Quick Recap: Normal Cost

Okay, let’s recap where we are at so far.

• Benefit Formula: Your benefits are determined using a formula based on how long you work, a multiplier, and your final average salary.
• Benefit Estimate: Actuaries make estimates about how long you and other teachers will work, when you’ll retire, and what your salary will be. Based on all of these assumptions, actuaries can measure the value of pension benefits that you earn each year.
• Funding Formula: Actuaries then figure out how much should be contributed into the pension fund that will be enough to pay for those benefits, once the contributed dollars are invested. This is the formula where Benefits plus Expenses should be equal to Contributions plus Investments (or B + E = C + I).

Example

The amount that actuaries determine to be necessary each year (to fund benefits earned that same year) is called normal cost. And in the example from Georgia above, the necessary normal cost contribution is 13.25% of salary.

• The member contribution is 6% of their salary.
• The employer contribution is 7.25% of salary paid to Georgia teachers.

When everything is working well for a pension plan, actuaries will have correctly estimated the value of benefits earned, investment returns will match the assumed rate, and required contributions will be paid into the pension fund on time. But things do not always work out this way.