State Street Bank and Trust Co. has begun selling a new retirement-savings service to state and local governments, in a bid to leverage its strengths in the pension business.

The service, known as a 457 defined-contribution plan, allows state and local government employees to save money on a tax-deferred basis, to supplement retirement income from traditional pension plans.

The service is similar to the more popular 401(k) plans available to private-sector employees.

The plans are named for sections of the Internal Revenue Code that describe how they must operate to gain tax-deferred status.

Many companies, including banks and insurers, provide 457 plans to government agencies. But State Street believes it will be able to make a successful run against the entrenched competition.

"It's a modest-size market today, with real potential for growth," said James J. Darr, an executive vice president with the Boston-based banking company.

At the end of 1993, 457 plans held $40 billion in assets, far less than the $475 billion invested in 401(k) plans, according to Access Research Inc., Windsor, Conn.

State Street is already a sizable player in the 401(k) market, ranking among the top 10 players in assets and participants, Access Research said. It is also the largest custodian of pension portfolios for state and local governments, and a leading investor of pension assets.

State Street's relationships with public pension plans in these areas will help it market the new defined contribution service, company officials said. They added that State Street has modified its sophisticated 401(k) record-keeping and administration systems -- at relatively little expense -- to build a state-of-the-art 457 administration service.

And the bank is already off to an auspicious start. Last month, State Street signed up its first client -- the California Public Employee Retirement System.

Calpers, as the agency is known, is the largest pension-plan sponsor to manage its own investments, according to Pensions and Investments magazine.

The agency hired State Street to operate a defined contribution plan Calpers is selling to the 2,300 city and county governments in the state.

The goal is to give employees of these local governments access to a cost-effective, tax-deferred savings plan to supplement their retirement income from Calpers' pension portfolio, said Craig W. Hartung, the agency's chief information officer.

As part of the partnership, State Street will maintain records of 457 participant investments, act as a custodian for the plan's investment portfolios, and run one of seven portfolios that will be offered as investment options.

For these services, State Street will collect about two-thirds the average annual fees charged to participants, which will amount to about 1% of assets invested. Mr. Hartung said these fees are about a third less than fees charged by other defined contribution plans available to public employees in the state.

State Street's ties to Calpers as a custodian for the agency's pension plan helped it win the defined contribution contract, Mr. Hartung said. He added that State Street's capabilities as a 457 plan administrator exceeded those of most other players in the market.

Charles R. Tayler, the State Street vice president in charge of the 457 service, said government agencies will be able to provide portfolios from State Street's Seven Seas proprietary mutual family as investment options, even though Calpers did not.

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