It was a good week for schools in the Austin area. Several school districts passed bonds and a couple made adjustments to their tax structure, known as "Golden Pennies", that will allow them to retain more of their local tax money. All the measures should help provide better facilities, staffing, and learning opportunities for the students in those districts. But while some districts found gold, many teachers and district employees across the state may still be getting the shaft.
The raw deal has nothing to do with school finance, and everything to do with personal finance. I should mention that my mother was a school teacher and my wife works for a school district. My thoughts on this matter have formed over decades of personal and professional experience and observation, but may not be free from bias. With that disclosure out of the way, let’s take a look at how many teachers are getting shortchanged when it comes to retirement.
The Good News
While some politicians make careers out of claiming how wasteful public education is in our state, the reality is that most school spending goes to teachers' salaries. Considering the level of education and responsibility we place upon them, the annual mean wage around $50,000[i] for Texas teachers is pretty modest.
It is true that they get summers off and have a pension (in lieu of Social Security), but that isn’t exactly a windfall. Assuming 30 years of service, a teacher at the average income level would expect a lifetime pension from the Teacher Retirement System (TRS) of about $34,700.[ii] Unlike Social Security, that adjusts annually for inflation, TRS relies on the state legislature to periodically vote on adjustments. Those adjustments have been infrequent and have largely not kept up with inflation, let alone the increasing cost of the teacher health care program known as TRS-Care.
Teachers typically can supplement their retirement savings through a defined contribution retirement plan called a 403(b), which in many ways looks like 401(k) plans that are used in the private sector. That’s the good news.
The Bad News
The bad news, according to a 2016 white paper from retirement consultant Aon Hewitt, is that about $10 billion is wasted each year in 403(b) plans[iii]. 403(b)s, also known as Tax Sheltered Annuities, typically allow for participants to choose from multiple vendors. Some institutions limit selections to a small number of quality providers. For example, The University of Texas 403(b), known as the Optional Retirement Program (ORP), offers just five companies to choose from.
In the private sector, businesses are obligated by law to act as fiduciaries to put the participants’ interests ahead of their own in their retirement plans. This requirement actually makes companies liable if their participants can show they reasonably could find lower cost administration and more prudent investment options.
As I discussed in last week's Accountable Update, lower costs equate to higher investment returns. Regulated by the Employee Retirement Income Security Act (ERISA), 401(k) plans are even required to disclose how much employees personally pay in fees each quarter, offering participants more transparency into how much of their returns are being consumed by hidden costs.
Many 403(b)s, however, aren’t subject to the same standards. Instead, at most public schools, there is a laissez-faire system where there are dozens of vendors competing for participants. In theory, the competition between providers should result in teachers getting the better selections. However, the lower cost providers rarely send representatives to tell their story to schools with few or no participants. Instead, companies that rely on salespeople to sell more expensive solutions tend to dominate the industry.
TRS Certification is Fool's Gold
TRS requires providers to be “certified”(see a list of certified providers here) before being offered in a Texas school district’s plan. Part of the certification is that the vendors limit their fees (Exhibit 1), however the "limits" do little to reduce costs on participants when you consider 401(k) costs[iv] average less than 1%.
Exhibit 1. Maximum 403(b) Fees Allowed by TRS
Source: trs.texas.gov
You can get a sense of how expensive those alternatives are by looking at recent jobs postings (Exhibit 2) on Craigslist. Yes, that’s right, Craigslist.
Exhibit 2. Craigslist Job Posting
Source: austin.craigslist.org/jobs/sales/insurance
One thing of which we can be sure, the insurance companies this agency represents aren’t paying those incentives out of the goodness of their heart. The typical annuity, such as may be offered to one of their 403(b) participants, has an annual cost of 2.26% with a surrender period of 7-10 years.[v]
If the annuity is surrendered before that period has elapsed, the buyer is subject to a charge that can run as high as 10%[vi]. Surrender charges allow the insurance company to recoup commissions paid to the salesperson because it guarantees that the investor will either pay those exorbitant fees ongoingly or in a lump sum if they want out “prematurely”.
It's little wonder that they need "talented, hungry, underpaid, urgent candidates" to peddle such pyrite.
A 403(b) Checklist
Fortunately, there are good options available in most 403(b) plans. The key, wait for it, is education. If you or a loved one has a 403(b), the following checklist may help you make a better educated decision about the choices you have.
- Obtain the list of approved vendors from your school’s benefits office.
- Choose low-cost providers (i.e. Fidelity, Dimensional, TIAA, USAA, and Vanguard).
- If low-cost providers aren’t an option, ask how one can be added. If that doesn't work, consider an IRA instead.
- Choose funds with no sales charges, 12b-1 fees, or surrender fees with management fees < .75%.
- For simplicity, consider lifecycle funds that match your target retirement year.
- If you’re uncomfortable making selections or would prefer a professional opinion, consider hiring a fee-only planner (shameless plug).
Get in touch if you need help.
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[i] http://www.teachingdegree.org/texas/salary/
[ii] https://tcta.org/node/13103-how_to_calculate_your_trs_benefits
[iii] https://retirementandinvestmentblog.aon.com/getattachment/63ca001f-bd5a-4006-8a3d-d70d1701b472/How_403(b)_Plans_are_Wasting_Nearly_$10_Billion_Annually_Whitepaper_FINAL.pdf.aspx
[iv] https://www.ici.org/pdf/ppr_14_dcplan_profile_401k.pdf
[v] Morningstar, Inc., as of December 2016. The annuity industry average fee is 2.26%; excludes fees for optional riders.
[vi] https://www.sec.gov/reportspubs/investor-publications/investorpubsvaranntyhtm.html