Pension Flexibility: Alabama

Analysis of Alabama's policies

Alabama only offers a defined benefit pension plan to its teachers as their mandatory pension plan. This plan is not fully portable, does not vest until year 10, and does not provide any employer contribution for teachers who choose to withdraw their account balances when leaving the system. It also limits flexibility by restricting the ability to purchase years of service. However, the state is commended for offering a fully portable supplemental savings plan. 

Teachers in Alabama also participate in Social Security, so they must contribute to the state's defined benefit plan in addition to Social Security. Although retirement savings in addition to Social Security are good and necessary for most individuals, the state's policy results in mandated contributions to two inflexible plans, rather than permitting teachers options for their state-provided savings plans.

Vesting in a defined benefit plan guarantees a teacher's eligibility to receive lifetime monthly benefit payments at retirement age. Nonvested teachers do not have a right to later retirement benefits; they may only withdraw the portion of their funds allowed by the plan. Alabama's vesting at 10 years of service is very late and limits the options of teachers who leave the system prior to that point.

Many teachers will leave the system before they reach 10 years of service. Teachers in Alabama with less than three years of experience who choose to withdraw their contributions upon leaving only receive their own contributions without any interest. Teachers with more than three years of experience receive a portion of earned interest that gradually increases from 50 percent for teachers with 3-15 years of service to a maximum of 80 percent for those with at least 26 years of experience. This means that those who withdraw their funds accrue fewer benefits than what they might have earned contributing to basic savings accounts. Furthermore, teachers who remain in the field of education but enter another pension plan (such as in another state) will find it difficult to purchase the time equivalent to their prior employment in the new system because they are not entitled to any employer contribution.

Alabama also limits teachers' flexibility to purchase years of service. The ability to purchase time is important because defined benefit plans' retirement eligibility and benefit payments are often tied to the number of years a teacher has worked. Alabama's plan allows teachers to purchase time for previous teaching experience, up to 10 years. While better than not allowing any purchase at all, this provision disadvantages teachers who move to Alabama with more teaching experience. In addition, this purchase is not allowed until teachers have 10 years of service in Alabama, which makes the purchase cost much more expensive than if calculated earlier in a teacher's career. The state's plan also allows for the purchase of up to one year for each maternity and paternity leave taken without pay, and this may be purchased in the year after the leave. 

Alabama is commended for offering an optional supplementary defined contribution plan, known as RSA-1, which is a deferred compensation plan. Teachers pay federal and state income taxes on contributions and their earnings only when they withdraw the money from their accounts. Because of the low mandatory employee contribution rate to the defined benefit plan of 5 percent (see Goal 4-H), teachers should be able to also contribute meaningfully to the state's optional defined contribution plan. However, there is no employer contribution to these accounts. 

Citation

Teachers' Retirement System of Alabama, Member Handbook http://www.rsa-al.gov/TRS/Pubs%20and%20forms/TRS%20Pubs/TRS%20Member%20Handbook%202011.pdf

Recommendations for Alabama

Offer teachers a pension plan that is fully portable, flexible and fair.
Alabama should offer teachers for their mandatory pension plan the option of either a defined contribution plan or a fully portable defined benefit plan, such as a cash balance plan. A well-structured defined benefit plan could be a suitable option among multiple plans. However, as the sole option, defined benefit plans severely disadvantage mobile teachers and those who enter the profession later in life. Because teachers in Alabama participate in Social Security, they are required to contribute to two defined benefit-style plans.

Increase the portability of its defined benefit plan.
If Alabama maintains its defined benefit plan, it should allow teachers that leave the system to withdraw the full interest earned by their contributions, as well as an employer match. The state should also allow teachers to purchase their full amount of previous teaching experience upon the first day of employment and decrease the vesting requirement to year three. A lack of portability is a disincentive to an increasingly mobile teaching force.  

Offer an employer contribution to the supplemental retirement savings plan.
While Alabama at least offers teachers the option of a supplemental defined contribution savings plan, this option would be more meaningful if the state required employers also to contribute. 

State response to our analysis

Alabama noted that teachers purchasing previous teaching experience may roll funds from tax deferred savings plans, such as tax shelter annuities (IRC 403(b)), governmental deferred compensation plans (IRC 457), IRSs (IRC 408) or other qualified plans (IRC 401).