New Era of Pension Finance Shows Huge Liabilities for States

More stringent accounting practices show state employee pensions combine for an underfunded ratio of 39 percent, according to a new report.
September 4, 2013
 

The nation’s state public employee pensions combine for an underfunded ratio of 39 percent –  or $4.1 trillion – according to a new report that uses more stringent accounting practices similar to ones taking effect this year.

Illinois pensions combine for a national low of just 24 percent funded while Wisconsin plans are the healthiest – just 57 percent funded – according to a report released Tuesday by State Budget Solutions, a nonpartisan nonprofit with the mission of reforming governments’ approach to budgeting. The liabilities, which indicate the strain the pensions payments are placing on state finances, were calculated according to the 15-year Treasury bond yield of 3.2 percent (as of Aug. 21). It’s a far more conservative rate of return than the 7-to-8-percent over 20 or 30 years commonly used by most governments in their financial reports.

Rounding out the bottom five after Illinois ($287 billion in total unfunded liabilities) are: Connecticut (25 percent funded; $77 billion in unfunded liabilities), Kentucky (27 percent funded; $71 billion in unfunded liabilities) and Kansas (29 percent funded; $33 billion in unfunded liabilities). Mississippi ($49 billion in unfunded liabilities), New Hampshire ($14 billion) and Alaska ($24 billion) are all tied at 30 percent funded.

The top five plans after Wisconsin (which has $60 billion in unfunded liabilities) are: North Carolina (54 percent funded with $67 billion in unfunded liabilities), South Dakota (52 percent funded;  $7 billion unfunded), Tennessee (50 percent funded; $37 billion unfunded) and Washington (49 percent funded; $64 billion unfunded). For the full report, click here.

The report notes that the less generous rate of return it uses is meant to provide “a fair-market evaluation that discounts liabilities at a risk-free rate, as opposed to the optimistic investment returns used by most plans.” Similarly, both the Governmental Accounting Standards Board and Moody's Investors Services made changes this year to the way they calculate pension plan liabilities to combat what some saw as routine undervaluing of those liabilities.

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“With their rejection of an unsatisfactory approach to calculating public pension liabilities, GASB and Moody's have joined a chorus of financial economists and other observers warning that pension funding practices are dangerous for both taxpayers and public employees alike,” the report said.

The report also notes that, according to state financial documents, the overall funded ratio of state plans included in the report is 73 percent – nearly 40 points higher than the State Budget Solutions figure.

In June, Moody’s Investors service began using a new adjusted, discount rate for pension liabilities that reflect high quality corporate bond rates on the day the liabilities were valued. The impetus was to “give a more realistic assessment of state pension returns,” Moody’s said at the time. Also this summer, GASB changed the way public pension plans should account for their portfolio gains and losses in the coming years. That change is expected to have additional administrative costs and likely have the effect of making a plan’s unfunded liability appear higher than it did in prior years.

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