Retiree health care costs are the equal opportunity problem that is afflicting the private sector as well as federal, state and local governments. And that's even before the retirement of baby boomers kicks in. For states and localities, a new accounting rule is about to make the enormity of the problem clear and force some fancy fiscal footwork.
The private sector has already had to meet the challenge of the new rule. In 1990, the Financial Accounting Standards Board (FASB) let private companies know that they had to account for the liability of retiree health care costs, just as they had to account for the liabilities of pension plan payouts. The result was not a happy one, particularly for employees--past and present. Many companies cut way back on coverage. Today, an estimated 40 percent of companies with more than 5,000 employees no longer offer retiree health benefits. According to a 2004 survey of large employers conducted by the Kaiser Family Foundation and Hewitt Associates, many of the companies that did not drop the coverage changed their policies to require retirees to pay for more of their insurance--or for all of it.
Now the Governmental Accounting Standards Board (GASB) has let states and localities know that they, too, have to account for retiree health insurance as well as other items that fall into a category known as OPEB--other post-employment benefits. That is, governments will have to accrue OPEB the same way they now account for defined-benefit pension plans. The effective dates of the new OPEB statements are being phased in. Large plans are up first. They must begin reporting their OPEB liability in the fiscal year ending December 31, 2006.
Like companies in the private sector, few states or localities have put money aside for retiree health liabilities. For years, it was never an issue: Health care costs and insurance premiums were not large items in a budget. But in this era of escalating health care prices, they are. Plus, several states and localities in the heady days of the revenue-rich 1990s and in the aftermath of the 9/11 terrorist attacks rewarded their employees--particularly police, fire and other first responders--with bigger and better benefits, including generous forms of health care for their retirement years.
Even without these sprees, the public sector has tended to pay richer benefits for its employees than private corporations have. According to a recent study by the Employee Benefit Research Institute, state and local government employee benefit costs are 60 percent higher than the private sector's.
The question states and localities face now is how to handle the GASB rule challenge: whether to cut off retiree health benefits or find the money to finance the liability.
THE NEW RULES
Almost all states and more than half of all localities provide health care benefits for their retired workers. With almost half of the active public workers now eligible for retirement, several governments are trying to cut off retiree health benefits--if they can.One place that could is Elmira, New York. In May, the city announced it would be ending its subsidy for health care insurance for retired city employees. The subsidy, which cost the city more than $200,000 a year for the 81 retired employees who had signed on for the city program, had operated under an unwritten city policy. Since there was no contractual obligation to provide the subsidy, the city manager opted to drop it and save the money--much to the chagrin of the retirees who protested at a city hall meeting but to no avail.
Unlike Elmira, most localities do have a contractual obligation. But that doesn't mean cities aren't trying to bargain down some of the cost. Retiree health coverage is likely to be part of the negotiations with employee unions when contracts come due. "I anticipate that the GASB ruling will become more and more of a factor. There should be a big effect on the bargaining table when talking about benefits," says Kevin Murray, director of the New York Public Employees Retirement Association. "Everybody is really going to start looking at the long- term impact."
There are likely to be pressures to reduce the generosity of plans. A report by the Citizens Budget Commission in New York City, for instance, projected that the price of retiree health benefits will rise to $6.3 billion in 2008--a 50 percent increase over 2004. The commission, along with some city officials, is calling for municipal and state employees to pay half of their retirement health insurance premiums.
North Carolina's retiree health obligations reach way back and run deep. Old rules concerning vesting requirements have become a slow but steady drain on the budget. "If you work for the state of North Carolina for five years and then spend the rest of your career in the private sector," says Jenny Klarman, of the North Carolina State Health Plan, "once you retire you are eligible to return to the state health plan and get free health insurance and prescription drug benefits for the rest of your life." An employee who worked for the state for only five years could easily cost the state $100,000 over the course of his or her retirement.
THE LOOKING GLASS
For years, the price tag on these obligations has been only so much unpublicized guesswork. There was never any mandate to figure out the long-term cost, much less account for it in the budget. But now, GASB is changing all that. Its new accounting rule is intended to force disclosure of employment and retiree costs incurred by state and local governments. Public-sector employers will not only have to show the total dollar value of their health care promises but also will have to book an expense in their annual budgets for the dollars required to fully fund these health care liabilities over a 30-year period. For North Carolina, this new rule is estimated to create an instant liability of $13 billion, which is roughly 40 times the amount the state currently spends on retiree health care each year.In an effort to resolve the problem, legislators in North Carolina have introduced a bill in the House to change vesting requirements for full retiree health care from the current five years of service to 20 years. "This bill is working on different formulas--if you work a certain amount of years, you can get a certain percentage of the plan," Klarman says.
North Carolina is not the only state to look for a legislative answer. In his State of the State address this year, Nevada Governor Kenny Guinn promised to send the legislature a bill stating that anyone hired after July 1, 2006, would not receive a health care subsidy after they retired. Guinn claimed that the move would save the state $500 million over the next 30 years. A bill along those lines was considered and passed by the Senate. The Assembly, however, balked. It refused to hold a hearing on the bill, and it died.
But even that win has not calmed the fears of Nevada employees and retired workers. "We're afraid here," says Roger Mayard, president of the Nevada State Employees Association's retiree chapter. "We keep hearing about all the companies raising the rate and reducing the benefits until the employee or retiree just can't afford health insurance any longer."
Some jurisdictions are taking a more positive or protective approach. When the District of Columbia ended its fiscal 2004 year with a $318 million surplus, it earmarked $200 million of it to "soften the blow" of the GASB ruling. Then there's Gainesville, Florida, which has been conducting actuarial valuations of its retiree health care plan since 1994. When the GASB notice came along, the city already knew the numbers behind its future liabilities. It was able to hit the bond market this summer with a $35 million taxable bond to fund benefits for the 1,300 retirees currently receiving benefits and 275 employees who are eligible for those benefits.
Gainesville is clearly out ahead of the pack. Most states and localities are just beginning to focus on the issue. It's too early to tell whether they'll try to ditch their retirees or make good on their promises to them.
