Pew Study: California Faces Challenges in Managing Bills Coming Due for Retiree Benefits

State has set aside only $3 million toward its $62 billion long-term liability for public retiree health care and other benefits

California needs to improve how it manages its long-term liabilities for both pensions and retiree health care and other non-pension benefits for public workers, according to “The Trillion Dollar Gap,” a new report released today by the Pew Center on the States.

Overall, California’s pension plans—with total liabilities of about $454 billion, the largest amount among the 50 states—were 87 percent funded at the end of fiscal year 2008, above the 80 percent benchmark that the U.S. Government Accountability Office says is preferred by experts. But when it comes to individual plans, the results vary. The California Public Employees Retirement System (CalPERS) paid its entire actuarially required contribution of $7.2 billion in 2008, but the California State Teachers’ Retirement System contributed less than two thirds of its $4.3 billion obligation that year. Meanwhile, the state had reserved only $3 million to cover the total $62 billion, long-term liability for retiree health care and other non-pension benefits.

“California has a troubling pattern of not paying its annual required pension contributions in recent years,” said Susan Urahn, managing director, Pew Center on the States. “If the bill is ignored year after year, more taxpayer dollars will be consumed by these obligations at the price of either higher taxes or cuts in other critical services.”

Pew assessed all 50 states on how well they are managing their public sector retirement benefit obligations. Nationally, there was a $1 trillion gap at the end of fiscal year 2008 between states’ assets on hand and the cost of their obligations to current and future retirees. This figure likely is conservative because the most recent available data do not fully account for the second half of 2008, when states’ pension fund investments were particularly affected by the financial crisis. State and local governments will have to make up these shortfalls over the next 30 years.

The annual bill for retirement benefits will increase unless states make their required annual payments consistently or contain the size of their liabilities

The figures detailed in Pew’s report include pension, health care and other non-pension benefits promised to both current and future retirees in states’ and participating localities’ public sector retirement systems.

Momentum for policy reform is building nationwide. In 2008, California passed a law aimed at improving pension decision-making by requiring that trained actuaries be present during benefit increase discussions and also that all pension changes be subject to cost review. Across the country, 15 states passed legislation to reform their state-run retirement systems in 2009 compared to 12 in 2008 and 11 in 2007. Reforms largely fell into five categories: (1) keeping up with funding requirements; (2) reducing benefits or increasing the retirement age; (3) sharing the risk with employees; (4) increasing employee contributions; and (5) improving governance and investment oversight.

“A growing number of policy makers recognize that their states’ fiscal health depends on how well they manage the bill coming due for public sector retirement benefits,” said Urahn. “We are seeing more and more states explore policy reforms aimed at putting their systems on stronger fiscal footing.”

The Trillion Dollar Gap” identified significant variations in how states are managing their employee retiree benefits:

Pension benefits

• Sixteen states were deemed solid performers, 15—including California—were in need of improvement and 19 states were flagged for serious concerns.
• States like Florida, Idaho, New York, North Carolina and Wisconsin all entered the current recession with fully funded pensions, and were rated top performers by Pew.
• In 2000, just over half the states had fully funded pension systems. By 2006, that number had shrunk to six states. By 2008, only four–Florida, New York, Washington and Wisconsin– could make that claim.
• In eight states–Connecticut, Illinois, Kansas, Kentucky, Massachusetts, Oklahoma, Rhode Island and West Virginia–more than one-third of the total pension liability was unfunded. Two states–Illinois and Kansas–had less than 60 percent of the necessary assets on hand.

Health care and other non-pension benefits

• Nine states were deemed solid performers, having enough assets to cover at least 7.1 percent–the 50-state average–of their non-pension liabilities. Only two states–Alaska and Arizona– had 50 percent or more of the assets needed.
• Forty states—including California—were classified as needing improvement, having set aside less than 7.1 percent of the funds required. Twenty of these have no assets on hand to cover their obligations. (Nebraska does not provide estimates of its retiree health care or other benefit obligations and did not receive a grade.)
• Only four states contributed their entire actuarially required contribution for non-pension benefits in 2008: Alaska, Arizona, Maine and North Dakota.

About the Methodology

Pew’s analysis is based on data from states’ own Comprehensive Annual Financial Reports, pension plan system annual reports and actuarial valuations. Pew researchers analyzed the funding performance of 231 state-administered pension plans and 159 state-administered retiree health care and other non-pension benefit plans, which include some localities’ and teacher plans. States have flexibility in how they compute their obligations and present their data, so three main challenges arise in comparing their numbers: whether and how they smooth investment gains or losses; when they conduct actuarial valuations; and what assumptions they use for investment returns, retirement ages and other factors.

The Pew Center on the States is a division of The Pew Charitable Trusts that identifies and advances effective solutions to critical issues facing states. Pew is a nonprofit organization that applies a rigorous, analytical approach to improve public policy, inform the public and stimulate civic life.

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