Public Employee Press

Traditional pensions beat 401(k)s

As traditional pension assets took a beating in the 2008 stock market crash and the Great Recession, some states and cities are trying to switch employees from traditional defined-benefit pensions to 401(k) plans that let employers contribute less to employees' retirement.

But it's a bad deal for both.

A report prepared by the National Institute on Retirement Security and Trustee Advisors for Comptroller John Liu shows that the city's five traditional plans can deliver the same retirement income for nearly 40 percent less cost than 401(k) plans.

The study found that defined-benefit pensions - which guarantee workers a retirement income based on their salary and years of service - earn higher returns than 401(k) plans for three reasons:

• Portfolio diversification: As they get older, individuals with 401(k) accounts usually have to accept lower returns for security. Unlike individuals, defined-benefit plans don't age, so they can get the higher returns available on longer-term investments - about 4 to 5 percent better than on 401(k) plans.
• Better longevity risk management: Defined-contribution plans like 401(k)s must accumulate as much as possible to protect individuals from running out of money. Traditional pensions pool the longevity risk of large numbers of employees, so they only have to accumulate enough to provide benefits for the average life expectancy of members, cutting costs by between 10 and 13 percent.
• Superior investment returns: Defined-benefit plans, professionally managed, get investment returns 21 to 22 percent better than defined-contribution plans, which leave employees to make their own investment decisions in the chaotic stock market.

—Gregory N. Heires