December 10, 2012
Millionaires, Billionaires, and TeachersBy Randall Hoven
Our President likes to use the phrase "millionaires and billionaires." A person whose net worth is $1 million or more is a "millionaire."
Most of us working stiffs have trouble thinking in terms of net worth; we are more used to the concept of annual salary. How does net worth translate into annual income, or vice versa? In round numbers, the annual income equivalent is 4% of an investment nest egg. So if you have $1 million socked away, consider that to be equal to $40,000 income every year.
Now this "4% rule" is based on a planning horizon of about 30 years, meaning it is used primarily for retirement planning, or people over 50. If you're young, you should probably go with, say, government bond yields. Today's 30-year US bonds yield about 2.8%. So if you are more like 30 years old, your $1 million life savings is more like an annual income of $28,000.
(By the way, this investment-income equivalence exercise is the same as pricing an annuity. I dare you to try to price an annuity. There are many web sites that will tell you how to build a watch, but virtually none tell you the time. I'll save you some research: the 4% rule is not far from the mark.)
So in round numbers, let's say a $1 million investment nest egg is equal to an annual income of $40,000. Suddenly, $1 million doesn't seem so rich. That relationship can be turned around: if you have an annual pension of $40,000, you are effectively a millionaire, especially if that pension is adjusted for cost of living.
Now let's look at public school teachers. In Illinois, where I live, the Illinois State Board of Education puts out a report on teachers' salaries. The table below is a pretty good summary of that 110-page report. A beginning teacher with a Bachelor's degree in a median school district might make about $40,000 per year. But by the time a teacher retires, she could be making $55,000 to $120,000, depending on how much graduate education she got and her school district.
And when that teacher does retire, what is her pension? If most school districts are like Chicago's, the teacher will make about 50% of her final salary if she retires at age 55, or 75%, the maximum, if she waits until age 59.
I compiled some representative values based on the assumptions noted above.
Equivalent Net Worth of Illinois Teachers' Pensions
Assumptions: pension is 50% of salary if retirement is at age 55, and 75% if at age 59; annual pension is 4% of equivalent net worth.
In short, a lot of retired Illinois teachers are millionaires.
But that's not all. Teachers who retired from the Chicago school district get 60% of their health insurance premiums subsidized. In round numbers, let's call that a value of $8,000 per year.
Also, the above values do not include any other savings or investments made over the teachers' careers, including home values. If they have their own 401k's in addition to their pensions, those were not included. Social Security was not included either.
Wait, there's more. These pensions are for life. Many or most of them are also adjusted for cost of living. Every month, for the rest of their lives, retired teachers get checks or automatic deposits of a reliable amount, indexed for inflation and guaranteed by the government. They don't have to worry about investment risks.
Contrast the teacher's situation to that of an imaginary self-employed person I'll call Joe. Over Joe's career he was able to buy a house, currently valued at $300,000 (not much above average), pay off the mortgage and save up another $1.7 million. So he has a net worth of $2 million when he retires at age 59. Most of us would call Joe successful and we would also call him a millionaire. He now makes money from the capital gains, dividends and interest generated by his savings.
Joe now gets to live each year on 4% of his investable nest egg of $1.7 million, or $68,000 per year. That's not too far different from the pensions of many retired teachers in Illinois.
But Joe doesn't get monthly checks of a reliable amount, indexed for inflation. If inflation heats up, the value of his net worth goes down, and so does the effective value of his annual income. If investments don't live up to the 4% rule's assumptions, he doesn't get that 4% return, or he runs out of money before he dies. Every day he has to worry about what dies first: his principal or him.
Joe also has to pay for his health insurance premiums, all 100% of them.
Now, of these two situations, your average retired public school teacher and Joe, which one gets demonized? Joe, of course. Joe is a millionaire -- twice over. Joe makes all his money from capital gains, dividends and interest; he doesn't "earn" it. Joe was "successful in the 90s." Tax him, tax him, tax him.
The situation of the retired public school teacher is also not that much different from fire fighters, policemen, postal workers and other public employees. Nor is it that much different from a lot of other retired workers, especially union members such as General Motors retirees. If such people are getting pensions and benefits of $40,000 per year or more, not an exceptional amount, they are millionaires.
In short, a whole lot of retired workers are millionaires, especially when you include 401k's, Social Security and any other benefits such as health insurance subsidies on top of these pensions. And much of that comes as inflation-adjusted, virtually risk-free monthly checks.
The main reason the US Post Office, the federal government and many state and local governments face unsustainable debt, bankruptcy and default is due to the costs of public employee pensions. GM went bankrupt largely due to the costs of its retirees' pensions and benefits.
Businesses go bankrupt, governments face default and economic growth slows to a near standstill. Meanwhile, retired public school teachers, who had to work 9 months of the year during their careers, now pull in checks 12 months a year, indexed for inflation and guaranteed by the government, in amounts that often make them millionaires, maybe twice over.
My point is not to vilify public school teachers or other public employees. My point is that the stereotypes need to be re-visited. Who thinks of retired public school teachers as millionaires on easy street? Who thinks a guy with a million or two in the bank and who makes all his money from capital gains, dividends and interest has about the same standard of living as that retired teacher? Who thinks Joe the Millionaire has the more realistic fear of destitution in his old age than the retired teacher?
Think about these stereotypes when you want to raise taxes on capital gains, dividends and "unearned" income. Or when you want to sock it to the "millionaires." Or when you want to "invest in education." Or just when you say anything about the "middle class" or any other "class."
And also think about who is really pushing the "us versus them" paradigm.
P.S. You might notice from the table of teacher salaries that a Masters Degree with extra graduate hours can add $20,000 or more to a teacher's annual salary. Just for fun I want to show you two course descriptions. The first one happens to describe an engineering course I teach which is for undergraduates, required of all engineering students and generally taken in a student's 2nd or 3rd year of college.
This second course description is taken from the University of Missouri St. Louis bulletin. It describes a graduate level course in the Education school.
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