interest Rate

Every time the Legislature properly resets the crediting interest rate on the Fixed Annuity Savings Fund for members of Tiers 1-2 of the TRS "pension or retirement system," it improperly applies the same rate to the Fixed Annuity Savings Fund for all members of the voluntary TRS 403(b) Investment Plan. The Legislature has made this "error" ever since the voluntary Investment Plan began on Jan. 1, 1970. This has resulted in a perversion where members who first joined the TRS "pension or retirement system" on or after June 30, 1976 (Tiers 3-4) earn a statutory 5-percent return on their mandatory contributions made to the "pension or retirement system" while earning 8.25 percent on their voluntary contributions made to the voluntary 403(b) Investment Plan. The Legislature must take corrective action immediately. The impairment clause of the Constitution has absolutely no application to the voluntary 403(b) Investment Plan administered by Teachers' Retirement System of the City of New York. The Legislature is free to reduce the rate to one that resembles a market-driven rate, like 5 percent.

Having said that, is there anyone out there who will pass up an 8.25-percent guaranteed return in favor of investing in the stock market? Especially when the stock market, as a whole, has returned 10.3 percent on average per year since 1926? This 8.25-percent interest rate, as applied to the voluntary 403(b) Investment Plan, is not only a clear violation of Article V, Section 7 of the New York State Constitution but also a clear disincentive for employees to invest in the alternative common stock fund known as Variable A.

This unconstitutional application of the "impairment clause" to the Fixed Annuity Savings Fund of the 403(b) Investment Plan is costing the taxpayers of New York more than a quarter of a billion dollars annually in subsidized interest payments.