Pros And Cons Of Underfunded Pension
Abstract
The economic recession since 2008 have left many public organizations in the US with extraordinary budgetary difficulties; and underfunded pension/OPEB (Other Post-Employment Benefits) play a critical role leading to that trouble. For the state employers who sponsor OPEB, under-budgeting problem arises for several reasons. First, the current accounting practice is that they account for these costs on pay-as-you-go basis, meaning the expenses are paid out as incurred. Even though GASB requires OPEB liability disclosure in the financial statement, the employer could be in large deficit no pre-funding was set up to offset OPEB liability, especially at the time when retirees begin to draw these benefit. Second, according to many state …show more content…
employers, health care premiums increases on a regular basis and are difficult to predict, so they are hesitant to prefund OPEB plan. To solve this problem, our team suggests two solutions, one short-term and one long-term. In the short-run, increase employee and employer contribution to pension funds to help cover OPEB. Part of the additional contribution goes OPEB funding. In the long-run, provide tax incentive for employers who decide to fund OPEB. Feasibility of each solution shall be discussed in details in the paper.
The economic recession since 2008 have left many public organizations in the US with extraordinary budgetary difficulties; and underfunded pension/OPEB (Other Post-Employment Benefits) play a critical role leading to that trouble. The number of employees serving state and federal government in U.S is approximately 20 million. Their well-being after retirement is dependent upon the pension plan and other post retirement pension benefit. However, most states and public facilities in America are suffering from not being able to provide sufficient pension allowance and benefits after retirements to current retirees. According to recent data from Forbes Data 2012, Illinois represents worst-case scenario off all states in which net pension plan asset is $95 million in deficit . This problem is like a powerful time boom. Eventually there will come the last straw that broke the camel’s back. For the purpose of this research paper, our group would like to shift our attention toward other post-employment benefits: what is the general accounting practice that GASB requires for government/non-profit entities in terms of disclosure, and what led to the suffering of many states to meet that obligation when retirees begin to draw benefit. On that ground, we would also like to suggest one short-term and one long-term recommendation to the state government with the hope to slow down the deficit and in the long run, and to ensure the well-being of our people.
Before going further into researching OPEB and suggesting recommendations to solve current problems, we need to understand what it is and what the current disclosure requirements are. Since our recommendation is made for the state and local governments, we assume that it is geared toward public organizations such as schools, hospitals, public utility companies (electric, water, gas…) that operate with government funding. These organizations are not necessary non-profit - they still receive revenues from sales of goods and services - so the scope of research could potentially extend to private sectors; the only difference is the organization that regulates the accounting for pension/OPEB between public and private sector (GASB - Governmental Accounting Standards Board versus FASB - Financial Accounting Standards Board).
So what is OPEB? As the name suggests, OPEB are postemployment benefits other than pensions. Over the course of employment, state employees are compensated in a variety of forms in exchange for their services. OPEB, in addition to pension allowance, is one form of fringe benefit that employees earn and vest over a certain period of time. OPEB generally takes the form of health insurance and dental, vision, prescription, or other healthcare benefits provided to eligible retirees and their families. OPEB may also include life insurance, legal services, geriatric day care….
Before GASB issued No. 43 and No. 45 in 2006, the general practice is that the state employers account for OPEB on the pay-as-you go basis, meaning they expense the cost of such benefits as incurred . This led to two critical issues:
1. In terms of accounting consequences, pension benefits (as a legal obligation) and OPEB (as a constructive obligation in some cases) are part of the compensation that employees earn each year, even though these benefits are not received in full until after employment has ended. Ignoring these service cost means underestimating the amount of total expenses and liability. Readers of financial statements, including the public, would have incomplete information with which to assess the cost of public services and to analyze long-run financial well-being of the government.
2. In terms of social and economic consequences, cost of health care and insurance premiums rise on a regular basis. From 2004 to 2010 in the US public sector, employees’ contribution to pay for health insurance premiums increased approximately 6 to 8% a year and employer contribution rose about 4 to 6% a year on average. If we adjust this rate to inflation, which is about 2-3% depending on the economy, there is an accrued liability with interest of 2-3% percent a year that lies on the employer that were neither funded nor accounted for.
The accounting impact could potentially be fixed if new regulations become effective; however, it is the economic and social impact, we believe, that poses a challenging situation. OPEB liability, along with already under-funded pension liability when retires begin to draw benefit, could push the limit of the state’s economy and forces the government into large deficit. The bankruptcy of the City of Stockton, CA – the most generous provider of post-retirement benefits - demonstrates a perfect example. The core of the problem is that Stockton increased the value of the pensions its workers were earning, without making a corresponding adjustment in the yearly prepayments to the state pension management agency to cover the cost. It simply paid the expenses out of pocket and did not account for the shortfall.
Aside from the OPEB accounting problem and potential economic impact, one other factor that led both pension and OPEB deficit is that state and local governmental entities are reluctant to separate funding for pension plan liabilities and other post retirement pension benefits liabilities. The rationale behind this decision is that healthcare benefits should not be funded, they are paid out when people need it and the employers are not obligated to make such payments. The amount could vary significantly under a variety of circumstances and fluctuate over time; the cost, therefore, is difficult to predict.
With an effort to resolving the accounting/reporting issue, GASB issued Statement No. 25 that explains the financial reporting procedure for Defined Benefit Pension Plans and Note Disclosures for Defined Contribution Plans. Additionally, the board also announced statement No 43 and No.45 required that healthcare plan/insurance premiums liability after retirement must be included in the financial reports. The board believe reporting plan net assets in total without indicating the amount how much are held respectively in trust for pension benefits and postemployment healthcare benefits provides insufficient information to users and can be misleading. This provision of this Statement applies to all state and local governmental defined benefit pension plans that administer postemployment healthcare benefits, including plans of general purpose governments, public benefit corporations and authorities, public employee retirement systems, utilities, hospitals and other healthcare providers, and colleges and universities, etc…
Now that we presented our understanding on the core problem as of what might have led to underfunding OPEB, we also learned that GASB required disclosure of OPEB liability of financial statements, why is this problem still persisting? The answer, we believe, is that disclosure of OPEB liability only makes stakeholders aware that it exists. The liability, if no pre-funding set up to offset such amount, just keeps accruing and growing in the future. Employer are reluctant to prefund this plan is for several reasons: one - contribution to health care is not deductible for tax purpose; and two - postretirement healthcare benefits could be very low for some employee thus could be eliminated at will so it is not a legal liability. As far as we concern, the significant underfunded pension might also be an alternative reason of this matter.
In order to solve the problem or practically speaking, to make things better, we will discuss solutions for this issue from pension/OPEB plan itself and from the tax prospective.
1. In the short-run, increase employee and employer contribution to pension funds to help cover OPEB. Part of the additional contribution goes OPEB funding
2. In the long-run, provide tax incentive for employers who decide to fund OPEB
Let us discuss each solution as a separate subject matter.
Solution 1: We believe that this is a feasible short-term solution, which many states have implemented to help overcome pension deficit. In Arizona in particular, ASRS (state pension management agency) starting federal fiscal year 2013 change the pension split between employee and employer. Fiscal year 2012, the rate was 50 – 50 between employer – employee; the ratio becomes 47 – 53 after fiscal year 2013 . Another change in Arizona that took place this year was that employee’s total gross pay deduction which contributes to pension fund also went up. Depending on each employer’s policies, the increase went from 7% the lowest to 12%. The University of Arizona required all staff/faculty to take 11.5% deduction out of each paycheck and the contribution goes directly to ASRS. The University matches the same amount in FY12, and changed their contribution in FY13 based on the new split.
There are certainly pros and cons to this approach.
From the employer the perspective, change in employees’ contribution may help ease part of the burden; however, since many state employers are in large deficit for their pension plan, the additional contribution from employees may go directly toward pension fund before it goes to OPEB funding (pension certainly takes higher priority over post-retirement benefits) . From the employees’ perspective, even though they might see the reduction in current paycheck, increase in retirement contribution could generate tax benefit and secured the well-being after retirement if the employer sponsors OPEB. We believe that reaction from employees will most likely be favorable. From the legislature viewpoints, is this change beneficial when sacrificing tax revenue at current time (employees’ contribution to retirement is tax-exempt) to offset pension deficit? The answer depends on the economy and what the current needs are. If the economy is thriving and the state could potentially acquire tax revenue from sources other than individual income tax, then this solution will be feasible. Legislators needs discuss how to allocate tax revenues and expenses based on the current …show more content…
priorities
Solution 2: Provide tax incentive for employers who decides to pre-fund OPEB
In the long-run, a good tax planning strategy could save a great fortune for state or local governmental entities. The reason that the state or local governmental entities want to take some actions or choose not to do something is partly driven by tax incentives. Therefore if IRS could provide some tax benefits for those who accrue the other postretirement benefits, state or local governmental entities including public organizations would have motivation to do so.
Generally, estimated expense which may or may not happen in the future is not allowed to deduct for tax purposes. This applies to contribution to health care; state or local governmental entities are not able to claim a deduction for prefunding OPEB plan. What’s more: every employee has different health situation and needs so it is difficult to predict how much money will be used to cover those post-retirement benefits. Therefore both theoretically and practically speaking, there is no reason to spend time and money to calculate post-retirement benefits cost and pre-fund those plans. However, we believe that if we could find a safe way to let state or local governmental entities accrue those expenses and take a deduction, state or local governmental entities would be willing to set the budget aside for those post-retirement benefits. By saying safe way, we mean it is necessary to find a way to provide the use of this tax benefits.
According to IRS Code, only qualified pension plan can get favorable treatment. Qualified plans explained as ‘plan that receives contributions from an employer which are invested and ultimately paid out to participating employees, usually at retirement.’ Post-retirement benefits share some key characteristics with qualified pension plan. Therefore, giving other post-retirement benefits tax advantages is doable.
To make this recommendation possible, first and foremost, government organizations should follow the provision to separate the pension plan asset and other post retirement pension benefits asset. Then they could start to invest certain amount of money in a pool and let a trust handle it. What we need to do is set up some rules to determine the liability, minimum funding standards, deduction limit for the contributions and whether the excess of limitation could be carry forward or carry back.
In the old way, the payment is pay-as-you-go, so state or local governmental entities can only deduct the expense incurred in the current tax year . By allowing them to take a deduction of contribution to other post-retirement benefits plan, state or local governmental entities can get a significant savings. More importantly, this treatment encourages them to separate funds and prefund other post-retirement benefits.
Having provided some benefits of tax incentive plan, the next steps is to identify who are the stakeholders and how they are affected by this implementation
1.
Employees: They may feel secure if there is a fund for their retirement benefits; and thus do not have to pay for health insurance out of pocket when retirement comes.
2. Employers could potentially save tax money by being able to deduct the contribution to the other post retirement plan. Meanwhile, they need to invest money to those plans. Under current situation, which most of states’ pension plans are underfunded, most state don’t want to and may not be able to fund other post retirement pension plan. It will increase their financial burden.
3. Legislators: In order to give state or local entities tax benefit by allowing them to accrue those expenses and take a deduction, legislators need to modify many codes. For example, in Code Sec. 461(h)(1), no accrual can be made where the liability has not actually been incurred; is contingent upon an uncertain future event; is contested and not paid. However, our suggestion doesn’t meet all those requirements. The other post-retirement benefit cost is minimal but estimated cost and technically speaking it is not an exact liability. Therefore, we can see the difficulty in making it come true. There will be a lot discussion upon this
issue.
4. Capital market professionals: If state or local entities could prefund other post-retirement benefits plan, there will be a huge amount money goes in to capital market in the future. To those capital market professionals, it may mean an opportunity to design some finical instruments with both low risk and stable returns.
Overall, we believe that underfunded pension and OPEB is an aching issue for both public and private sectors for several reasons. One – the accounting requires a lot of projections and these assumptions could drastically change as the economy improves or get worse; and two – are the employers willing to set aside the required funding in the pension pool or hold on to the cash and use it for other purposes? Even though GASB and FASB issued new disclosure requirements for pension liability, the effort to resolve this problem lies on individual organizations. In the short run, the employers could increase employee contribution and use the additional money to offset some deficit, or to fund OPEB. In the long run, the state could provide favorable tax treatment for organizations that are willing to prefund qualified pension plan. Of course many other feasible solutions such as eliminating defined benefit, raising the retirement age, or increase taxes were studied extensively; and many states are in the progress of slowly implementing the change. However, the key is that the employers must act rationally and ethically, think for employees in the long term and not all for profit. We strongly believe that proper budgeting along with retracting from risky investment takes a big role in solving the issue in the long run.
References
Arizona State Retirement System. (2012, July 1st). ASRS. Retrieved from Arizona State Retirement System: https://www.azasrs.gov/web/ContributionRates.do
Bureau, U. S. (2011, 03 01). Retrieved from United State Census Bureau: http://www.census.gov/govs/apes/
Eide, S. (2011, October 31). Retrieved from Union Watch: http://unionwatch.org/fixing-californias-retiree-health-care-problem/
Forbes.com. (2012, May 30). Three Hard Lessons from Illinois Public Pension Reform. Retrieved from Forbes.com: http://www.forbes.com/sites/jeffreybrown/2012/05/30/three-hard-lessons-from-illinois-public-pension-reform/
Governmental Accounting Standards Board . (2006). GASB Statements No. 43 and No. 45 . Norwalk, Connecticut: Governmental Accounting Standards Board .
Internal Revenue Service. (2011). Publication 575. Pension and Annuity Income, 3-5.
Mealey, C. (2010, December 06). What is OPEB and Why Does it Cost $9.4 Billion? New York City, New York, USA.
National Conference of State Legislatures. (2011, August). Retrieved from National Conference of State Legislatures: http://www.ncsl.org/issues-research/health/health-insurance-premiums.aspx
Snell, R. (2012, January 31st). Pensions And Retirement Plan Enactments In 2011 State Legislatures. Retrieved from National Conference of State Legislatures: http://www.ncsl.org/issues-research/labor/2011-pension-and-retirement-enacted-legislation.aspx
The Daily Caller. (2012, November 11). The Daily Caller. Retrieved from http://dailycaller.com/2012/11/19/illinois-governor-announces-squeezy-the-pension-python-to-highlight-states-pension-woes/
Turner, J. A. (1999, October 1st). Pensions, Tax Treatment. Tax Policy Center.
Walsh, M. W. (2011, September 3rd). New York Times. Retrieved from How Plan to Help City Pay Pensions Backfired: http://www.nytimes.com/2012/09/04/business/how-a-plan-to-help-stockton-calif-pay-pensions-backfired.html?pagewanted=all
The economic recession since 2008 have left many public organizations in the US with extraordinary budgetary difficulties; and underfunded pension/OPEB (Other Post-Employment Benefits) play a critical role leading to that trouble. For the state employers who sponsor OPEB, under-budgeting problem arises for several reasons. First, the current accounting practice is that they account for these costs on pay-as-you-go basis, meaning the expenses are paid out as incurred. Even though GASB requires OPEB liability disclosure in the financial statement, the employer could be in large deficit no pre-funding was set up to offset OPEB liability, especially at the time when retirees begin to draw these benefit. Second, according to many state …show more content…
employers, health care premiums increases on a regular basis and are difficult to predict, so they are hesitant to prefund OPEB plan. To solve this problem, our team suggests two solutions, one short-term and one long-term. In the short-run, increase employee and employer contribution to pension funds to help cover OPEB. Part of the additional contribution goes OPEB funding. In the long-run, provide tax incentive for employers who decide to fund OPEB. Feasibility of each solution shall be discussed in details in the paper.
The economic recession since 2008 have left many public organizations in the US with extraordinary budgetary difficulties; and underfunded pension/OPEB (Other Post-Employment Benefits) play a critical role leading to that trouble. The number of employees serving state and federal government in U.S is approximately 20 million. Their well-being after retirement is dependent upon the pension plan and other post retirement pension benefit. However, most states and public facilities in America are suffering from not being able to provide sufficient pension allowance and benefits after retirements to current retirees. According to recent data from Forbes Data 2012, Illinois represents worst-case scenario off all states in which net pension plan asset is $95 million in deficit . This problem is like a powerful time boom. Eventually there will come the last straw that broke the camel’s back. For the purpose of this research paper, our group would like to shift our attention toward other post-employment benefits: what is the general accounting practice that GASB requires for government/non-profit entities in terms of disclosure, and what led to the suffering of many states to meet that obligation when retirees begin to draw benefit. On that ground, we would also like to suggest one short-term and one long-term recommendation to the state government with the hope to slow down the deficit and in the long run, and to ensure the well-being of our people.
Before going further into researching OPEB and suggesting recommendations to solve current problems, we need to understand what it is and what the current disclosure requirements are. Since our recommendation is made for the state and local governments, we assume that it is geared toward public organizations such as schools, hospitals, public utility companies (electric, water, gas…) that operate with government funding. These organizations are not necessary non-profit - they still receive revenues from sales of goods and services - so the scope of research could potentially extend to private sectors; the only difference is the organization that regulates the accounting for pension/OPEB between public and private sector (GASB - Governmental Accounting Standards Board versus FASB - Financial Accounting Standards Board).
So what is OPEB? As the name suggests, OPEB are postemployment benefits other than pensions. Over the course of employment, state employees are compensated in a variety of forms in exchange for their services. OPEB, in addition to pension allowance, is one form of fringe benefit that employees earn and vest over a certain period of time. OPEB generally takes the form of health insurance and dental, vision, prescription, or other healthcare benefits provided to eligible retirees and their families. OPEB may also include life insurance, legal services, geriatric day care….
Before GASB issued No. 43 and No. 45 in 2006, the general practice is that the state employers account for OPEB on the pay-as-you go basis, meaning they expense the cost of such benefits as incurred . This led to two critical issues:
1. In terms of accounting consequences, pension benefits (as a legal obligation) and OPEB (as a constructive obligation in some cases) are part of the compensation that employees earn each year, even though these benefits are not received in full until after employment has ended. Ignoring these service cost means underestimating the amount of total expenses and liability. Readers of financial statements, including the public, would have incomplete information with which to assess the cost of public services and to analyze long-run financial well-being of the government.
2. In terms of social and economic consequences, cost of health care and insurance premiums rise on a regular basis. From 2004 to 2010 in the US public sector, employees’ contribution to pay for health insurance premiums increased approximately 6 to 8% a year and employer contribution rose about 4 to 6% a year on average. If we adjust this rate to inflation, which is about 2-3% depending on the economy, there is an accrued liability with interest of 2-3% percent a year that lies on the employer that were neither funded nor accounted for.
The accounting impact could potentially be fixed if new regulations become effective; however, it is the economic and social impact, we believe, that poses a challenging situation. OPEB liability, along with already under-funded pension liability when retires begin to draw benefit, could push the limit of the state’s economy and forces the government into large deficit. The bankruptcy of the City of Stockton, CA – the most generous provider of post-retirement benefits - demonstrates a perfect example. The core of the problem is that Stockton increased the value of the pensions its workers were earning, without making a corresponding adjustment in the yearly prepayments to the state pension management agency to cover the cost. It simply paid the expenses out of pocket and did not account for the shortfall.
Aside from the OPEB accounting problem and potential economic impact, one other factor that led both pension and OPEB deficit is that state and local governmental entities are reluctant to separate funding for pension plan liabilities and other post retirement pension benefits liabilities. The rationale behind this decision is that healthcare benefits should not be funded, they are paid out when people need it and the employers are not obligated to make such payments. The amount could vary significantly under a variety of circumstances and fluctuate over time; the cost, therefore, is difficult to predict.
With an effort to resolving the accounting/reporting issue, GASB issued Statement No. 25 that explains the financial reporting procedure for Defined Benefit Pension Plans and Note Disclosures for Defined Contribution Plans. Additionally, the board also announced statement No 43 and No.45 required that healthcare plan/insurance premiums liability after retirement must be included in the financial reports. The board believe reporting plan net assets in total without indicating the amount how much are held respectively in trust for pension benefits and postemployment healthcare benefits provides insufficient information to users and can be misleading. This provision of this Statement applies to all state and local governmental defined benefit pension plans that administer postemployment healthcare benefits, including plans of general purpose governments, public benefit corporations and authorities, public employee retirement systems, utilities, hospitals and other healthcare providers, and colleges and universities, etc…
Now that we presented our understanding on the core problem as of what might have led to underfunding OPEB, we also learned that GASB required disclosure of OPEB liability of financial statements, why is this problem still persisting? The answer, we believe, is that disclosure of OPEB liability only makes stakeholders aware that it exists. The liability, if no pre-funding set up to offset such amount, just keeps accruing and growing in the future. Employer are reluctant to prefund this plan is for several reasons: one - contribution to health care is not deductible for tax purpose; and two - postretirement healthcare benefits could be very low for some employee thus could be eliminated at will so it is not a legal liability. As far as we concern, the significant underfunded pension might also be an alternative reason of this matter.
In order to solve the problem or practically speaking, to make things better, we will discuss solutions for this issue from pension/OPEB plan itself and from the tax prospective.
1. In the short-run, increase employee and employer contribution to pension funds to help cover OPEB. Part of the additional contribution goes OPEB funding
2. In the long-run, provide tax incentive for employers who decide to fund OPEB
Let us discuss each solution as a separate subject matter.
Solution 1: We believe that this is a feasible short-term solution, which many states have implemented to help overcome pension deficit. In Arizona in particular, ASRS (state pension management agency) starting federal fiscal year 2013 change the pension split between employee and employer. Fiscal year 2012, the rate was 50 – 50 between employer – employee; the ratio becomes 47 – 53 after fiscal year 2013 . Another change in Arizona that took place this year was that employee’s total gross pay deduction which contributes to pension fund also went up. Depending on each employer’s policies, the increase went from 7% the lowest to 12%. The University of Arizona required all staff/faculty to take 11.5% deduction out of each paycheck and the contribution goes directly to ASRS. The University matches the same amount in FY12, and changed their contribution in FY13 based on the new split.
There are certainly pros and cons to this approach.
From the employer the perspective, change in employees’ contribution may help ease part of the burden; however, since many state employers are in large deficit for their pension plan, the additional contribution from employees may go directly toward pension fund before it goes to OPEB funding (pension certainly takes higher priority over post-retirement benefits) . From the employees’ perspective, even though they might see the reduction in current paycheck, increase in retirement contribution could generate tax benefit and secured the well-being after retirement if the employer sponsors OPEB. We believe that reaction from employees will most likely be favorable. From the legislature viewpoints, is this change beneficial when sacrificing tax revenue at current time (employees’ contribution to retirement is tax-exempt) to offset pension deficit? The answer depends on the economy and what the current needs are. If the economy is thriving and the state could potentially acquire tax revenue from sources other than individual income tax, then this solution will be feasible. Legislators needs discuss how to allocate tax revenues and expenses based on the current …show more content…
priorities
Solution 2: Provide tax incentive for employers who decides to pre-fund OPEB
In the long-run, a good tax planning strategy could save a great fortune for state or local governmental entities. The reason that the state or local governmental entities want to take some actions or choose not to do something is partly driven by tax incentives. Therefore if IRS could provide some tax benefits for those who accrue the other postretirement benefits, state or local governmental entities including public organizations would have motivation to do so.
Generally, estimated expense which may or may not happen in the future is not allowed to deduct for tax purposes. This applies to contribution to health care; state or local governmental entities are not able to claim a deduction for prefunding OPEB plan. What’s more: every employee has different health situation and needs so it is difficult to predict how much money will be used to cover those post-retirement benefits. Therefore both theoretically and practically speaking, there is no reason to spend time and money to calculate post-retirement benefits cost and pre-fund those plans. However, we believe that if we could find a safe way to let state or local governmental entities accrue those expenses and take a deduction, state or local governmental entities would be willing to set the budget aside for those post-retirement benefits. By saying safe way, we mean it is necessary to find a way to provide the use of this tax benefits.
According to IRS Code, only qualified pension plan can get favorable treatment. Qualified plans explained as ‘plan that receives contributions from an employer which are invested and ultimately paid out to participating employees, usually at retirement.’ Post-retirement benefits share some key characteristics with qualified pension plan. Therefore, giving other post-retirement benefits tax advantages is doable.
To make this recommendation possible, first and foremost, government organizations should follow the provision to separate the pension plan asset and other post retirement pension benefits asset. Then they could start to invest certain amount of money in a pool and let a trust handle it. What we need to do is set up some rules to determine the liability, minimum funding standards, deduction limit for the contributions and whether the excess of limitation could be carry forward or carry back.
In the old way, the payment is pay-as-you-go, so state or local governmental entities can only deduct the expense incurred in the current tax year . By allowing them to take a deduction of contribution to other post-retirement benefits plan, state or local governmental entities can get a significant savings. More importantly, this treatment encourages them to separate funds and prefund other post-retirement benefits.
Having provided some benefits of tax incentive plan, the next steps is to identify who are the stakeholders and how they are affected by this implementation
1.
Employees: They may feel secure if there is a fund for their retirement benefits; and thus do not have to pay for health insurance out of pocket when retirement comes.
2. Employers could potentially save tax money by being able to deduct the contribution to the other post retirement plan. Meanwhile, they need to invest money to those plans. Under current situation, which most of states’ pension plans are underfunded, most state don’t want to and may not be able to fund other post retirement pension plan. It will increase their financial burden.
3. Legislators: In order to give state or local entities tax benefit by allowing them to accrue those expenses and take a deduction, legislators need to modify many codes. For example, in Code Sec. 461(h)(1), no accrual can be made where the liability has not actually been incurred; is contingent upon an uncertain future event; is contested and not paid. However, our suggestion doesn’t meet all those requirements. The other post-retirement benefit cost is minimal but estimated cost and technically speaking it is not an exact liability. Therefore, we can see the difficulty in making it come true. There will be a lot discussion upon this
issue.
4. Capital market professionals: If state or local entities could prefund other post-retirement benefits plan, there will be a huge amount money goes in to capital market in the future. To those capital market professionals, it may mean an opportunity to design some finical instruments with both low risk and stable returns.
Overall, we believe that underfunded pension and OPEB is an aching issue for both public and private sectors for several reasons. One – the accounting requires a lot of projections and these assumptions could drastically change as the economy improves or get worse; and two – are the employers willing to set aside the required funding in the pension pool or hold on to the cash and use it for other purposes? Even though GASB and FASB issued new disclosure requirements for pension liability, the effort to resolve this problem lies on individual organizations. In the short run, the employers could increase employee contribution and use the additional money to offset some deficit, or to fund OPEB. In the long run, the state could provide favorable tax treatment for organizations that are willing to prefund qualified pension plan. Of course many other feasible solutions such as eliminating defined benefit, raising the retirement age, or increase taxes were studied extensively; and many states are in the progress of slowly implementing the change. However, the key is that the employers must act rationally and ethically, think for employees in the long term and not all for profit. We strongly believe that proper budgeting along with retracting from risky investment takes a big role in solving the issue in the long run.
References
Arizona State Retirement System. (2012, July 1st). ASRS. Retrieved from Arizona State Retirement System: https://www.azasrs.gov/web/ContributionRates.do
Bureau, U. S. (2011, 03 01). Retrieved from United State Census Bureau: http://www.census.gov/govs/apes/
Eide, S. (2011, October 31). Retrieved from Union Watch: http://unionwatch.org/fixing-californias-retiree-health-care-problem/
Forbes.com. (2012, May 30). Three Hard Lessons from Illinois Public Pension Reform. Retrieved from Forbes.com: http://www.forbes.com/sites/jeffreybrown/2012/05/30/three-hard-lessons-from-illinois-public-pension-reform/
Governmental Accounting Standards Board . (2006). GASB Statements No. 43 and No. 45 . Norwalk, Connecticut: Governmental Accounting Standards Board .
Internal Revenue Service. (2011). Publication 575. Pension and Annuity Income, 3-5.
Mealey, C. (2010, December 06). What is OPEB and Why Does it Cost $9.4 Billion? New York City, New York, USA.
National Conference of State Legislatures. (2011, August). Retrieved from National Conference of State Legislatures: http://www.ncsl.org/issues-research/health/health-insurance-premiums.aspx
Snell, R. (2012, January 31st). Pensions And Retirement Plan Enactments In 2011 State Legislatures. Retrieved from National Conference of State Legislatures: http://www.ncsl.org/issues-research/labor/2011-pension-and-retirement-enacted-legislation.aspx
The Daily Caller. (2012, November 11). The Daily Caller. Retrieved from http://dailycaller.com/2012/11/19/illinois-governor-announces-squeezy-the-pension-python-to-highlight-states-pension-woes/
Turner, J. A. (1999, October 1st). Pensions, Tax Treatment. Tax Policy Center.
Walsh, M. W. (2011, September 3rd). New York Times. Retrieved from How Plan to Help City Pay Pensions Backfired: http://www.nytimes.com/2012/09/04/business/how-a-plan-to-help-stockton-calif-pay-pensions-backfired.html?pagewanted=all