Following publication of the Virginia Retirement System’s (VRS) Return to Work Provisions Governing Virginia Retirement System (VRS) Retirees (RD856)- - December 15, 2022, the 2023 General Assembly shortened the required break in service from 12 months to six months before certain retirees could return to work full time and continue to receive a VRS retirement benefit. The legislation included an enactment clause that requires:

"That the Virginia Retirement System (VRS) shall analyze and review options available to local public school divisions for hiring retired instructional or administrative employees, specialized student support position employees, bus drivers or school security officers with at least 25 years of service into temporary or other non-full-time positions during the six-month break in service period required by § 51.1-155 of the Code of Virginia, as amended by this act, between retirement and becoming eligible to return to work full-time without impact to their retirement benefits. VRS shall complete its review and submit a report to the Chairmen of the House Committee on Appropriations and the Senate Committee on Finance and Appropriations by November 1, 2023."

Background

Return to work provisions in Virginia, such as those suggested by the report mandate and those implemented beginning with the teacher critical shortage return to work exception in 2001, are in response to the challenges public employers described when recruiting and retaining qualified employees.

In 2017, in response to state agencies’ indication that recruiting and retaining qualified employees was difficult, the Joint Legislative Audit and Review Commission (JLARC) published their report, Total Compensation for State Employees, 2017 (RD116)- November 13, 2017, reviewing total compensation across the Commonwealth. JLARC made several recommendations in that report, generally focused on the importance of employee compensation and, in part, to “identify cost-effective approaches to ensure agencies can employ an effective workforce." The report found that more employees named salary as the most important factor in compensation over health insurance as the next most important factor. The report also indicated that employees gave salary dissatisfaction as the most common reason for considering leaving a job in the next year.

In their 2023 report, Virginia’s K-12 Teacher Pipeline, JLARC noted that teachers primarily leave teaching for personal reasons, or due to unhappiness with low salary as well as lack of teacher support, workload, or ineffective leadership. JLARC suggested in the report that these root causes need to be addressed to effectively improve the teacher pipeline.

When considering opportunities to improve recruitment and retention of employees using retirement benefits as a tool, it is essential to understand that return to work exceptions generally do not affect recruitment or retention, and may negatively impact the VRS Trust Fund due to potential changes in retirement patterns that can result in paying benefits longer than anticipated. Conversely, higher salaries translate into overall higher retirement benefits, with minimal, if any, impact to the VRS Trust Fund.

Current Return To Work Provisions

Return to work refers to a retiree returning to post-retirement employment with the same employer or another employer in the same retirement system after a bona fide break in service while continuing to receive a retirement benefit. The current return-to-work provisions allowed by Virginia law and VRS policy provide considerable flexibility.

• Retirees can choose to stop their retirement benefit and return to full-time active employment, thereby earning additional service credit.

• Alternatively, there are several additional exceptions that allow a retiree to return to work with a VRS-covered employer and continue to receive retirement benefits. As long as there is no prearrangement, a retiree can accept:

(i) a part-time position with the same VRS-participating employer they retired from in which the retiree can work up to 80 percent of full-time employment after the required one full calendar month break in service or with a different VRS-participating employer with no break in service;

(ii) an interim position with a VRS-participating employer that typically lasts no longer than six months after the required one full calendar month break in service and approval from VRS; or

(iii) a full-time position in one of the four categories allowed under the Code of Virginia after the required six consecutive calendar months break in service.

To comply with IRS guidance, service in any capacity for a VRS-participating employer, such as volunteer service, part-time work, or potentially contracting for a third-party and assigned to the same employer from which the member retired, does not count toward a bona fide break in service. A bona fide break in service requires a complete severance of employment with any VRS-participating employer. This means that the report mandate suggestion to allow retirees to work part time during the break in service prior to returning to work full time does not meet the IRS and related requirements for a complete break in service.

Recent Changes

The General Assembly recently passed legislation reducing the required break in service from 12 months to six months before certain retirees can return to work full time in positions set out in § 51.1-155(B)(3) and (4) of the Code of Virginia. Making further changes so quickly following this reduction will prevent VRS from compiling reliable data regarding the impact of either change. This is significant because, as discussed in the 2022 report, changes to the length of the break in service could impact retirement patterns and thereby affect the VRS funded status and contribution rates. The bond rating agencies look skeptically on plan sponsors and employers that do not fully fund the actuarially determined required contributions (ADC) which in turn could impact bond ratings.

As an example, in 2018, the Public Employee Retirement System of Idaho (PERSI) found that teachers were returning to work in increased numbers following a reduction in its break in service requirement. Teachers, with a starting salary of $25,000 and who retired after 30 years of service and then returned to work, cost the plan an estimated $28,192 per person, or an increase in liability of nearly 4.3% for each such member. At a 2023 National Association of State Retirement Administrators (NASRA) conference, PERSI staff provided an update, advising that four years of data collected since the Idaho break in service requirement was reduced showed that teachers were retiring two years sooner than before the RTW provisions were enacted.

The Commonwealth has appropriated funds over the past several years to provide cash infusions for the VRS Trust Fund. These infusions were intended to help bring down the unfunded liability. It is likely that policy changes allowing retirees to return to work sooner and still stay within the requirements of federal law will have both an immediate and long-term impact on the unfunded liability of the Fund and on employer contribution rates that can be expected to potentially negate or at best minimize the effect of the recent cash infusions.

Federal Law and Internal Revenue Service Guidance

The fundamental element of any return-to-work provision is the bona fide break in service required by the IRS, i.e., the amount of time a retiree must have been separated from employment without a prearranged agreement with the employer to be reemployed. The one exception, if the plan documents authorize it, is in-service distributions with no break in service allowed by the IRS at normal retirement age but no earlier than age 59½ to avoid a tax penalty.

The IRS has provided limited guidance regarding when a retiree may return to covered employment while still being considered retired. The IRS utilizes a facts and circumstances test to determine if there is a bona fide break in service. This serves to protect the retirement plan from violating IRC rules related to prearrangement, and proper federal tax reporting and withholding and from unexpected and detrimental changes in retirement patterns, and to prevent double dipping, or even triple-dipping if a retiree also receives the hazardous duty supplement, which is intended to help bridge the gap from retirement to Social Security eligibility, or cost of living adjustments.

Essential to the consideration of the report mandate, the IRS indicated in Information Letter (INFO) 2000-0245 that, for purposes of retirement, an employee who moves from full-time to part-time service with the same employer has not experienced a complete severance of service, discussed in more detail in this report, and may not be eligible for a distribution from their retirement account.

Section 401 of the Internal Revenue Code (IRC) establishes numerous requirements that VRS as a qualified governmental plan must comply with in order to qualify for favorable tax provisions. These requirements include when and how a retiree may return to work for a system employer following retirement while continuing to receive a retirement benefit (an “in-service distribution"). While the IRC allows in-service distributions without a tax penalty with no break in service as early as age 59½, VRS is aware of only one public plan that allows in-service distribution at age 59½ and the policy option discussed in this report generally proposes to use existing VRS Normal Retirement Age as the threshold to minimize impacts to the plan.