Hot Topics in OPEBs and Pensions

Transcription

1 Gulf Coast Chapter Florida Finance Officers Association Largo Library Hot Topics in OPEBs and Pensions September 21, 2018 James J. Rizzo, ASA, MAAA Piotr Krekora, PhD, ASA, MAAA Gabriel, Roeder, Smith & Company Copyright 2018 GRS All rights reserved.

2 Hurricane OPEB Will Hit This Year OPEB = Other Post-Employment Benefits The new GASBS 75 is effective for your 2018 CAFR Replaces GASBS 45 (past 8-10 years) Similar to GASBS 68 for Pensions (past 3 years) Not a Cat 5 storm; but be prepared anyway Similarities and Differences with GASB 45 and 68 2

3 GASBS 45 vs. GASBS 75 Some Similarities GASBS 45 & 75 Benefits types covered OPEB subsidies covered Actuarial services Financial statements OPEB plan liabilities All OPEBs (health, Rx, life insurance, etc.) Implicit subsidy and any direct subsidies provided Yes, you still need actuarial services Affects expense, balance sheet, note disclosures and required supplementary information i n government - wide financial statements Still have plan liabilities OPEB trust (a) Contributions are irrevocable, (b) Assets dedicated to paying OPEB benefits, (c) Legally protected from creditors 3

4 GASBS 45 vs. GASBS 75 Some Differences Balance sheet liability Expense charge Discount rate for unfunded plans Discount rate for funded plans GASBS 45 GASBS 75 Funding shortfall (NOO) A funding ARC/AOC offset by employer contrib ution/benefit Long - term expected return on pool of assets paying the benefits Long - term expected return on pool of assets paying the benefits Benefit l iability to members (NOL); larger Accounting change in NOL from one year to next Yield on measurement date of 20 - yr tax - exempt GO muni bonds averaging AA/Aa or higher Uses the cross - over date blending from GASBS 67/68 of (a) GASBS 45 method and (b) GASBS 75 method 4 for unfunded plans

5 GASBS 45 vs. GASBS 75 Some Differences Expense charge Deferred outflows and inflows of resources Terminology Initial implementation GASBS 45 GASBS 75 Fairly simple (for an actuarial calculation) Not applicable Gone are ARC, adj to ARC, AOC, NOO Staggered effective dates, based on govt s size More complex with numerous components Integral part of the process New are ADC, service cost, TPL, NOL, DOR, DIR, etc. Effective all during same year, for all govts Amortized /phased - in recognition of initial liability over time Immediate recognition of initial liability in first year by restating beginning balance 5

6 GASBS 45 vs. GASBS 75 More Differences Actuarial cost methods allowed Note disclosures Frequency of valuations Measurement date (MD) and period GASBS 45 GASBS 75 Six possibilities (PUC and EAN were the most common) A couple pages of note disclosures Only o ne allowed, for comparability (EAN) More in number and detail 200 or more, at least All plans, either annual or biannual; less than 200, biannual; Annual at least triannual valuations are encouraged Not applicable; term not used Measurement date and period are critical Timing and linkage What valuation date (VD) is linked to what reporting date (RD)? What VD is linked to what measurement date MD? And what MD is linked to 6 what RD?

7 GASBS 45 vs. GASBS 75 More Differences Off - years in biannual and triannual valuations Funding and accounting Alternative measurement method Alternative measurement method (AMM) GASBS 45 GASBS 75 Very l ittle actuarial and accounting work to do in the off - years Often used same actuarial calculations and reports for both No need for an actuary Components of expense are the same as non - AMM Assumption changes and experience gains/losses to measure in the off - years V ery different sets of calculations for pre-funding compared to accounting Some aspects require compliance with Actuarial Standards of Practice (ASOPs) All components of change in the NOL are recognized immediately for AMM; not so for non-amm 7 with DOR/DIR

8 GASBS 68 vs. GASBS 75 Some Differences Funded status Frequency of valuations Frequency of assumption changes Sensitivity disclosures GASBS 68 GASBS 75 Vast majority of pension plans are advance - funded Vast majority of pension plans have annual valuations Pension plans occasionally have assumptions changes NPL calculated at 1% above and below the adopted discount rate Majority of OPEB plans are unfunded ; some are being partially funded Majority of OPEB plans currently have biannual or triannual valuations OPEB plans will regularly have assumption changes NOL calculated at 1% above and below the adopted discount rate and 1% above and below the adopted 8 benefit trend rate

9 GASBS 68 vs. GASBS 75 More Differences GASBS 68 GASBS 75 Alternative measurement method Restatement of beginning balance Not available for pensions Net pension obligation (NPO) on balance sheet was often zero or small compared to the NPL added upon implementation Available for OPEB plans with 100 or fewer members Net OPEB obligation (NOO) is much larger, especially for unfunded plans; so the addition of the NOL does not make as much of a difference as with GASBS 68 9

10 GASBS 75 Exhibits What to expect from the Actuarial report Summary of membership Total OPEB Liability (and sources of changes) OPEB Expense (and it s components) Summary of Deferred Outflows and Inflows (including contributions made / benefits paid after MD; 5-year projection of net outflows) Summary of significant assumptions and methods Summary of plan terms; changes in terms (if any) Sensitivity of TOL to discount rates and health cost trend rates Additional exhibits for funded (trusted) plans Exhibits adding context or required by ASOPs 10

11 GASBS 75 Exhibits May be zero for your implementation year Includes muni-bond rate, changing frequently All employees in positions eligible for OPEB, including those terminating or hired during the year 11

12 GASBS 75 Exhibits Prior Period Adjustment a) Remove Net OPEB Obligation (under GASB 45) b) Add Total OPEB Liability (Beginning Value) c) Add Deferred Outflow due to Benefits Paid/Contributions Made subsequent to the Measurement Date (if your MD is before the reporting date) d) Add other Deferred Outflows/Inflows if practicable there may be circumstances in which it is not practical for a government to determine the amounts of all applicable deferred inflows of resources and deferred outflows of resources related to OPEB (paragraph 244) 12

13 GASBS 75 Exhibits Use as restated beginning deferred outflow (PPA Item c) if MD is 1 year before RD, ask actuary otherwise Use as restated beginning TOL (PPA Item b) 13

14 GASBS 75 Exhibits Recognized immediately, amount the same as A. 3 on schedule of changes in TOL. No DOR/DIR due to changes in benefits. Partially recognized (except for AMM), full recognition over the average of the expected remaining service lives (actives and retirees combined), remainder goes into DOR/DIR. Recognized immediately in full if using AMM. 14

15 GASBS 75 Exhibits Summary of amortized deferred outflows/inflows should be broken out by source. None if MD = RD. 15

16 New Pension Actuarial Standard Actuary is required to communicate risk (ASOP No. 51) Assessment and Disclosure of Risk Associated with Measuring Pension Obligations and Determining Pension Plan Contributions For any funding valuation, ASOP No. 51 requires the actuary to: Identify significant risks Assess the risks Present measures of a plan s maturity Actuary must comply with either qualitative (words) or quantitative (numbers) about the risks 16

17 New Pension Actuarial Standard Biggest risk in managing a pension plan is how far off The emerging actual investment return over time is from The assumed investment return used in actuarial valuations We recommend your actuary present a quantitative assessment of this risk to the pension board and the finance director every few years, including: Stress tests for what if the emerging investment returns differ significantly from what is assumed, Monte Carlo Simulations of the future, and Calculate various measures of your plan s maturity level 17

18 Pension Plan s Return Assumption Set the assumed return as objectively as possible -- without influence from politics, current budgets, or collective bargaining: Unbiased, reasonable, best estimate of the portfolio's future investment returns Input from multiple independent inflation forecasters, Input from multiple independent investment forecasters, Taking into account your portfolio s own asset allocation, and Taking into account your plan s own projected stream of benefit demands (cash flow out) 18

19 Who Decides on the Return Assumption? The simple answer is the pension board Nevertheless, the government has ultimate responsibility for the CAFR and the bond disclosures That is, whoever signs them (FD) This is a major responsibility under state and federal law. 19

20 When Push Comes to Shove... What happens if the Finance Director believes the return assumption set by the pension board for funding purposes is: Too high? Unrealistically high? Out of the mainstream of forecasters? An outlier? What would FD do for accounting purposes? How would FD know? 20

21 % of Plans 35% Assumed Investment Return Among State and Statewide Systems (Rounded to Nearest 0.25%) 30% 25% 20% 15% 10% 5% 0% Under 7.0% 7.00% 7.25% 7.50% 7.75% 8.00% Over 8.0% Public Plans Database (125 Retirement Systems; from 2017 and 2016) 21

22 % of Plans 35% Assumed Investment Return Among Florida Local Retirement Plans (Rounded to Nearest 0.25%) 30% % 20% % 10% 46 5% 0% 28 Below 7.0% 7.00% 7.25% 7.50% 7.75% 8.00% Over 8.0% 5 Number of Plans in the Florida Division of Retirement Database for Fact Sheets updated (490 Plans in Total; 342 are from 2016, 127 from 2015, 15 from 2014 and 6 from 2012, 2013 and 2017) 22

23 How is the Finance Officer to Know? Net investment return assumption = Forecasted annual rate of inflation + Forecasted real (net of inflation) annual rate of return Expected investment-related expenses 23

24 How is the Finance Officer to Know? (continued) Consider a process for setting the return assumption: 1. An analytical process (with math, not feelings or wishes) 2. Recognizes the fund s own asset allocation 3. Defensible 4. Demonstrable and transparent 5. Forward-looking process 6. Professional forecaster 7. Multiple professional forecasters 8. Consensus of multiple professional forecasters 9. A return assumption appropriate the pension valuation Horizon (mid-term vs. longer-term); consider maturity and duration 50 th percentile compounded over time vs. one-year at a time 10. Develop a range of reasonableness around the most appropriate return assumption 24

25 National Inflation Forecasters Major National Inflation Forecasters Bond Investors Congressional Budget Office Federal Reserve Bank of Philadelphia Federal Reserve Bank of Cleveland Federal Reserve Board Investment Forecaster Survey (GRS) Social Security Trustees Report 2018 Forward-looking Forecasts of CPI Inflation Horizon Average Sources yrs 2.30% 6 20 yrs 2.16% yrs 2.31% 7 25

26 National Investment Forecasters Participating Investment Forecasters Aon/Hewitt BNY/Mellon Callan J.P. Morgan Marquette Mercer NEPC PCA RVK Summit VOYA Wilshire 26

27 A Spectrum of Sample Asset Allocations More Conservative Portfolio More Aggressive Portfolio Risk/Fixed Assets 60/40 65/35 70/30 75/25 80/20 85/15 90/10 Large Cap Equity 35% 35% 30% 25% 20% 15% 15% Sm/Md Cap Equity 15% 15% 15% 10% 10% 10% 10% Developed Intl Equity 10% 10% 10% 10% 15% 15% 15% Emerging Mkt Equity 5% 10% 10% 10% 15% Real Estate 5% 5% 10% 10% 10% 10% Private Equity 5% 10% 10% 15% 15% Hedge Funds 5% 5% 5% Other Alternatives 5% 5% Total Risk-oriented 60% 65% 70% 75% 80% 85% 90% Govt Fixed Income 20% 15% 10% 5% Corporate Fixed Income 15% 15% 10% 10% 10% 5% High Yield 5% 5% 10% 5% 5% 5% 5% International Debt 5% 5% 5% 5% Total Fixed Income 40% 35% 30% 25% 20% 15% 10% Most plans are mature with liability durations of less than years; a 10-year horizon can be considered long-term. 27

28 50 th Percentile (50-50 Probability of Achieving) Expected Compound Return Over Next 10 Years More Conservative Portfolio More Aggressive Portfolio Investment Forecasters* 60/40 65/35 70/30 75/25 80/20 85/15 90/ % 4.49% 5.04% 5.15% 5.24% 5.44% 5.63% % 4.57% 5.13% 5.93% 6.00% 6.14% 6.37% % 4.89% 5.39% 5.68% 5.83% 6.32% 6.15% % 5.04% 5.43% 5.66% 6.21% 5.99% 6.57% % 5.29% 5.73% 5.78% 6.03% 6.27% 6.54% % 5.31% 5.65% 6.15% 6.04% 6.52% 6.73% % 5.46% 5.87% 5.96% 6.32% 6.37% 6.67% % 5.57% 6.02% 6.23% 6.37% 6.69% 6.92% % 5.44% 5.90% 6.20% 6.25% 6.43% 6.68% % 5.85% 6.20% 6.27% 6.34% 6.56% 6.57% % 5.99% 6.43% 6.60% 6.77% 6.97% 7.11% % 6.63% 7.27% 7.60% 7.80% 8.20% 8.50% Consensus Average 5.23% 5.38% 5.84% 6.10% 6.27% 6.49% 6.70% * Investment Forecasters' expectations published in Investment Forecasters do not rank the same across all asset allocations. Some rank a little higher in some asset allocations than they do in others. Nevertheless, they are listed from 1 through 12. A reasonable range around the most appropriate investment return assumption - a margin for uncertainty 28

29 Average Probability (Among all 12) of Achieving Compound Return Over Next 10 Years More Conservative Portfolio More Aggressive Portfolio Of at Least the Current Investment Return Assumption of 60/40 65/35 70/30 75/25 80/20 85/15 90/10 8.0% 21.9% 23.7% 29.8% 32.5% 34.4% 36.8% 39.4% 7.5% 26.2% 28.1% 34.2% 36.9% 38.7% 41.1% 43.5% 7.0% 31.0% 32.9% 38.8% 41.5% 43.3% 45.6% 47.7% Consensus Average 5.25% 5.50% 5.75% 6.00% 6.25% 6.50% 6.75% Participating Investment Forecasters Aon/Hewitt BNY/Mellon Callan J.P. Morgan Marquette Mercer NEPC PCA RVK Summit VOYA Wilshire 29

30 % of Plans 25% Asset Allocations Among Florida Local Retirement Plans (Rounded to Nearest 0.25%) % % % % % <60% 60/40 65/35 70/30 75/25 80/20 85/15 90/10 >90% Asset Allocations ( Risk-return-oriented / Fixed Income ) 4 - The number of Florida Retirement Systems with a given Asset Allocation. Source: Florida Division of Retirement Database updated ; 488 Plans in Total; 335 are from 2016, 133 from 2015, 15 from 2014 and 5 from 2013 and 2017) 30

31 % of Plans 25% Asset Allocations Among Florida Local Retirement Plans (Rounded to Nearest 0.25%) % Approximately 1/2 of plans have 65/35 or less in risk/return-oriented assets (conservative) % % % % <60% 60/40 65/35 70/30 75/25 80/20 85/15 90/10 >90% Asset Allocations ( Risk-return-oriented / Fixed Income ) 4 - The number of Florida Retirement Systems with a given Asset Allocation. Source: Florida Division of Retirement Database updated ; 488 Plans in Total; 335 are from 2016, 133 from 2015, 15 from 2014 and 5 from 2013 and 2017) 31

32 % of Plans 35% Assumed Investment Return Among Florida Local Retirement Plans (Rounded to Nearest 0.25%) 30% % 20% % 10% 46 5% 0% 28 Below 7.0% 7.00% 7.25% 7.50% 7.75% 8.00% Over 8.0% 5 Number of Plans in the Florida Division of Retirement Database for Fact Sheets updated (490 Plans in Total; 342 are from 2016, 127 from 2015, 15 from 2014 and 6 from 2012, 2013 and 2017) 32

33 Assumed Investment Return (Rounded to Nearest 0.25%) Assumed Investment Return x Asset Allocation Among Florida Local Retirement Plans >8.00% % % % % % % % % % % % The number of Florida Retirement Systems 5.25% with a given Asset Allocation (along the % bottom) and the given Assumed Investment - Return (along the side). Source: Florida 4.75% Division of Retirement Database updated % ; 488 Plans in Total; 335 are from , 133 from 2015, 15 from 2014 and % from 2013 and 2017) 4.00% <4.00% <60% 60/40 65/35 70/30 75/25 80/20 85/15 90/10 >90% Approximate Asset Allocation (Rounded to Nearest 0.25%) 33

34 Assumed Investment Return (Rounded to Nearest 0.25%) Assumed Investment Return x Asset Allocation Among Florida Local Retirement Plans >8.00% % % % % % % % % % % % % % % % % % 1-1 The number of Florida Retirement Systems 5.25% % - - with a given Asset Allocation (along the % bottom) and the given Assumed Investment - Return (along the side). Source: Florida 4.75% Division of Retirement Database updated % ; 488 Plans in Total; 335 are from , 133 from 2015, 15 from 2014 and % from 2013 and 2017) 4.00% <4.00% <60% 60/40 65/35 70/30 75/25 80/20 85/15 90/10 >90% Approximate Asset Allocation (Rounded to Nearest 0.25%) Consensus Average Expected 50th Percentile Compounded over 10 Years 34

35 Assumed Investment Return (Rounded to Nearest 0.25%) Assumed Investment Return x Asset Allocation Among Florida Local Retirement Plans >8.00% % % % % % % % % % % % % % % % % % 1-1 The number of Florida Retirement Systems 5.25% % - - with a given Asset Allocation (along the % bottom) and the given Assumed Investment - Return (along the side). Source: Florida 4.75% Division of Retirement Database updated % ; 488 Plans in Total; 335 are from , 133 from 2015, 15 from 2014 and % from 2013 and 2017) 4.00% <4.00% <60% 60/40 65/35 70/30 75/25 80/20 85/15 90/10 >90% Approximate Asset Allocation (Rounded to Nearest 0.25%) Consensus Average Expected 50th Percentile Compounded over 10 Years A Range of Reasonableness Around the Consensus Average 35

36 Bottom Line The government (finance officer) is signing off on the actuarial assumptions for accounting purposes, i.e., For the CAFR and any OS; This is a major responsibility under state and federal law. What happens if the finance officer believes the return assumption set by the pension board for funding purposes is: Too high? Unrealistically high? Out of the mainstream of forecasters? An outlier? 36

37 Bottom Line: So What Do You Do If You Disagree? Put on your most diplomatic face and meet with the chair Negotiate with the chair Apply public pressure (not preferred) Arrange for your own GASBS 68 calculations using your alternate investment return assumption Ask the Pension Board to instruct its actuary to do these calculations Engage your own actuary to do these calculations 37

38 Disclaimers Readers are cautioned to examine original source materials and to consult with subject matter experts before making decisions related to the subject matter of this presentation. This presentation does not necessarily express the views of the sponsoring organization, or of Gabriel, Roeder, Smith & Company, and may not even express the views of the presenter. 38

39 ACKNOWLEDGEMENT Thank you to Jeff Amrose and Nicolas Lahaye who checked and peer reviewed this presentation 39