Last Updated Jul 21, 2009 1:50 PM EDT
How does spiking work?
- Let's say you're a public employee, you make $125,000 a year, and you intend to retire in two years.
- Essentially, you work through various loopholes in the compensation system to bump your pay to say $175,000 in your final year.
- Then you use that $175,000 as a basis for your pension calculation, which has the effect of substantially increasing your lifetime pension payments.
Why? Because when someone spikes their benefit, the pension system most likely has not received enough contributions during that person's working career to support that benefit.
- Pension contributions are based on your annual income. So if you were making $125,000, then the system has been funding your projected retirement benefit based on that salary. If you spike it in the last year, the contributions are not sufficient to support that higher payout.
- For instance, a spike of $50,000 in a retirement benefit could cost a public pension system between $800,000 and $1,000,000 depending on the funding formula.
- Pension contributions are all pooled in the plan, so one person's spiked payment comes from the entire pool. And if they didn't contribute enough to support that spiked benefit, it can hurt the others in the plan.
- One of the main problems in public finance today is the cost of retiree benefits. If the systems aren't funded adequately and taxpayers push back on further tax increases to fund pensions, someone may have to take a cut. And it will be easier (legally and otherwise) to cut benefits for those who are still working than to cut benefits for those who are retired.
Bottom line. Pension plans only work if you fund them adequately. When some people game the system, it creates more risk for others.