Overview of Public Pension Funding Issues

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1 Overview of Public Pension Funding Issues Keith Brainard NASRA Research Director NASRA Annual Conference August 7, 2016 Coeur d Alene, Idaho

3 1974 was a transitional period in public pension plan history Pay-as-you-go funding of pension plans had ended and actuarial funding was the norm In the wake of the inflation spike that began in late 60s, auto-colas were emerging Early stage of equity investing Dawn of retirement systems offering retirement counseling Manual and general ledger accounting giving way to reliance on mainframe computers Other interesting conditions: More emphasis on unfunded liabilities than on actual assets 40-year amortization of unfunded liabilities was common

5 Accounting/data processing in 1974

6 Retirement counseling in 1974

7 Actuarial data in 1974 Terms not present: entry age, normal cost, actuarial value of assets, smoothing, level dollar, funded ratio, and others.

8 Investments in 1974 Terms not present: hedge funds, real estate, infrastructure, private equities, options, tactical asset allocation, billion.

9 About the funding data Data is culled and analyzed by NASRA staff from the Public Plans Database, CAFRs and other source documents PPD is an online compendium of public pension information maintained by the Center for Retirement Research at Boston College, in collaboration with NASRA and the Center for State & Local Government Excellence FY 15 information presented here is not yet complete and is subject to change Complete analysis of FY 15 will be published this fall as the Public Fund Survey Summary of Findings for FY 15

10 Notable funding trends Stabilization of funding levels after more than a decade of decline Required costs are still rising for some plans due to higher unfunded pension liabilities and insufficient contributions Gradual movement from open amortization periods to closed and fixed periods, and toward shorter amortization periods Assumptions: lower inflation and nominal investment return Growing use of phased-in lower investment return assumptions

11 Aggregate Public Pension Funding Level, FY 01 to FY 15

12 Median Change in Actuarial Value of Assets and Liabilities, FY 02 to FY 15

13 Latest Public Pension Funding Levels Size of bubbles is roughly proportionate to size of plan liabilities

14 Median change in membership, FY 01 to FY 15

15 Median Contribution Rates, Social Security eligible and ineligible, FY 02 to FY 15 *

16 Public Fund Survey Distribution of Employer Contribution Rates, Social Securityeligible, FY 15, (general employees and teachers)

17 Public Fund Survey Distribution of Employer Contribution Rates, Social Security-ineligible, FY 15 (general employees and teachers)

18 Distribution of percentage of pension plan normal cost * paid by employees Public Fund Survey * Normal cost is the cost of benefits accrued each year

19 Median and aggregate net cash flow, FY 02 to FY 15 Net cash flow equals contributions minus benefit payments and expenses, divided into assets Jul 20 13

20 Median and aggregate net cash flow and change in assets, FY 02 to FY 15 Jul 20 13

21 Distribution of net cash flow and size of benefits distributed, FY 15 Jul 20 13

22 Public Fund Survey Median annual change in payroll, FY 06 to FY 15

23 Public Fund Survey Median annual change in payroll, employment, and wages and salaries, FY 06 to FY 15

24 The role of inflation in public pension funding The inflation assumption typically serves as the basis of actuarial assumptions for payroll growth and investment return Payroll growth is a major driver of liability growth The investment return assumption has a major effect on a pension plan s cost and funding level

25 Annual change in CPI-U for periods ended in June, Jul 20 US Bureau of Labor Statistics 13

26 10-Year Rolling Average Inflation (CPI-U) Jul US Bureau of Labor Statistics

27 Change in CPI-U compared to change in prices for eggs and unleaded gasoline, Jul-13 to Jun-16 Jul Bureau of Labor Statistics

28 Expectations for inflation over the next 10 years Cleveland Fed Jul 20 13

29 Yields on 10-year notes: US, Germany and Japan, Jan-03 to Jul-16 Wall Street Journal Jul 20 13

30 Change in distribution of investment return assumptions, FY 01 to present Jul 20 13

31 Jul Public Fund Survey Change in average assumption for inflation and real rate of return, FY 05 to FY 15

32 Median annualized public pension fund investment returns for periods ended 6/30/15 and 12/31/15 Jul Callan Associates

33 Median annualized public pension fund investment returns for periods ended 6/30/16 Jul 20 13

34 Jul Average asset allocation, FY 01 to FY 15

35 Summary Funding levels are stabilizing, but funding experience and required costs vary widely Inflation remains very low, reducing wage growth rates and rates of liability growth Liability growth rates remain low due to slow hiring, low inflation and salary growth, and benefit reductions Liability growth rates would be lower still were it not for the headwind of lower investment return assumptions Assumed rates for inflation and nominal investment returns have decreased and may continue Required contribution rates will remain high for plans with large unfunded liabilities Pension challenges vary from state to state and plan to plan; every case is unique

36 NASRA Research Overview Alex Brown Research Manager NASRA Annual Conference August 7, 2016 Coeur d Alene, Idaho

37 Research Update NASRA Issue Briefs & Papers NASRA.org Economic Indicators NASRA Member Surveys

Comprehensive data set COLA formulas Employee

38 Issue Briefs Policy discussion of elements pertaining to public pension plan design, cost, financing, etc. Comprehensive data set COLA formulas Employee contribution rates Hybrid plan characteristics Investment return assumptions

39 Updated Issue Brief: State Hybrid Retirement Systems Cash balance and combination hybrid plans are optional or mandatory for groups of general, public safety, or educational employees Many hybrid plans retain all or most distinguishing elements of sound retirement plan design Many public plans already feature elements of hybrid plan design

Updated Issue Brief: Public Pension Plan Investment Return Assumptions Of all actuarial assumptions, investment return assumption has the most significant impact on pension

40 Updated Issue Brief: Public Pension Plan Investment Return Assumptions Of all actuarial assumptions, investment return assumption has the most significant impact on pension liabilities and costs Plans continue to reduce investment return assumptions The median investment return for the 25 year period ended 12/31/15 exceeds the current average return assumption

41 Updated Issue Brief: State and Local Government Spending on Public Employee Retirement Systems Pensions accounted for approximately 4.1 percent of all state and local government general expenditures in FY 13. Spending by state varies widely, from around 1.6 percent to nearly 8 percent. Spending on pensions is projected to increase in FY 14, but still below levels observed in prior years.

42 Employer (taxpayer) spending on public pensions, 1985 to 2014 State and Local Government Spending on Public Employee Retirement Systems, NASRA 2016

New Issue Brief: State and Local Government Contributions to Statewide Pension Plans: FY 14 Receipt of full actuarially determined contributions are vital to

43 New Issue Brief: State and Local Government Contributions to Statewide Pension Plans: FY 14 Receipt of full actuarially determined contributions are vital to pension plan funding and sustainability State and local government funding discipline improved in FY 14 Individual state contribution experiences vary widely

44 Distribution of ARC/ADC received by 112 plans, FY 14 State and Local Government Contributions to Statewide Pension Plans: FY 14, NASRA 2016

45 Median and average ARC/ADC received by 112 plans, FY 01 to FY 14 State and Local Government Contributions to Statewide Pension Plans: FY 14, NASRA 2016

46 Significant Reforms to State Retirement Systems

47 States that reformed pension plans by year,

48 States that increased employee contributions Significant Reforms to State Retirement Systems, NASRA 2016

49 States that reduced pension benefits Significant Reforms to State Retirement Systems, NASRA 2016

50 States that reduced automatic COLAs Significant Reforms to State Retirement Systems, NASRA 2016

51 States that established new hybrid plans Significant Reforms to State Retirement Systems, NASRA 2016

53 Final Reform Thoughts Most states retained plan features known to promote retirement plan sustainability and balance stakeholder objectives While most states retained their defined benefit plan, a greater share of the risk of accumulating and funding benefits was shifted to employees Generally, reforms were calibrated to states specific conditions

56 Relative change in private and state and local government employment, Jan 06 to July 16 U.S. Bureau of Labor Statistics

57 Annualized quarterly change in wage and salary costs for private and state and local government employees, U.S. Bureau of Labor Statistics

58 Annualized quarterly change in wage and salary costs for private and state and local government employees, U.S. Bureau of Labor Statistics

59 Annualized quarterly change in benefit costs for private and state and local government employees, U.S. Bureau of Labor Statistics

60 Total public pension assets at year-end, FY 03 to FY 15 Federal Reserve

61 U.S. Census Bureau Nominal change in annual state and local tax revenue by source

63 Delayed Employer Contributions Many retirement systems provide an extension to employers who fail to make required contributions on time Most systems charge interest on late contributions; interest rates range from 1 percent up to the plan s full assumed rate of investment return Service Purchase Calculations Most retirement systems allow members to purchase credit for service not covered by a participating employer of the system Some systems allow service to be purchased at a rate approximating missed contributions plus interest; others charge the full actuarial cost. Source of Teacher Pension Contributions Survey Highlights Primary responsibility for funding teacher pensions varies among states In some states, teacher pensions are funded exclusively at the state or local level; in other states, funding responsibility is shared

64 Q u e s t i o n s / C o m m e n t s

Public Retirement System Issues and Trends

Public Retirement System Issues and Trends Keith Brainard Research Director National Association of State Retirement Administrators Texas Municipal Retirement System TMRS Board and Benefits Advisory Committee