Spotlight on CalSTRS Pension 2
January 16, 2024
By Barbara O'Neill, CFP®, AFC®
In a recent post, I noted that 403(b)wise uses a vendor rating service with a “traffic light” system: green means “go” (i.e., use a vendor), yellow means “proceed with caution,” and red means stop (i.e., avoid using a vendor). Only seven 403(b) vendors (see below) are Green, which allows school districts to earn an A rating:
“A school employer has gone through a thoughtful bidding process (often called Request for Proposal) and narrowed its vendors down to just one “green” rated company, or a company that has dropped pricing to be in line with "green" rated companies.”
The two Green + vendors, Fidelity and Vanguard, and another Green vendor, Aspire Non-advisor Option, were described previously. This post continues the discussion of highly rated 403(b) plan vendors with a profile of CalSTRS Pension 2, a state-created voluntary supplemental retirement savings plan offered to participants in the California State Teachers’ Retirement System (CalSTRS) pension plan.
This post describes characteristics of CalSTRS Pension 2 including benefits for investors, investment choices, expense ratios, and participant retirement planning resources. It also summarizes research about the impact of fees on retirement plans as well as three “need to know” facts and six take-away action steps.
Why a Supplemental Retirement Savings Plan?
Because defined benefit (DB) pensions for teachers and other public school employees are often insufficient by themselves to maintain a comfortable lifestyle in retirement. While certainly better than no DB pension at all (which is what most U.S. workers have), benefits have eroded during the past few decades as new hires were placed in benefit tiers with less favorable terms than tiers for workers hired earlier.
Case in point: California. Teachers hired on or before December 31, 2012 have more favorable pension terms than those hired afterwards. The age factor that is multiplied by years of service in the pension calculation is 2.4% after age 60 for workers hired before January 1, 2013 and 2% at age 62 thereafter.
In addition to benefit cuts, many teachers do not work long enough to earn large formula-based pension benefits. Benefits are often low for the first 15 to 20 years of service and only begin to rise after 20 or 25 years. Below are two examples using the CalSTRS 2% at age 62 formula for teachers with $66,000 of final compensation (highest average salary for three consecutive years) and 15 and 20 years of service:
15 years x .02 [0.3] x $5,500 [$66,000 ÷ 12] = $1,650 monthly ($19,800 annually)
20 years x .02 [0.4] x $5,500 [$66,000 ÷ 12] = $2,200 monthly ($26,400 annually)
That’s not a lot of money to live on, especially in high-cost states and cities.
Why Should Non-Californians Care About CalSTRS Pension 2?
I asked this question, too, when I was asked to write about this topic.
Basically, three reasons. First, 403bwise wants to highlight the features of its Green vendors. Second, CalSTRS Pension 2 can serve as a model plan for other states. Created by the state of California to provide a low-cost retirement savings option, it must be offered to all 403(b) plan participants. While there are no matching funds or state contribution, CalSTRS Pension 2 provides access to low-cost investment products.
Lastly, while CalSTRS Pension 2 is only available to California educators, some of the resources developed for its participants are available nationwide, most notably 403bCompare, an online platform that allows users to conveniently compare fees and returns on various investments.
CalSTRS Pension 2 Investment Options
CalSTRS Pension 2 is designed to complement DB pension benefits and provides access to three groups of investments: Easy Choice Portfolios (a selection of 15 target-date funds), Core Investment Options (almost two dozen mutual funds selected by the CalSTRS Pension 2 Advisory Committee that monitors plan investment options), and a Self-Directed Brokerage Account with access to thousands of mutual funds.
Easy Choice Portfolios
Easy Choice portfolios are target-date funds. Often described as a “set it and forget it” approach to investing for retirement, target-date funds hold a mix of stocks, bonds, and/or cash equivalent (short-term income) assets and gradually become more conservative (read: a smaller percentage of stock in the fund portfolio) and income-oriented as the “target date” (e.g., 2050) approaches and, once it is reached, going forward.
For example, a target-date fund might start out with 80% of its portfolio invested in stocks and gradually shift to 30% or 40% over time without the need for any action on an investor’s part. Investors typically choose a target date fund with a date near the year that that they expect to retire.
In CalSTRS Pension 2, target-date funds are offered in ten-year intervals: 2030, 2040, 2050, and 2060, plus Easy Choice Retired for accounts that have already reached their target date. A unique feature, not seen in most target-date plans, is that participants also select a risk tolerance level as well as a target date. This provides better identification of a fund for their investment needs. Thus, there are 15 Easy Choice options to choose from: the five target dates noted above, each with conservative, moderate, and aggressive portfolios.
Core Investment Options
CalSTRS Pension 2 currently offers 21 mutual funds that are grouped into eight fund categories: Stability of Principal, Bond, Inflation Protection, U.S. Large Cap (capitalization) Stock, U.S. Small/Mid Cap Stock, Global Stock, Foreign Stock, and Other (e.g., real estate). Ten of the funds are offered by Vanguard, including the popular Vanguard Total Stock Market and Total Bond Market index funds.
As noted above, core funds are overseen by an advisory committee that monitors plan investment options. They include both index and actively managed funds with total costs (net expense ratio + net administrative cost) ranging from 0.27% for several index funds to 1.13% for an actively managed fund with a contrarian (i.e., out of mainstream securities) focus. When funds start to underperform, they are placed on a watch list. If poor performance continues, they are replaced.
Self-Directed Brokerage Account
The self-directed brokerage account provides a greatly expanded selection of mutual funds and is a fee-based brokerage account offered through TD Ameritrade. Unlike the core investment options, available mutual funds are not selected or reviewed by the CalSTRS Pension 2 advisory committee. There are more than 800 no-transaction fee mutual funds and thousands more funds with transaction fees.
CalSTRS Pension 2 Expenses
Fees for CalSTRS Pension 2 vary greatly, depending on which of the three investment types and specific investment products are selected. Expense ratios (expenses as a percentage of fund assets) can range from close to zero to over 1%. Information about investment expenses is easily accessible online.
The best way to determine a mutual fund’s expense ratio is to read its prospectus, which is a document that describes a mutual fund with certain required information. Prospectuses are a great “screening tool” to make a side by side comparison of similar types of mutual funds (e.g., three different stock index funds).
Prospectuses must disclose the fees charged to an individual investor’s account (e.g., account maintenance fee) and the expense ratio which includes the fund’s management fee, marketing expenses, and other charges. A standardized projection of expenses on a hypothetical $10,000 account over 1, 3, 5, and 10 years must also be provided. A sample fee table for a mutual fund prospectus is shown below.
CalSTRS Pension 2 Resources
CalSTRS is the second largest U.S. public pension fund (only the Federal Retirement Thrift plan is larger) and offers plan participants a number of resources including workshops, videos, and publications specific to participants’ life stages and a speaker’s bureau for stakeholder groups.
A helpful tool for CalSTRS Pension 2 participants is 403bCompare. This website includes a checklist to guide users, a variety of resources (e.g., calculators, glossary, user guide) and a search tool (click “Compare Products”) that allows users to easily compare the details of three 403(b) products side by side. Anyone anywhere can access this tool free of charge. A screen shot of the search tool home page is shown below.
CalSTRS Pension 2 vs. Vanguard and Fidelity
Not every CalSTRS pension plan participant has access to the 403bwise Green+ vendors Vanguard and Fidelity. In this situation, it often makes sense to elect CalSTRS Pension 2 (available everywhere in California) or the Aspire Non-Advisor to gain “back door” access to low-cost vendors.
Some 403(b) participants have access to Vanguard and/or Fidelity as well as CalSTRS Pension 2. Reasons to consider electing CalSTRS Pension 2 over other vendors include possible lower expenses (especially on smaller balances), greater fiduciary oversight over investments, and more “hand-holding.” CalSTRS Pension 2 representatives are salaried, do not sell products, and can help participants enroll or transfer money.
Research Results
The importance of having access to low-cost 403(b) investments via CalSTRS Pension 2 was illustrated in a 2022 study of the impact that fees have on retirement accounts and how public school employees are affected as a result of those fees. Survey results indicated that a majority of respondents were unaware of the fees that they were paying on their retirement accounts and that roughly half were affected negatively by higher fees.
Three (More) Things
- Record-keeping for CalSTRS Pension 2 is done by Voya Financial, which provides plan information, transaction processing, and account statements.
- CalSTRS Pension 2 participants never pay commissions and there are no front-end or back-end loads (fees) on investment options.
- It is possible to roll over funds held in other qualified plans (e.g., 401(k), traditional IRA) into CalSTRS Pension 2 to manage retirement savings in one place and benefit from attractive plan features.
Six Smart Strategies
No. 1: Collect Income Estimates — Request an estimate of your expected pension benefit at different income levels and years of service. If you participate in Social Security, download a benefit estimate statement from https://www.ssa.gov/myaccount/.
No. 2: Do a Savings Needs Analysis — Use the income estimates noted above in at least three online retirement savings calculators to see how much money you need to save to supplement your pension and/or Social Security.
No. 3: “Find” Money to Save — Evaluate your spending, especially discretionary expenses that are easier to trim than fixed monthly bills. Example: to save 10% of a $60,000 salary ($6,000 a year), trim $500 per month, or about $100 per week.
No. 4: Self-Escalate Your Savings — Save more when you earn more. Most school and non-profit employers do not offer an auto-escalation feature for 403(b) plans so you will need to complete paperwork to save more on your own.
No. 5: Use Available Resources — Take advantage of the plethora of online resources that CalSTRS Pension 2 offers, especially 403bCompare to weigh characteristics of various mutual funds. Plan participants can also access human advisor support.
No. 6: Advocate for a Clone — Consider contacting your state legislators to lobby for a guaranteed low-cost, state-managed supplemental retirement savings plan for public school employees similar to CalSTRS Pension 2.
In Summary
CalSTRS Pension 2 is a model 403(b) vendor that is accessible to all California public school employees. It can serve as a model program for other states and provides useful resources for teachers nationwide.
This post provides general personal finance information and does not address all the variables that apply to an individual’s unique situation. It should not be construed as legal or financial advice. If professional assistance is required, the services of a competent professional should be sought.
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Dr. O'Neill is the owner/CEO of Money Talk: Financial Planning Seminars and Publications where she writes, speaks, and reviews content about personal finance. She is a Distinguished Professor Emeritus at Rutgers University and a long-time 403(b) plan participant.