State and Local Government Retiree Benefits: Current Status of Benefit Structures, Protections, and Fiscal Outlook for Funding Future Costs
Released: 2007-10-24T00:00:00

Letter

Background

The state and local government sector is likely to face persistent fiscal challenges within the next decade. In July 2007, we issued a report based on simulations for the state and local government sector that indicated that in the absence of policy changes, large and growing fiscal challenges will likely emerge within a decade. Our report found that, as is true for the federal sector, the growth in health-related costs is a primary driver of these fiscal challenges (see fig. 1). Two types of health-related costs are of particular concern at the state and local level: (1) Medicaid expenditures, and (2) the cost of health insurance for state and local government employees, retirees, and their beneficiaries.

Retirement benefits consist primarily of two components: pensions and retiree health benefits. According to Census data, in fiscal year 2004-2005, state and local governments provided retirement benefits to nearly 7 million retirees and their families. In addition to supporting a secure retirement for state and local government employees and their families, such benefits constitute an important component of the total compensation package state and local governments offer to attract and retain the skilled workers needed to protect lives and health, and to promote the general welfare. These workers include highway patrol officers, local police, firefighters, school teachers, and judges, as well as general state and local government employees who staff the broad array of state and local agencies.

Pension plans can generally be characterized as either defined benefit or defined contribution plans. In a defined benefit plan, the amount of the benefit payment is determined by a formula typically based on the retiree’s years of service and final average salary, and is most often provided as a lifetime annuity. In defined benefit plans for state and local government retirees, postretirement cost-of-living adjustments (COLA) are frequently provided. But benefit payments are generally reduced for early retirement, and in some cases, payments may be offset for receipt of Social Security. State and local government employees are generally required to contribute a percentage of their salaries to their defined benefit plans, unlike private sector employees, who generally make no contribution when they participate in defined benefit plans. According to a 50-state survey conducted by Workplace Economics, Inc., 43 of 48 states with defined benefit plans reported that general state employees were required to make contributions ranging from 1.25 to 10.5 percent of their salaries. Nevertheless, these contributions have no influence on the amount of benefits paid because benefits are based solely on the formula.

In a defined contribution plan, the key determinants of the benefit amount are the employee’s and employer’s contribution rates, and the rate of return achieved on the amounts contributed to an individual’s account over time. The employee assumes the investment risk: The account balance at the time of retirement is the total amount of funds available, and unlike with defined benefit plans, there are generally no COLAs. Until depleted, however, a defined contribution account balance may continue to earn investment returns after retirement, and a retiree could use the balance to purchase an inflation-protected annuity. Also, defined contribution plans are more portable than defined benefit plans, as employees own their accounts individually and can generally take their balances with them when they leave government employment. There are no reductions based on early retirement or for participation in Social Security.

Accounting standards governing public sector pensions were established by the Governmental Accounting Standards Board (GASB) in 1994. Comprehensive accounting and financial reporting standards governing other postemployment benefits (OPEB) in the public sector, such as health care, were issued in 2004 (superseding the interim standards issued previously). Implementation of the new OPEB standards is currently being phased in (see app. IV). The purpose of these standards is to prescribe accounting and financial reporting requirements that apply broadly to state and local government employers’ benefit plans. Reporting by employers and plan administrators helps keep the municipal bond market, taxpayers, elected public officials, plan members, and other interested parties informed about employers’ OPEB costs and obligations, and the operation and funded status of the plans. As with the Financial Accounting Standards Board (FASB) in the private sector, it is not the GASB’s function to enforce compliance with the standards it promulgates. Rather, the GASB functions as an independent standard setter, and its statements and interpretations constitute the highest source of generally accepted accounting principles (GAAP) for state and local governments, as specified in the Code of Professional Conduct of the American Institute of Certified Public Accountants. State and local governmental entities issue annual financial reports prepared in conformity with GAAP for a variety of reasons—such as to comply with general or specific state laws requiring GAAP financial reporting, or to protect the highest possible credit rating on the government’s bonds in order to reduce the government’s cost of borrowing. Compliance with GASB standards is necessary in order to obtain an independent auditor’s report that the financial statements are fairly presented in conformity with GAAP, and a failure to do so would result in a modification of the auditor’s report if the effects were material.

Although the Employee Retirement Income Security Act of 1974 (ERISA) imposes participation, vesting, and other requirements directly upon employee pension plans, governmental plans such as those provided by state and local governments to their employees are excepted from these requirements. In addition, ERISA established an insurance program for defined benefit plans under which promised benefits are paid (up to a statutorily set amount), if an employer cannot pay them—but this too does not apply to governmental plans. However, for participants in governmental pension plans to receive preferential tax treatment (that is, for plan contributions and investment earnings to be tax-deferred), plans must be deemed qualified by the Internal Revenue Service.

State and Local Retiree Benefits Typically Include a Defined Benefit Plan, a Voluntary Savings Plan, and Partially Paid Health Coverage

State and local governments typically provide their employees with retirement benefits that include a defined benefit plan, a supplemental defined contribution plan for voluntary savings, and group health coverage. However, the way each of these components is structured and the level of benefits provided varies widely—both across states, and within states based on such things as date of hire, employee occupation, and local jurisdiction.

Defined Benefit Plans Still Provide the Core Benefits for Most Retirees

Most state and local government workers still are provided traditional pension plans with defined benefits. In 1998, all states had defined benefit plans as their primary pension plans for their general state workers except for Michigan and Nebraska (and the District of Columbia), which had defined contribution plans as their primary plans, and Indiana, which had a combined plan with both defined benefit and defined contribution components as its primary plan. Almost a decade later, we found that as of 2007, only one additional state (Alaska) had adopted a defined contribution plan as its primary plan; one additional state (Oregon) had adopted a combined plan, and Nebraska had replaced its defined contribution plan with a cash balance defined benefit plan. (See fig. 2.) Although still providing defined benefit plans as their primary plans for general state employees, some states also offer defined contribution plans (or combined plans) as optional alternatives to their primary plans. These states include Colorado, Florida, Montana, Ohio, South Carolina, and Washington.

In the states that have adopted defined contribution plans as their primary plans, most employees continue to participate in defined benefit plans because employees are allowed to continue their participation in their previous plans (which is rare in the private sector). Thus, in contrast to the private sector, which has moved increasingly away from defined benefit plans over the past several decades, the overwhelming majority of states continue to provide defined benefit plans for their general state employees.

Most states have multiple pension plans providing benefits to different groups of state and local government workers based on occupation (such as police officer or teacher) and/or local jurisdiction. According to the most recent Census data available, in fiscal year 2004-2005, there were a total of 2,656 state and local government pension plans. We found that defined benefit plans were still prevalent for most of these other state and local employees as well. For example, a nationwide study conducted by the National Education Association in 2006 found that of 99 large pension plans serving teachers and other school employees, 79 were defined benefit plans, 3 were defined contribution plans, and the remainder offered a range of alternative, optional, or combined plan designs with both defined benefit and defined contribution features.

Supplementary Savings Plans Are Largely Voluntary, with No Employer Match

In addition to primary pension plans (whether defined benefit or defined contribution), data we gathered from various national organizations show that each of the 50 states has also established a defined contribution plan as a supplementary, voluntary option for tax-deferred retirement savings for their general state employees, and such plans appear to be common among other employee groups as well. These supplementary defined contribution plans are typically voluntary deferred compensation plans under section 457(b) of the federal tax code. (See table 1.)

While these defined contribution plans are fairly universally available, state and local worker participation in the plans has been modest. In a 2006 nationwide survey conducted by the National Association of Government Defined Contribution Administrators, the average participation rate for all defined contribution plans was 21.6 percent.

One reason cited for low participation rates in these supplementary plans is that, unlike in the private sector, it has been relatively rare for employers to match workers’ contributions to these plans, but the number of states offering a match has been increasing. According to a state employee benefit survey of all 50 states conducted by Workplace Economics, Inc., in 2006, 12 states match the employee’s contribution up to a specified percent or dollar amount. Among our site visit states, none made contributions to the supplementary savings plans for their general state employees, and employee participation rates generally ranged between 20 to 50 percent. In San Francisco, however, despite the lack of an employer match, 75 percent of employees had established 457(b) accounts. The executive director of the city’s retirement system attributed this success to several factors, including (1) that the plan had been in place for over 25 years, (2) that the plan offers good investment options for employees to choose from, and (3) that plan administrators have a strong outreach program. In the private sector, a growing number of employers are attempting to increase participation rates and retirement savings in defined contribution plans by automatically enrolling workers and offering new types of investment funds.

Group Health Coverage Is Widely Available with Varying Levels of Employer Support

State and local governments typically provide their active employees with health coverage, and they often pay the bulk of their premiums. According to the Workplace Economics, Inc., 2006 survey, on average, state employers paid over 90 percent of the cost for single employee coverage, and over 80 percent of the cost of family coverage, for active workers. Once workers retire, access to group coverage generally continues, but the extent of the employer contribution often declines, and different benefits are often provided depending on whether or not the retiree is eligible for Medicare.

For virtually all state and local retirees age 65 or older, Medicare provides the primary coverage. Most state and large local government employers offer supplemental group health coverage, but do not always contribute to the cost of the premiums. According to the Workforce Economics, Inc., 2006 survey, all states but one provide access to such supplemental coverage. Only Nebraska provides no access to group coverage for retirees age 65 and over. In 12 states, retirees are provided access to coverage through a state health care program, but the state provides no support for the coverage. At the other end of the spectrum, in 16 states, employers pay the entire cost for at least one coverage plan under some circumstances. Of those states contributing to the premium costs, the maximum employer payments for employee-only coverage ranged from $40 per month (in Tennessee) to $850 per month (in Alaska).

For state and local retirees who are under age 65 (that is, not yet Medicare-eligible), most state and large local employers provide the primary health care coverage. According to the Workplace Economics, Inc., 2006 survey, all states provide access to group health coverage for pre-Medicare retirees, but in 14 states, the plan participants pay the entire cost of the coverage (see fig. 3). In 14 other states, employers pay the entire cost for at least one coverage plan in some circumstances. Of those states providing an employer contribution, the maximum payments for retiree-only coverage ranged from $105 per month (in Oklahoma) to $850 per month (in Alaska).

In most cases, states are continuing to provide retirees with prescription drug coverage following the rollout of the Medicare prescription drug program beginning in January 2006. In May 2006, the Segal Company, in cooperation with the Public Sector HealthCare Roundtable, conducted a survey of 109 state and local entities concerning retiree health care, and found that most of the public entities surveyed continued to provide prescription drug coverage to their retirees, and that only one entity planned to eliminate drug coverage entirely.

Nationwide survey data indicate that while the vast majority of state and local government active workers participate in employer-sponsored health benefit plans, participation rates among retirees in these employer- sponsored health benefit programs are relatively low. According to data from the Department of Health and Human Services, in 2004, about 42 percent of state and local retirees participated in employer-sponsored health insurance programs. Among our site visit locations, we found that participation rates varied widely based on level of employer cost sharing. For example, in California, where the state may pay up to the full premium in some cases (depending on the retiree's date of hire, years of service, and choice of coverage plans); and in Michigan, where the state pays as much as 95 percent of the retirees’ premium for those under the defined benefit plan, we estimated participation rates to be approximately 70 percent and 90 percent of all state retirees, respectively. In contrast, in Oregon, where the state pays nothing toward retirees’ premiums for coverage under the pre-Medicare-eligible health care program administered by the Public Employees Benefit Board, it has been estimated that the participation rate among eligible retirees is about 30 percent.

The Cost of Other Benefits, when Provided, Is Primarily Paid by Retirees

Beyond basic health care, other postemployment benefits (OPEB) that are sometimes offered to state and local government retirees include stand- alone supplemental dental or vision benefits, long-term care, or life insurance. When such benefits are made available, state and local government entities typically provide access to group rates, but the cost of the benefits is often paid primarily, if not entirely, by retirees.

For example, among our site visit locations, postemployment benefits provided to retirees in addition to health care include the following: State employees in California generally have access to group term life insurance with a lump-sum benefit of $5,000, paid by the state. Retirees also are provided access to group dental benefits, which may be partially funded by the state in some cases, and a retiree vision program with premiums fully paid by retirees. Long-term care insurance is also available to all public employees in the state (active or retired), as well as their family members, generally as a fully member- paid program with no state contribution. In Michigan, dental and vision (as well as health) coverage is provided to general state employees at retirement. For those under the defined contribution plan (that is, hired on or after March 31, 1997), payments range from none for those with less than 10 years of service, to 30 percent of the premium cost for those with 10 years of service, plus 3 percent per year additional up to a maximum of 90 percent of the premium cost for those who have 30 or more years of service. The state also negotiated a group plan for long-term care insurance for active and retired workers, and their family members, but it is administered completely through a third party with no state support.

Oregon’s other postemployment benefits for state retirees include group coverage for dental and vision benefits, but not life insurance. Long-term care insurance is also available, but only for some retirees. No employer contribution is provided for any of these benefits.

State and Local Law Generally Provides Legal Protections for Pensions, but Less So for Other Retiree Benefits of Public Employees

How both pension plans and retiree health benefits are protected and managed is typically spelled out in statutes or in local ordinances, but these laws generally provide greater protections for pensions than for retiree health benefits. Laws protecting pensions are often anchored by provisions in state constitutions and local charters. Across the multiple plans providing benefits, state and local law typically requires that pensions be managed as trust funds and overseen by boards. In contrast, state and local law provides much less protection for retiree health benefits. Retiree health benefits are generally treated as an operating expense for that year’s costs on a pay-as-you-go basis and managed together with active employee benefits.

Laws Protecting Pensions Are Often Anchored in State Constitutions and Local Charters

State and local laws generally provide the most direct source of any specific legal protections for the pensions of state and local workers. Provisions in state constitutions often protect pensions from being eliminated or diminished. In addition, constitutional provisions often specify how pension funds are to be managed, such as by mandating certain funding requirements and/or requiring that the funds be overseen by boards of trustees. Moreover, we found that at the sites we visited, locally administered plans were generally governed by local laws. However, state employees, as well as the vast majority of local employees, are covered by state-administered plans.

Protections for pensions in state constitutions are the strongest form of legal protection states can provide because constitutions—which set out the system of fundamental laws for the governance of each state— preempt state statutes and are difficult to change. Furthermore, changing a state constitution usually requires broad public support. For example, often a supermajority (such as three-fifths) of a state’s legislature may need to first approve changes to its constitution. If a change passes the legislature, voters typically must approve it before it becomes part of the state’s constitution.

The majority of states have some form of constitutional protection for their pensions. According to AARP data compiled in 2000, 31 states have a total of 93 constitutional provisions explicitly protecting pensions. (The other 19 states all have pension protections in their statutes or recognize legal protections under common law.) These constitutional pension provisions prescribe some combination of how pension trusts are to be funded, protected, managed, or governed. (See table 2.)

In nine states, constitutional provisions take the form of a specific guarantee of the right to a benefit. In two of the states we visited, the state constitution provided protection for pension benefits. In California, for example, the state constitution provides that public plan assets are trust funds to be used only for providing pension benefits to plan participants. In Michigan, the state constitution provides that public pension benefits are contractual obligations that cannot be diminished or impaired and must be funded annually.

The basic features of pension plans—such as eligibility, contributions, and types of benefits—are often spelled out in state or local statute. State- administered plans are generally governed by state laws. For example, in California, the formulas used to calculate pension benefit levels for employees participating in the California Public Employees’ Retirement System (CalPERS) are provided in state law. Similarly, in Oregon, pension benefit formulas for state and local employees participating in the Oregon Public Employees Retirement System (OPERS) plans are provided in state statute. In addition, we found that at the sites we visited locally administered plans were generally governed by local laws. For example, in San Francisco, contribution rates for employees participating in the San Francisco City and County Employees’ Retirement System are spelled out in the city charter.

Legal protections usually apply to benefits for existing workers or benefits that have already accrued; thus, state and local governments generally can change the benefits for new hires by creating a series of new tiers or plans that apply to employees hired only after the date of the change. For example, the Oregon legislature changed the pension benefit for employees hired on or after January 1, 1996, and again for employees hired on or after August 29, 2003, each time increasing the retirement age for the new group of employees.

For some state and local workers whose benefit provisions are not laid out in detail in state or local statutes, specific provisions are left to be negotiated between employers and unions. For example, in California, according to state officials, various benefit formula options for local employees are laid out in state statutes, but the specific provisions adopted are generally determined through collective bargaining between the more than 1,500 different local public employers and rank-and-file bargaining units. In all three states we visited, unions also lobby the state legislature on behalf of their members. For example, in Michigan, according to officials from the Department of Management and Budget, unions marshal support for or against a proposal by taking such actions as initiating letter-writing campaigns to support or oppose legislative measures.

Pensions Are Typically Managed as Trust Funds with Board Oversight

In accordance with state constitution and/or statute, the assets of state and local government pension plans are typically managed as trusts and overseen by boards of trustees to ensure that the assets are used for the sole purpose of meeting retirement system obligations and that the plans are in compliance with the federal tax code. Boards of trustees, of varying size and composition, often serve the purpose of establishing the overall policies for the operation and management of the pension plans, which can include adopting actuarial assumptions, establishing procedures for financial control and reporting, and setting investment strategy. On the basis of our analysis of data from the National Education Association, the National Association of State Retirement Administrators (NASRA), and reports and publications from selected states, we found that 46 states had boards overseeing the administration of their pension plans for general state employees. These boards ranged in size from 5 to 19 members, with various combinations of those elected by plan members, those appointed by a state official, and those who serve automatically based on their office in state government (known as ex officio members). (See fig. 4.)

Different types of members bring different perspectives to bear, and can help to balance competing demands on retirement system resources. For example, board members who are elected by active and retired members of the retirement system, or who are union members, generally help to ensure that members’ benefits are protected. Board members who are appointed sometimes are required to have some type of technical knowledge, such as investment expertise. Finally, ex officio board members generally represent the financial concerns of the state government.

Some pension boards do not have each of these perspectives represented. For example, boards governing the primary public employee pension plans in all three states we visited had various compositions and responsibilities. (See table 3.) At the local level, in Detroit, Michigan, a majority of the board of Detroit’s General Retirement System is composed of members of the system. According to officials from the General Retirement System, this is thought to protect pension plan assets from being used for purposes other than providing benefits to members of the retirement system. Regarding responsibilities, the board administers the General Retirement System and, as specified in local city ordinances, is responsible for the system’s proper operation and investment strategy.

Pension boards of trustees typically serve as pension plan fiduciaries, and as fiduciaries, they usually have significant independence in terms of how they manage the funds. Boards make policy decisions within the framework of the plan’s enabling statutes, which may include adopting actuarial assumptions, establishing procedures for financial control and reporting, and setting investment policy. In the course of managing pension trusts, boards generally obtain the services of independent advisors, actuaries, or investment professionals.

Also, some states’ pension plans have investment boards in addition to, or instead of, general oversight boards. For example, three of the four states without general oversight boards have investment boards responsible for setting investment policy. While public employees may have a broad mandate to serve all citizens, board members generally have a fiduciary duty to act solely in the interests of plan participants and beneficiaries. Likely at least partially because of this specific duty, one study of approximately 250 pension plans at the state and local level found that plans with boards overseeing them were associated with greater funding than those without boards.

When state pension plans do not have a general oversight board, these responsibilities tend to be handled directly by legislators and/or senior executive officials. For example, in the state of Washington, the pension plan for general state employees is overseen by the Pension Funding Council—a six-member body whose membership, by statute, includes four state legislators. The council adopts changes to economic assumptions and contribution rates for state retirement systems by majority vote. In Florida, the Florida Retirement System is not overseen by a separate independent board; instead, the pension plan is the responsibility of the State Board of Administration, composed of the governor, the chief financial officer of the state, and the state attorney general. In New York, the state comptroller, an elected official, serves as the sole trustee and administrative head of the New York State and Local Employees Retirement System.

Laws Provide Less Protection for Retiree Health Benefits

In contrast with pensions, there are less likely to be statutory protections applicable to retiree health benefits. To the extent that any such legal protections exist, they more frequently stem from the negotiated agreements between unions and government employers. In addition, the cost of annual retiree health benefits typically have been treated as an operating expense and managed together with active employee benefits, although the benefits offered retirees may differ from those offered active employees. Despite the general absence of a fund to manage, retiree health programs frequently still have boards that help to determine the terms of the health plans to be offered.

Retiree Health Benefits Are Subject to Change

Unlike the law governing pensions, the law governing retiree health benefits for state and local government workers generally does not include the same type of explicit protections. To the extent retiree health benefits are legally protected, it is generally because they have been collectively bargained and are subject to current labor contracts.

In cases where reductions to retiree health benefits are challenged in court, the ultimate outcome depends on the specific facts and circumstances and the applicable state and/or local law in each jurisdiction. In Segal’s 2006 survey of over 100 state and local plans, 62 percent of respondents said that statutory or regulatory obligations affected their ability to change retiree health coverage; 25 percent said that retiree health coverage was subject to collective bargaining; and 17 percent said that other factors affected their ability to change retiree health coverage. In two recent cases, however, the courts have upheld the state’s right to modify retiree health benefits (see sidebar).

In 2000, Michign increased the co-pyment nd dedctile to e pid nder it helth pln for public chool retiree, nd retiree sued. The te supreme cort held tht retiree helth enefit were not ccred finncienefit within the mening of the Michign Contittion nd tht the te eablihing the pln did not crete contrctual right to such enefit. Studier v. Mich. Pub. Sch. Emples. Ret Bd., 472 Mich. 642 (2005)

Retiree health benefits generally have been treated by state and local governments as an operating expense for that year’s costs on a pay-as-you- go basis. State and local governments typically do not set aside funds while employees are working to pay their future retiree health benefits. Moreover, retiree health benefits are mostly managed together with active employee benefits, although the actual benefits offered to retirees and to active employees may be different. In most cases, retiree health benefits are administered under the state or local employee benefit system.

Despite the general absence of a fund to manage, the administrators of retiree health benefits may still look to boards to help determine the health coverage to be offered. For example, in California, the same CalPERS board that oversees the pension fund also oversees a health care program. With respect to this health care program, the CalPERS board is responsible for selecting insurers through which participants can receive coverage. The CalPERS board negotiates, for example, the specific services covered, premiums, and participant co-payments. Although many local governments participate in the CalPERS program, the City and County of San Francisco has chosen to administer its own separate program. The Health Service System (a city department) is responsible for administering the benefits for both active and retired employees, with oversight from the Health Service Board (a city board). The Health Service Board is charged with establishing rules and regulations for the Health Service System and for conducting an annual review of the costs for medical and hospital care. In Oregon, the Public Employees Benefit Board, a separate entity from OPERS, is responsible for managing the health benefits of both active and pre-Medicare-eligible retired employees, with authority to negotiate the terms of their coverage.

Strategies Exist to Manage Future Pension Costs, but Not to Meet Escalating Costs for Retiree Health Care

While state and local governments generally have strategies to manage future pension costs, they have not yet developed strategies to fund future health care costs for public sector retirees. We analyzed the state and local sector’s fiscal outlook with respect to the sector’s ability to maintain current retiree benefits—that is, the sector’s ability to fund its future liabilities—from two perspectives and came to similar conclusions. First, in our simulation of the fiscal outlook for the state and local sector, we developed projections of the likely cost of pensions and retiree health benefits that already have been and will continue to be earned by employees. Our simulation shows that the additional pension contributions that state and local governments will need to make in future years to fully fund their pensions on an ongoing basis are only slightly higher than the current contribution rate. Our simulation also shows that health care costs for retirees will likely rise considerably as a component of state and local budgets, if these costs continue to be funded on a pay-as- you-go basis. Second, we analyzed data on the funded status of 126 of the nation’s largest public sector retirement systems and found that with some notable exceptions, most are relatively well funded, but that long-term strategies to fund future health care costs for retirees are generally lacking.

Current Contribution Rates Are Generally on Track, but Could Still Fall Short of Future Pension Needs

Our simulation indicates that state and local governments, in aggregate, will need to make contributions to pension systems at a somewhat higher rate than in recent years in order to fully fund their pension obligations on an ongoing basis. Assuming certain historical trends continue and that there is a steady level of pension contributions in the future, contribution rates would need to rise to 9.3 percent of salaries—less than a half percent more than the 9.0 percent contribution rate in 2006.

Our model is based on a variety of assumptions regarding employee contributions, future employment, retirement, wages, rates of return, pension characteristics, and other factors. For example, our analyses relate to defined benefit plans only. (For details on our assumptions and our model, see app. II.) We assume that employee contribution rates to these pension funds will remain the same, relative to wages, as in the past. We also assume that in the future, the real rate of return on pension assets will be about 5 percent, which is based on the real returns on various investment instruments over the last 40 years.

Our findings regarding the required contribution to pension funds on an ongoing basis were, however, extremely sensitive to assumptions about the future rate of return on invested pension funds. Some economists and financial analysts have expressed concern that returns in the future may not be quite as high as those in the past. Future investment returns may not match past returns because, for example, slower labor force growth may lead to slower economic growth, which may, in turn, reduce investment returns. Also, pension managers may choose to invest in less risky, lower-return investments in the future. If future rates of return are more or less in line with historic experience, then our simulation should provide a reasonable estimate of the contribution rates that will be needed in the future. But if future rates of return decline, then contribution rates would need to be higher than 9.3 percent of salaries, as indicated by our base case simulation results. (See table 4.) Moreover, the results for individual state and local governments may vary substantially.

Retiree Health Care Costs Could More than Double as a Percentage of Salaries over the Next Several Decades

Our simulation indicates that projected costs for retiree health benefits, while not as large a component of state and local government budgets as pensions, will more than double as a percentage of salaries over the next several decades, if these costs continue to be funded on a pay-as-you-go basis. In 2006, these costs amounted to approximately 2.0 percent of salaries, but according to our simulation, by 2050, they will grow to 5.0 percent of salaries—a 150 percent increase. The key reason for this substantial increase is the more general rise in health care costs, which, if left unconstrained, will continue to cause costs to rise as a percentage of salaries.

As with the projections of necessary pension contributions, our estimates of retiree health benefit costs are also dependent on certain assumptions, and are particularly sensitive to assumptions about the growth in health care costs. For example, on the basis of research and discussions with experts, we assumed that health care costs would grow at a higher rate than the growth in the nation’s gross domestic product (GDP). If health care costs were to rise only at the same rate as GDP, then by 2050, our projected costs would grow only from 2.0 percent to 2.9 percent of salaries, instead of 5.0 percent. Also, because our model is based on data that did not incorporate possible savings attributable to the Medicare Part D drug subsidy that began in 2006, the estimates may slightly overstate retiree health costs. However, if health care costs were to rise more rapidly than they have over the past 35 years, then the cost of retiree health benefits would exceed our projected costs of 5.0 percent of salaries. (See table 5.)

State and Local Governments Generally Have Strategies to Manage Costs for Their Future Pension Commitments

State and local governments typically set aside funds to finance the cost of future pension obligations and use a variety of strategies to keep the funding status of their plans on track. Funding status is a measure that captures a government’s ongoing effort at one point in time to prefund its future pension liability, generally expressed as the ratio of assets to liabilities (also referred to as the funded ratio). Assessing the funding status of public sector pension plans provides a second perspective on the fiscal outlook of state and local government efforts to fund future pension benefits. According NASRA’s Public Fund Survey as of 2007, the most recent reports from 126 of the largest state and local pension plans in the country indicate that over three-fifths of the plans were at least 80 percent funded—a level generally viewed as being acceptable to support future pension costs. However, funding levels across the different plans ranged from about 32 to 113 percent. (See fig. 5.) Those state and local governments with plans that are funded below acceptable levels may face tough choices in the future between the need to raise taxes, cut spending, or reduce benefits in order to meet their obligations.

A primary way state and local governments keep the funding status of their pension funds on track is to make their actuarially required contributions. There are three sources of revenues for pension benefits: investment earnings, employee contributions, and employer contributions. Investment earnings provide the major source of funding (see fig. 6). The amount that employees are required to contribute is generally fixed by state statute as a percentage of salary, while state and local governments determine the level of employer contributions based on their plans’ funding status—that is, the extent to which liabilities already accrued are funded. Actuaries calculate the contribution amount needed to cover the liability that accrues each year and to pay an installment on any unfunded liability. If a plan sponsor (that is, a state or local government employer) is making these actuarially required contributions, the plan can have a funded ratio below 100 percent yet still be on track toward full actuarial funding.

Governments use various strategies to help them make their actuarially required pension fund contributions. One strategy that governments use to lessen the volatility of fluctuations in their actuarially required contribution is to average the value of plan assets over a number of years (referred to as “smoothing”). For example between 1999 and 2005, California’s contribution rate for one of CalPERS’ pension plans ranged from 1.5 percent of salaries to 17 percent of salaries. In 2005, California began using smoothing techniques, and the contribution rate over the last 2 years changed only slightly—from 15.9 percent of salaries in 2006 to an estimated 15.7 percent in 2007.

Another strategy government sponsors use to control their pension fund contribution rates is to implement new, less costly benefit levels for newly hired employees. Plan sponsors create a new “tier,” with different benefits, for all employees hired after the date the new tier goes into effect. For example, New York has four tiers in its State and Local Retirement System, based on an employee’s occupation and date of hire. General employees in tier 1 (hired before July 1, 1973) can retire at age 55 after 20 years of service with no reduction for early retirement. However, general employees in tier 3 (hired between July 26, 1973, and September 1, 1983) must be age 62 with 5 years of service or age 55 with 30 years of service to retire with no reduction in benefit.

In addition to creating new tiers within the same pension plan, government sponsors can also lower costs by adopting entirely new plans for future hires. For example, Alaska recently switched from its previous defined benefit plans to defined contribution plans for all general public employees and teachers hired on or after July 1, 2006. According to the state’s 2006 comprehensive annual financial report, the new pension system was adopted to help stabilize contribution rates for all public employers within the state. Also, in 2003, Oregon adopted a new program with both a defined benefit and a defined contribution component as its primary plan for public employees. Under the new program, Oregon continues to provide a defined benefit funded by employer contributions (with a lower benefit formula for new employees), while the employees’ contributions are now placed in individual accounts with no state matching (the defined contribution component). Oregon officials estimate that its pension reforms save public employers over $400 million per year.

Yet another strategy plan sponsors use to manage their costs is to seek higher contribution rates from its employees. For example, in 2005, Louisiana enacted legislation to raise the employee contribution rate for general state employees participating in the State Employees’ Retirement System hired on or after July 1, 2006, from 7.5 to 8.0 percent.

Finally, another strategy that some plan sponsors have used as part of an overall strategy for managing pension costs is to issue bonds to reduce their unfunded actuarial liabilities. If the interest rate on the bond is less than the rate of return earned on pension assets, sponsors can achieve some savings. For example, in 2005, Detroit issued $1.44 billion in bonds to pay down the unfunded accrued actuarial liabilities of its two retirement systems. Similarly, Oregon recently issued pension obligation bonds to help reduce its employer contribution rate for the Public Employees Retirement System. According to officials from Oregon’s Legislative Fiscal Office, by issuing the pension bonds, they were paying a lower interest rate on the debt service for the bonds (about 5.75 percent) than they were currently earning on the bond proceeds. OPERS officials said that earnings on the bond proceeds have averaged over 15 percent over the last 4 years. However, it should be noted that issuing bonds to make the employer contribution increases the government’s overall exposure to financial risks to the extent that the bond proceeds are invested in equities or highly leveraged portfolios for returns to exceed the borrowing costs. Also, if rates of return were to move lower than the bond rates, state and local governments would no longer realize an advantage to having issued the bonds, because the rate they could earn on the proceeds may no longer cover the debt service costs.

Failure to Maintain Acceptable Funding Levels May Place Future Taxpayers and/or Beneficiaries at Risk

Public pension plan funding levels are sensitive to a variety of external influences, such as the rate of return on the funds’ investments, the annual stream of contributions to the fund, and changes to the levels of benefits that ultimately affect future liabilities. Although strategies are being used to keep the funding of most plans on track, we found some notable exceptions where the failure to use such strategies caused the funding status to drop significantly. Over time, state and local governments could be faced with the need to raise taxes, cut spending, or reduce benefits in order to meet their obligations.

As investment earnings are the major source of pension funding, timely payment of contributions is key to maximizing the compound interest earned. However, sometimes a combination of factors makes it difficult for state and local governments to make their actuarially required contribution, and funding levels can drop. For instance, the sharp and prolonged decline in the stock market that occurred in the early 2000s reduced the value of many plans’ assets and increased the amount many states and local governments needed to contribute to remain on track toward full funding. Furthermore, to the extent state and local governments experience slower economic growth, revenues might not keep up with expenditures, making it difficult for the governments to meet their funding commitments for pensions. For example, from 2001 to 2007, Michigan’s contribution rate for the State Employees’ Retirement System (MSERS) dramatically increased—from 4.7 percent to 18.1 percent of payroll. During this period of slow revenue growth, Michigan used money transferred from a pension fund subaccount to supplement the amount it contributed to MSERS to make its full actuarially required contribution.

Even so, from 2002 through 2005, MSERS’s funded ratio dropped steadily from 98.7 percent to 79.8 percent.

In some cases, employers fell short of making their actuarially required contributions at the same time that they adopted significant increases in pension benefits for their employees, and did so for years. For example, a New Jersey state treasury department official told us that in 1997, the state viewed the status of its pension funds as “overfunded,” and began substituting “excess” pension assets for their actuarially required contributions. The state skipped payments to the retirement plans over a 7-year period, totaling $8 billion. While in this “overfunded” position, the state also approved costly benefit enhancements and early retirement packages. According to the official, as a result of these enhancements and less than prudent funding arrangements, compounded by the downturn in the market conditions beginning in 2001, the funded ratios of several New Jersey pension plans fell below acceptable levels. For instance, since 1999, the funded ratio of New Jersey’s Public Employees’ Retirement System declined from 113.5 to 79.1 percent as of June 30, 2005. Overall, the state now faces an $18.9 billion unfunded liability for all of its retirement plans combined. Similarly, in San Diego, the city did not make its actuarially required contribution to the San Diego City Retirement System by about $80 million from 1999 through 2004. At the same time, the city increased benefits to current employees, and in a litigation settlement, increased benefits to current retirees. As of June 30, 2006, the actuarial valuation report for the system stated that the funding status had dropped from 97.3 percent in 2000 to a low of 65.8 percent in 2004, with an unfunded liability of $1.37 billion. However, as of 2006, the system had regained ground up to 79.9 percent, with an unfunded liability of about $1.0 billion.

Most State and Local Governments Have Yet to Develop Long-Term Strategies for Financing Future Health Care Costs for Retirees

Most state and local governments generally lack long-term strategies to address future health care costs. In addition, many of the governments are still in the process of responding to the new GASB statement calling for valuations of the liability for the future cost of other postemployment benefits (OPEB), including health care benefits for retirees, as the standard is being implemented in phases. Officials for the governments we visited said that once the valuations were completed, they would consider options for addressing these costs, if needed.

Several funding vehicles are available under the federal tax code to help facilitate state and local government efforts to accumulate funds to meet their future health care liabilities. (See table 6.) As noted earlier, of the state and local governments that contribute to retiree health benefits, most treat the cost of the benefits as an operating expense and do not prefund the future obligation. Of the states that provide an explicit contribution to the premiums for retiree health coverage, it has been reported that 13 partially prefund their future health care costs. But these prefunding efforts have been slow to get started. For example, in 1989, the Connecticut Teacher’s Retirement System created a Health Insurance Premium Account, using a 1 percent of salary contribution from active teachers to fund health benefits for retirees. The fund was facing insolvency by 1999. To address the shortfall, in 2004, Connecticut increased active teachers’ contributions to the fund from 1 percent to 1.25 percent of salary. In Michigan, state budget officials said that they would like to prefund retiree health care benefits for state employees, but other state priorities have prevented them from doing so. However, a fund was recently set up for local employees in Michigan. In 2004, the Municipal Employees’ Retirement System of Michigan created a Retiree Health Funding Vehicle to allow municipalities to contribute to a trust fund for retiree health benefits. As of September 2007, system officials reported that 55 employers were participating in the program, and that the fund had over $95 million available for retiree health care costs. More recently, in March 2007, CalPERS launched the California Employers’ Retiree Benefit Trust Fund, an investment vehicle that allows public employers that contract with CalPERS for employee health benefits to prefund their future OPEB costs.

At the sites we visited, state and local government officials we spoke with said that the rising cost of health care was one of the biggest fiscal challenges confronting them in the near term. They said the drivers of their health care costs mirror those of the nation as a whole: rapidly escalating costs for prescription drugs, medical care, and hospital care. Further, they noted that the health care industry’s practice of shifting costs not paid by the Medicare and Medicaid programs to employers is causing employers’ costs for health insurance premiums to rise even faster. In addition to the costs associated with providing health care benefits for their active and retired workers, states also must contend with rising costs for their uninsured residents and federal changes to Medicaid. Officials who administer health benefits for California state and local governments noted that much of the cost increase for the health care market is due to health care inflation and demographic factors that are outside of their control. At the same time, with respect to health care, there are also factors that are within their control to help manage these costs, such as their program’s benefit design and eligibility criteria.

Aside from prefunding through establishment of a trust, several states have taken steps to address escalating costs of retiree health benefits by negotiating lower premium costs and/or reducing benefits. For example, as in the private sector, some public employers have negotiated lower premiums by increasing the deductibles, co-payments, and coinsurance that employees must pay out of pocket. In addition, several states have introduced requirements that employees must work a certain number of years before becoming eligible for various levels of retiree health benefits. California introduced such vesting requirements for partially paid retiree health benefits for workers hired in 1985 and thereafter; and Michigan introduced similar requirements in 1997. In 2006, North Carolina enacted legislation requiring that employees hired after February 1, 2007, must have 20 years of service to be eligible for retiree health benefits. Other states have reduced the benefits provided and/or instituted health savings accounts. Oregon has discontinued its retiree health care support for those hired since 2003. Also, to reduce state costs, Utah recently discontinued its policy of providing retirees a month of health insurance for every day of unused sick leave (a policy initiated when health insurance costs were substantially lower). Instead, Utah now deposits wage amounts equal to unused sick leave into health savings accounts that retirees can use to purchase their own health insurance.

State and local governments indicated that they may take a range of actions in response to the new GASB standards. At the locations we visited, all the officials we spoke with said that their governments were planning to comply with the new standards and report their liability for retiree health benefits. However, while various options were being discussed, none of the officials we spoke with said that their governments had developed plans to address their unfunded liabilities. In California, for example, the governor had established a 12-member Public Employee Post-Employment Benefits Commission to propose ways to address the state's growing postemployment benefits and retiree health care obligations, with a recommended plan due by January 1, 2008. According to Oregon retirement system officials, their state had also formed a workgroup to study options related to GASB 45. In Detroit, the city budget director said that city officials would wait to find out if any practices emerge that gain wide support before deciding their next steps. San Francisco is also taking a wait-and-see approach with respect to devising a strategy for dealing with the unfunded liability. A senior city official said that the city wants to have several years’ experience estimating the unfunded liability to feel confident that the estimates are valid before negotiating any remedies with the unions. Otherwise, he noted, if the costs end up being greater than anticipated, it could be difficult to reopen negotiations with the unions and the city would then have to deal with the greater costs on its own.

Concluding Observations

Across the state and local government sector, the ability to maintain current levels of public sector retiree benefits will depend, in large part, on the nature and extent of the fiscal challenges these governments face in the years ahead. While public sector workers have thus far been relatively shielded from many of the changes that have occurred in the private sector, provisions that lend stability for public sector pensions and retiree health benefits are subject to change. Pension benefits are often protected by state constitutions and city charters, but these protections can be amended if voters feel the need to rebalance priorities as fiscal pressures increase. In fact, our recent work on state and local government fiscal conditions indicated that persistent fiscal challenges will likely emerge within the next decade. Retiree health benefits are generally easier to change simply through the annual budget process.

As we heard from some state officials, the impetus for changing retiree benefits often surfaces when the projected costs for these benefits starts to grow faster than expected. When this occurs, governments may eventually have little choice but to reduce future benefits or raise taxes. One way state and local governments can address unexpected gaps in funding is to prefund the promised benefits. Even though our simulation suggests that the sector as a whole is generally on track with funding its pension obligations, continued diligence will be necessary to ensure that funding is adequate in the future. When state and local governments take breaks from their regular contribution schedules, such as when investment returns are high, they may be putting their ability to pay future retiree benefits at risk. According to our simulation for state and local governments, to ensure that they have the resources they need to meet future costs, they will have to maintain (and as a sector, increase slightly) their contributions to their pension funds. Moreover, our long-term projections indicate that if future returns turn out lower than expected, governments may need to ratchet up their contributions substantially.

The provision of retiree health benefits presents an entirely different scenario. Given that our simulations show that over the next several decades, the cost of providing health care benefits for public sector retirees will more than double as a share of salaries, state and local governments may find it difficult to maintain current benefits levels. It is clear from our model and from discussions with budget officials that health care inflation is driving these future costs. Budget officials with whom we spoke said that they will face challenges financing future health care benefits in general—including Medicaid benefits and health benefits for active government employees, not just for their retirees. As state and local governments begin to comply with GASB reporting standards, information about the future costs of the retiree health benefits will become more transparent. Policy makers, voters, and beneficiaries can use this new information to begin a debate on ways to control escalating health care costs, the appropriate level of future benefits to be provided to public sector retirees, and who should pay for them.

Agency Comments

We provided officials from the Internal Revenue Service with a draft of this report. These officials provided us with informal technical comments that we have incorporated in the report, where appropriate. In addition, we provided GASB officials and officials from the states and cities we visited with portions of the draft report that addressed aspects of the pension funds and retiree health benefit programs in their jurisdictions. They, too, provided us with comments that we incorporated in this report, where appropriate. Finally, we also benefited from comments provided by two external reviewers knowledgeable about the subject area.

As agreed with your office, unless you publicly announce the contents of this report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies of this report to relevant congressional committees, the Acting Commissioner of Internal Revenue, and other interested parties. We will also make copies available to others upon request. In addition, the report will be available at no charge on the GAO web site at http://www.gao.gov. If you or your staff have any questions concerning this report, please call me at (202) 512-7215. Key contributors are listed in appendix V.

Appendix I: Organizations, Associations, and State and Local Agencies GAO Contacted

National Level

State and Local Level

California State

California Local

Michigan State

Michigan Local

Oregon State

Appendix II: Technical Background on Pension and Retiree Health Care Simulations

One of the primary costs of state and local governments is the salaries and benefits of employees, and part of those costs are the pensions and other postemployment benefits of retirees of state and local governments. This appendix provides information on the development of simulations of future pension and health care costs for retirees of state and local governments. These analyses are part of a larger GAO effort that examines the potential fiscal condition of the state and local sector for many years into the future, and are an aggregate analysis of the entire state and local sector—no individual governments are examined. This appendix provides information on (1) the development of several key demographic and economic factors such as future employment, retirement, and wages for the state and local workforce that are necessary for the simulations of future pension and retiree health care costs; (2) how we project the necessary contribution rate to pension funds of state and local governments; and (3) how we project the future yearly pay-as-you-go costs of retiree health benefits.

Development of Factors for Employment, Retirement, Wages, and Benefits

Key underlying information for the pension and health care cost simulations relates to future levels of employment, retirees, and wages. In particular, to understand the postretirement promises that the sector has and will continue to make, we need to project the number of employees and retirees in each future year, as well as the dollar value of pension benefits that will be earned and the extent to which those benefits will be funded through employee contributions to pension funds. These analyses relate to defined benefit plans only. We project the following key factors for each year during the simulation time frame: (1) the number of state and local government employees, (2) the state and local government real wages, (3) the number of pension beneficiaries, (4) average real benefits per beneficiary, and (5) yearly employee contributions to state and local government pension plans. 1. Steps to Project Future Employment Levels Future growth in the number of state and local government retirees— many of whom will be entitled to pension and health care benefits—is largely driven by the size of the workforce in earlier years. To project the level of employment in each future year, we assume that state and local employment grows at the same rate as total population under the intermediate assumptions of the Old-Age and Survivors Insurance and Disability Insurance (OASDI) Trustees. The implication of these assumptions is that the ratio of state and local employment to the total population remains constant. The Trustees assume that population growth gradually declines from 0.8 percent during the next decade to a steady rate of 0.3 percent per year beginning in 2044. Accordingly, state and local government employment displays the same pattern in our projections. The relationship used to project total state and local government employment (egslall) is shown in equation 1: np is population in the indicated year egslall is the number of state and local employees in the indicated year 2. Steps to Project Future State and Local Government Real Wage The pension benefits that employees become entitled to are a function of the wages they earned during their working years. As described below, we developed a rolling average real wage index for different cohorts of workers to estimate the average real pension benefit of the recipient pool in each future year.

First, we assume that the real employment cost index for the state and local sector (jecistlcr) will grow at a rate equal to the difference between the Congressional Budget Office (CBO) assumptions for the growth in the employment cost index (ECI) for private sector wages and salaries and inflation as measured by the consumer price index for all urban consumers (CPIU), as published in the January 2007 CBO Budget and Economic Outlook. These data are available through 2017. For later years, we hold the growth rate constant at the rate that CBO assumes between 2016 and 2017.

CBO’s assumptions for growth in the ECI and the CPIU are 3.3 percent and 2.2 percent per year respectively, implying a real wage growth of 1.1 percent per year during the simulation time frame. Since the analysis is scaled to the real wage bill over the simulation time frame, we calculate that aggregate amount for each future year. As shown in equation 2, aggregate real wages are assumed to grow at the combined rate of growth in the real employment cost index (jecistlcr) and employment (egslall). where: jecistler is the real employment cost index in a given year gsclwageallr is the real wage bill of the state and local sector As noted previously, population growth slows from 0.8 percent in the upcoming decade to a steady rate of 0.3 percent after 2044. Because population growth drives employment in our projections, this slowdown implies that aggregate real wage growth slows from 1.9 percent per year to a steady long-run rate of 1.4 percent. 3. Steps to Project Growth in the Number of Pension Beneficiaries While actuaries use detailed information and assumptions regarding the age, earnings, service records, and mortality rates applicable to the entities they evaluate, information in such detail is not available for the state and local government sector as a whole. This lack of detailed data necessitated the development of a method of projecting aggregate state and local beneficiary growth that is much simpler than the methods that actuaries employ.

The method we developed reflects the logic that each year’s growth in the number of beneficiaries is linked to past growth in the number of employees. Total state and local government employment from 1929 through 2005 was obtained from the National Income and Product Accounts (NIPA) tables 6.4a, b, c, and d. The Census Bureau provided a continuous series of data on the number of state and local pension beneficiaries from 1992 through 2005 during which continuous observations were available.

Cyclical swings in the employment series were removed using a Hodrick- Prescott filter. Then, both the employment and beneficiary series were logged and first-differenced, transforming the data from levels to proportionate changes. We developed a routine that searched across 45 years of lagged employment growth to select a set of weights for the years in which past employment growth best explained a given year’s growth in beneficiaries. The routine included the restrictions that the weights must be non-negative and sum to 1. The method produced the relationship shown in equation 3, where beneficiaries is equal to the state and local pension benefit recipients, eglsall is state and local employees, and the coefficients are weights, derived from the estimation, that reflect the contribution of a particular past year’s employment change in explaining a given year’s change in retirees. In particular, the estimated relationship suggests that beneficiary growth in a given year is largely determined by employment growth 34, 21, 22, and 23 years prior to the given period. This pattern appears consistent with the categories of workers that the sector employs. Many fire and police positions, for example, offer faster pension accrual or early retirement due to the physical demands and risks of the work, while many other state and local workers have longer careers. ) d.

560 d. ) ) log d. d. ) ) where: beneficiaries is the number of retirees receiving pensions in the indicated year. 4. Steps to Project Real Benefits per Beneficiary While, in the long run, the average real benefit level should grow at the same rate as real wages—that is, at 1.1 percent per year—in the first decades of the projection the average real benefit will be affected by real wage changes that occurred before the projection period. Accordingly, we developed a relationship that reflects how the average real benefit level will change over time according to changes in the number and average real benefit level of three subsets of the retiree population: (1) new retirees entering the beneficiary pool, (2) new decedents leaving the pool, and (3) the majority of the previous year’s retirees who continue to receive benefits during the given period. Each group’s real benefit is linked to the real wage level in the average year of retirement for that group. Thus, to determine the average real benefit overall in any future year, we need weights and real wage indexes for the three groups that can be used to develop a rolling average real wage of the recipient pool in each future year.

Equation 3 above projects the percentage change in the total number of beneficiaries between two successive years, but this difference is actually composed of two elements: the percentage change in new retirees minus the percentage change in decedents. Therefore, to determine the weight for new retirees, we also need an estimate of the number of new decedents in each year. In order to estimate a “death rate,” we utilize Social Security Administration data on terminated benefits and total OASDI recipients, which excludes disability recipients. Our estimate of the “death rate” for the forecast period is assumed to be equal to the number of terminated Social Security recipients divided by the total number of OASDI recipients in 2003 (3.67 percent). This analysis then enables a derivation of weights for each of the three groups as follows: weight for new retirees: the number of beneficiaries this year, less the number of beneficiaries last year who are still alive, divided by the number of beneficiaries this year ( ) weight for continuing recipients is equal to last year’s beneficiaries divided by this year’s beneficiaries ( ) weight for the deceased is the death rate (3.67 percent) multiplied by last year’s beneficiaries divided by this year’s beneficiaries ( )

Mathematically the weights are calculated as follows: 0367 .

Next, we need to identify the real employment cost index that determines the real benefit level for each of these three groups. We do so by estimating the average retirement year applicable to each of the three groups. First, we assume the average retirement age is 60. We developed this estimate based on an analysis of the March Supplement to the Current Population Survey (CPS) for 2005-2006, which indicated that the average state and local government retiree had retired at 60 years of age. We also analyzed detailed data on the age distribution of OASDI recipients provided by the Office of the Actuary of the Social Security Administration. These data showed that the average age for new decedents is about 81 during the initial years of OASDI’s simulations, and we thus used a 21-year lag—81 minus 60—to estimate the real wage applicable to this group. For the newly retired group, we use the current year’s employment cost index. For the remaining retirees—those already retired and remaining in the group—we use information from CPS for 2005 that indicated that the average age of a retired state or local retiree was 68. Therefore, we apply an 8-year lag to the real employment cost index to determine real benefits of this group.

Using the weights shown in equation 4a and the appropriate periods’ values for the real employment cost index (jecistlcr), the rolling average jecistlcr is constructed as follows: where: wjecistlcr is the rolling average employment cost index for retirees in year t.

This equation approximates the average employment cost index at retirement of the retiree pool in a given year. To do this we take the employment cost index 8 years prior to the given year and weight this by the portion of the total retirees in the given year who were already retired last year. We add to this a factor to account for new retirees who have a higher employment cost index because they just retired. Finally, because some of the retirees from last year have deceased, the first factor overstates the number of retirees, and therefore we subtract a factor for those who have died, weighted by the cost index 21 years ago, when, on average, this group entered retirement.

Projections of Necessary Contributions to Pension Funds for State and Local Government Sector

The purpose of the pension simulations is to estimate the level of contribution that state and local governments would need to make each year going forward to ensure that their pension systems are fully funded on an ongoing basis. In the previous section we calculated a variety of critical demographic and economic factors that are necessary for this analysis. In the following section, we describe our basic formulation and sensitivity analysis for employer contributions to pension funds.

Basic Formulation of Necessary Steady Level of Employer Contributions

The necessary contribution rate can now be derived according to a simple concept: the present value of future pension benefits minus the sum of 2006 pension fund financial assets and the present value of employee contributions, all divided by the present value of future wages. The starting value of pension assets for state and local government pension plans—approximately $2.979 trillion in 2006—is obtained from the Federal Reserve Flow of Funds Accounts. Future wages are simulated within our model. The logic of this estimation is that the benefits that are promised to employees (including liabilities already made and promises that will be made in the future) must be paid from three sources: existing pension funds in 2006, contributions that employees will continue to make to those funds in the future, and contributions that employers will make to those funds in the future.

Our analysis estimates the steady level of employer contribution, relative to wages, that would need to be made in every year between 2006 and 2050 to fully fund promised pension benefits. Although we are only interested in developing necessary contribution rates over the simulation time frame—that is, until 2050—we actually have to derive the contribution rate for a longer time frame in order to find the steady state level of necessary contributions. This longer time frame is required because the estimated contribution rate increases as the projection horizon increases and eventually converges in a steady state. If the projection period is of insufficient length, the steady level of contribution is not attained and the contribution rate necessary is understated. As such, all of the flows in the calculation extend 400 years into the future. We use a real rate of return on pension assets of 5.0 percent (rpenreal) to discount future flows when deriving present values. Equation 6 shows mathematically the estimate of the employer contribution rate. ) lr ) where: rpenreal is the real rate of return on pension assets Applying this analysis, we found that in aggregate, state and local government contributions to pension funds would need to increase by less than half a percent to fund, on an ongoing basis, the pension liabilities they have and will continue to accrue. In particular, the 2006 pension contributions for the sector amounted to 9 percent of wages, and our base case estimate is that the level would need to be 9.3 percent each year to fully fund pensions.

Sensitivity Analyses of Necessary Steady Level of Employer Contributions

We altered certain of our assumptions to examine the sensitivity of our model results. We found that the model results are highly sensitive to our assumptions regarding the expected real yield. For our primary simulations, we based the expected real yield on actual returns on various investment instruments over the last 40 years as well as the disposition of the portfolio of assets held by the sector over the last 10 years. This generated a real yield of 5 percent. But some pension experts have expressed concern that returns on equities in the future may not be quite as high as those in the past. In fact, some analysts believe that an analysis of this type should consider only “riskless returns.” Under such an approach we would assume that all pension funds are invested in very safe financial instruments such as government bonds. We estimated the necessary steady level of employer contributions holding all elements in the model stable except the real expected yield. In particular, we analyzed a 4 percent real yield and a 3 percent real yield—that latter of which is a reasonable proxy for a riskless rate of return. We found that if returns were only 4 percent, the necessary contribution rate would rise to 13.9 percent, and if we used a risk-free return of roughly 3 percent, the necessary contribution rates would need to be much higher—nearly 18.6 percent of wages. On the other hand, if real returns were higher than our base case level—perhaps 6 percent—the necessary contribution rate would only be only 5.0 percent, much lower than their current contribution rate.

Projections of Retiree Health Benefit Costs for State and Local Retirees

Most state and local government pay for retiree health benefits on a pay- as-you-go basis—that is, these benefits are generally not prefunded. We made projections of the pay-as-you-go cost of retiree health benefits for the sector, as a percentage of wages, in each year until 2050. To estimate the costs of retiree health benefits in future years, we made many of the same assumptions as for the pension analysis. In particular, we use the same method to develop projections of employment in the sector, the number of retirees, and the level of wages. An additional assumption for the health care analysis is that in future years, the same percentage of retirees of state and local governments will be enrolled in health insurance through their previous employer as we observe were enrolled in 2004—the most recent year for which data were available. To develop this measure, we use data from two sources. The Census Bureau’s State and Local Government Employee-Retirement System survey provided data on the total number of state and local retirees, and the Health and Human Services Department’s Medical Expenditure Panel Survey provided data on state and local government retirees who are covered by prior employer- provided health insurance. On the basis of these data sources, we found that the share of retirees with health insurance is 42 percent, and we hold this constant through the simulations. From the latter data source we also obtain the most recent year state and local government spending on health care for retirees.

One of the most central assumptions we must make to estimate the pay-as- you-go health care costs for retirees in future years is the cost growth of health insurance. The cost of health care has been growing faster than gross domestic product (GDP) for many years. As such, we developed assumptions about how much faster health care costs would grow, relative to the economy, in future years. The extent to which the per person cost of health care is expected to grow beyond GDP per capita is called the “excess cost factor.” We developed these estimates based on our own research and discussions with experts. In particular, we assume that the excess cost factor averages 1.4 percentage points per year through 2035, and then begins to decline, reaching 0.6 percentage points by 2050.

Using these assumptions, we develop a growth projection for the per capita costs of health care for retirees each year through 2050. The following equation shows that health care costs are assumed to grow with GDP per capita plus this excess cost factor. 7) (retgslchlth / rethlth ) = (retgslchlth (-1) / rethlth (-1)) * (hlthnheexcgr) * ((gdp / np) / (gdp (-1) / np (-1))) retgslchlth is the aggregate health care cost for the sector rethlth is the number of retirees with health insurance hlthnheexcgr is the excess cost factor for health insurance We found that the projected costs for retiree health benefits, while not a large component of state budgets, will more than double as a percentage of wages over the next several decades. In 2006, these costs amounted to approximately 2.0 percent of wages, and we project that by 2050, they will grow to nearly 5.0 percent of wages—a 150 percent increase. As with the projections of necessary pension contributions, our estimates of retiree health benefit costs are highly sensitive to certain of our assumptions. In particular, the assumptions regarding health care cost growth are critical. For example, if health costs were to only rise at the rate of GDP per capita, these costs would only grow, as a percentage of wages, from 2 percent today to 2.9 percent by 2050. Conversely, if health costs were to grow by twice the rate we assume in the base case, these costs, as a percentage of wages, would constitute 8.4 percent by 2050.

Appendix III: State and Local Government Retiree Benefit Plans in California, Michigan, and Oregon

State and local government pension plans

Approximately 81% of all state and local workers statewideenforcement, correctional officers, and firefighters) sworn correctional employees)

CalPERS health care program provides coverage to state employees, retirees, and their families, by law. In addition, most local public agencies and school employers can contract to have CalPERS provide these benefits to their employees (whether or not they contract for CalPERS retirement program). As of 2006, 1,137 entities participated in the program. Health plans offered, covered benefits, monthly rates, and co-payments are determined by the CalPERS Board, which reviews health plan contracts annually. Employers make a contribution toward the member’s monthly premiums, with members covering the difference between the employer’s contribution and the actual premium amount. The employer contribution rate is normally established through collective bargaining agreements. (CalPERS health care program—see above)

Number of employers Retiree health benefits (CalPERS health care program—see above) (closed to legislators elected on or after 11/7/90) (Not eligible for CalPERS health care program)

According to a report from the Legislative Analyst’s Office, schools and community college districts vary widely in the health benefits they provide their retirees. For example, in 2004 114 contracted with CalPERS for employee and retiree health coverage; about 265 purchased coverage through 11 benefit trusts, which allow multiple districts to join together to achieve economies of scale; 250 participate in the Self-Insured Schools of California joint powers agency, administered by Kern County; and the remaining districts either secure health benefits on their own or do not provide these benefits.

The University of California offers continuation of medical, dental, and legal insurance to eligible members who elect monthly retirement income. Health and welfare benefits are not accrued or vested benefit entitlements. The University of California’s contribution toward the cost of medical and dental coverage is determined by the University of California and may change or stop altogether. (If a retiree elects a lump-sum cashout, all rights to continue retiree medical, dental, and legal benefits are waived.)

Approximately 19% of all state and local workers statewide.

A September 2005 survey by the California State Association of Counties found that of the 49 counties responding (of 58 total), including 8 of the 10 largest counties, 48 reported that retired employees are eligible for some type of health benefits.

General (all others)

Retirees are entitled to continue membership in the city’s Health Services System. Any premiums payable for coverage may be deducted from the retirement payment.

Percentage participating Social Security (2004)

State and local government pension plans Pension plans, by level of administration Occupations covered Approximately 87% of all state and local workers statewide.

1 Michigan’s Department of Civil Service, Employee Benefits Division, administers health insurance contracts for both active and retired state employees. For those in the defined benefit retirement plan (i.e., those hired before 3/31/97), current health plan premiums are 95% state-paid for retirees under age 65, and 100% state-paid for Medicare-eligible retirees. Dental and vision premiums are 90% state-paid. For those in the defined contribution retirement plan, there is a 10-year vesting requirement with an employer contribution of 3% for each year of service, capped at 90%.

Pension plans, by level of administration Occupations covered 716 Retirees have the option of health coverage, which is funded on a cash disbursement basis by the employers. The system has contracted to provide the comprehensive group medical, hearing, dental, and vision coverage for retirees and beneficiaries. A significant portion of the premium is paid by the system, with the balance deducted from the monthly pension. (Pension recipients generally are eligible for fully paid master health plan coverage and 90% paid dental, vision, and hearing plan coverage.) 1 Under the Michigan State Police Retirement Act, all retirees have the option of continuing health, dental, and vision coverage. Retirees with this coverage contribute 5%, 10%, and 10% of the monthly premium amount for the health, dental, and vision coverage, respectively. The state funds 95% of the health and 90% of the dental and vision insurance. 1 Under state law, all retirees and their dependents and survivors receive health, dental, and vision insurance coverage. 159 The Supreme Court Justice, Court of Appeals, or elected officials may enroll in the state health plan when they retire and their premium rate is subsidized. All other judges may enroll in the state health plan if they wish to, but they must pay the entire premium cost. 685 MERS Premier Health provides group health coverage for public employers including employee and retiree medical, prescription drug, dental and vision benefits. (MERS also offers a Group Life and Disability Insurance Program.)

The city will continue to pay the cost of hospitalization insurance, in accordance with collective bargaining agreements and city council resolutions in effect at the time of retirement. After age 65, if you are eligible for Medicare, the city will provide a supplement to your Medicare benefits. According to city officials, in the early 1980s, the city instituted a cost-sharing formula with general city employees and retirees for the cost of hospitalization insurance. The formula included multiple tiers reflecting various collective bargaining agreements and city council resolutions. In the last round of contract negotiations, however, the cost- sharing formula for general city employees was modified to an 80% city, 20% employee/retiree split.

Percentage participating Social Security (2004)

Approximately 99% of all state and local workers statewide.

School district and community college employees medical and hospital insurance on behalf of retired members. Members and their dependents are eligible for OPERS health care coverage if the member is receiving a retirement allowance or benefit under the system. political subdivisions (optional, but irrevocable once elected)

Approximately 1% of all state and local workers statewide.

U.S. Bureau of Labor Statistics Data. State and Area Employment, Hours, and Earnings. Not seasonally adjusted. State and Local Governments, 2006.

Barry T. Hirsch and David A. Macpherson. Union Memerhip nd Erning D Book. The Bureau of National Affairs, Inc., Washington, D.C.: 2006, Table 5a.

U.S. Census Bureau Data. State and Local Governments Employee-Retirement Systems. 2005 data file. tem of Ste nd Locl Government: 2002 (2002 Census of Governments, Volume 4, Number 6, GC02(4)-6) U.S. Government Printing Office, Washington, D.C.: December 2004, Table 10.

As we went to press, the most recent annual report available online for the Detroit General Retirement System was for 2005.

Appendix IV: GASB Statements for Pensions and OPEB

The Governmental Accounting Standards Board (GASB) is an independent, private sector, not-for-profit organization that establishes standards of financial accounting and reporting for U.S. state and local governments. Governments and the accounting industry recognize the GASB as the official source of generally accepted accounting principles (GAAP) for state and local governments. GASB standards are intended to result in useful information for users of financial reports, and to guide and educate the public—including issuers, auditors, and users—about the implications of those financial reports. Standards relevant to state and local government retiree benefits are listed below.

Appendix V: GAO Contacts and Staff Acknowledgments

GAO Contacts

Staff Acknowledgments

In addition to the contact named above, Bill J. Keller, Assistant Director; Amy D. Abramowitz; Joseph A. Applebaum; Susan C. Bernstein; Gregory J. Giusto; Richard S. Krashevski; Bryan G. Rogowski; Jeremy S. Schwartz; Margie K. Shields; Jacquelyn D. Stewart; Craig H. Winslow; and Walter K. Vance made important contributions to this report.

Bibliography

CanagaRetna, Sujit M.. America’s Public Retirement System [Stresses in the System]. The Council of State Governments: October 2004.

Employee Benefit Research Institute. Fundamentals of Employee Benefit Programs, Part Five: Public-Sector Benefits. Chapters 39 through 46. EBRI: Washington, D.C.: 2005.

Legislative Analyst’s Office. Retiree Health Care: A Growing Cost for Government. LAO, Sacramento, California: February 17, 2006.

Mattoon, Richard H. “Issues Facing State and Local Government Pensions.” Federal Reserve Bank of Chicago: Economic Perspectives, third quarter, 2007.

National Conference on Public Employee Retirement Systems. Public Pensions & You. NCPERS, Washington, D.C.: 2006.

Rajnes, David. State and Local Retirement Plans: Innovation and Renovation. (EBRI Issue Brief Number 235) EBRI, Washington, D.C.: July 2001.

Ruppel, Warren. Wiley GAAP for Governments 2007: Interpretation and Application of Generally Accepted Accounting Principles for State and Local Governments. John Wiley and Sons, Inc., Hoboken, New Jersey: February 2007.

Schneider, Marguerite. “The Status of U.S. Public Pension Plans: A Review with Policy Considerations.” Review of Public Personnel Administration, Vol. 25, No. 2. June 2005. 107-137.

Schneider, Marguerite, and Fariborz Damanpour. “Public Choice Economics and Public Pension Plan Funding: An Empirical Test,” Administration & Society, Vol. 34, No. 1 (March 2002). The article bases its findings on an analysis of data from the PENDAT (pension data) survey data of several hundred pension plans (see Harris listing below).

Surveys and Studies

Brainard, Keith. Public Fund Survey Summary of Findings for FY 2005. NASRA, Georgetown, Texas: September 2006. The source of data for this survey is primarily public retirement system annual financial reports, and also includes actuarial valuations, benefits guides, system Web sites, and input from system representatives. The survey is updated continuously as new data, particularly annual financial reports, become available.

Harris, Jennifer D. 2001 Survey of State and Local Government Employee Retirement Systems Survey Report. Public Pension Coordinating Council: March 2002. This report presents summary statistical analysis of state and local government employee retirement systems surveyed by the Public Pension Coordinating Council in the summer of 2001. The purpose of the survey was to obtain in-depth information about the current practices of public retirement systems regarding their administration, membership, benefits, contributions, funding, and investments. In 2001, 152 public employee retirement systems responded to the council’s survey, representing 263 retirement plans. The data set from this survey is referred to as PENDAT.

Hirsch, Barry T., and David A. Macpherson. Union Membership and Earnings Data Book. The Bureau of National Affairs, Inc., Washington, D.C.: 2006. The Data Book has been published annually since 1994. Each year’s edition includes current earnings and unionization figures based on compilations from the Current Population Survey (CPS), the survey of U.S. households conducted monthly by the U.S. Census Bureau. While data on earnings and unionization at the national level and highly aggregated groups of workers are provided by the Bureau of Labor Statistics, the purpose of the Data Book is to provide these data for states and metropolitan areas, and for workers within narrowly defined industries and occupations.

Kaiser Family Foundation and Health Research and Educational Trust. Employee Health Benefits: 2006 Annual Survey. Kaiser/HRET, Washington, D.C.: 2006. For this survey, telephone interviews were conducted with human resource and benefits managers from January to May 2006, based on a sample of 2,122 employers drawn from a Dun & Bradstreet list of the nation’s private and public employers with three or more workers. The sample included 227 state and local governments. Each employer was asked as many as 400 questions about its largest health plans, including questions on the cost of health insurance, offer rates, coverage, eligibility, health plan choice, enrollment patterns, premiums, employee cost sharing, covered benefits, prescription drug benefits, retiree health benefits, health management programs, and employer opinions.

Mercer. Results of Mercer’s Survey of Governmental Employers on GASB 45. Mercer Health & Benefits LLC: 2006. These results were based on 58 responses received from a survey, sent in May 2006, to state, county and city governments, and to public school boards, colleges, and universities. The survey was a follow-up to the state and local employers with at least 500 employees that had participated in the 2005 National Survey of Employer-Sponsored Health Plans.

Moore, Cynthia L., Nancy H. Aronson, and Annette S. Norsman. Is Your Pension Protected? A Compilation of Constitutional Pension Protections for Public Educators. AARP, Washington, D.C.: 2000. This publication provides a compilation of constitutional pension protections in 50 states, specifically concentrating on retirement systems that serve retired educators. The descriptions were reviewed by AARP and National Retired Teachers Association staffs, including the AARP Office of General Counsel. The constitutional context is current as of July 1998. According to one of the authors, however, although the report was done several years ago, there have been few changes in constitutional pension protections in recent years.

National Association of Government Defined Contribution Administrators, Inc. 2006 Biennial State and Local Government Defined Contribution Plan Survey. NAGDCA, Lexington, Kentucky: 2006. This survey is conducted every 2 years, to obtain specific information on state and local governments’ 457 and 401(k) plans, and beginning with the 2006 survey, on their public 401(a) and 403(b) plans as well. The survey includes defined contribution plans that are the governments’ primary pensions plans, as well as those that are supplemental voluntary plans. In 2006, responses were received with information on a total of 105 state and local defined contribution plans, including 40 state 457 plans, 33 local government 457 plans, 10 state 401(k) plans, 3 local 401(k) plans, 11 state 401(a) plans, 4 local government 401(a) plans, 2 higher education 401(a) plans, 1 state 403(b) plan, and 1 higher education 403(b) plan. According to respondents, these plans held $87.9 billion in assets, received $6.2 billion in annual deferrals, and had approximately 1.6 million active participants in 2005.

National Education Association. Characteristics of Large Public Education Pension Plans. NEA, Washington, D.C.; December 2006. Information for this publication was gathered between July and September 2006, and was based on consolidated annual financial reports, state treasurers’ reports, actuarial valuations, system audits, legislative or plan- related review commissions, plan handbooks and newsletters, departments of human resources’ guidelines for electing trustees, state legislators’ and governors’ Web sites containing information on legislative changes, state or local statutes, and publicly available communications between government officials and plan participants.

Ranade, Neela K. Employer-Sponsored Retiree Health Insurance: An Endangered Benefit? Congressional Research Service, Domestic Social Policy Division, Washington, D.C.: April 13, 2006. This report summarizes the current coverage levels for retiree health insurance for public and private sector retirees. It outlines the provisions that govern employer accounting for postretirement health insurance plans in both the public and private sectors, and describes the public policy options that may be considered by Congress to address the problems created by the erosion of employer-sponsored retiree health insurance plans.

Segal. Results of the Segal Medicare Part D Survey of Public Sector Plans. The Segal Group, Inc., New York, New York: Summer 2006. In May 2006, the Segal Company, in cooperation with the Public Sector HealthCare Roundtable, asked public entities about the actions they were considering for their retiree health care programs as the Medicare Part D program was being implemented. Responses were received from 109 state and local plans.

U.S. Bureau of Labor Statistics. Employee Benefits in State and Local Governments, 1998. (Bulletin 2531) U.S. Department of Labor, Bureau of Labor Statistics, Washington, D.C.: December 2000. This bulletin presents the results of the 1998 Bureau of Labor Statistics Employee Benefits Survey, conducted jointly with the bureau’s Employment Cost Index. It is a survey of the incidence and detailed provisions of selected employee benefit plans in state and local governments. In 1998, the survey provides representative data for 16.5 million employees, and estimates cover all state and local government establishments in the United States. Data were collected from June 1998 to November 1998, from a sample of 1,011 government establishments chosen from unemployment insurance reports. The survey is to be updated again in 2008.

U.S. Census Bureau. Census of Governments. A census of governments is taken at 5-year intervals as required by law under title 13, United States Code, Section 161. The 2002 census, similar to those taken since 1957, covers three major subject fields: government organization, public employment, and government finances. The unique and important nature of public employee retirement system data in the world of government finance requires the Census Bureau to conduct a universe survey each year (see next listing below). Thus, the starting point for this census of governments was the 2001 survey listing, which generated a final universe mail file of approximately 2,670 retirement systems. Results of the 2002 census are summarized in Employee-Retirement Systems of State and Local Governments: 2002 (2002 Census of Governments, Volume 4, Number 6, GC02(4)-6) U.S. Government Printing Office, Washington, D.C.: December 2004.

U.S. Census Bureau. State and Local Governments Employee-Retirement Systems. An annual survey of public employee retirement systems administered by state and local governments throughout the nation. The 2005 State and Local Government Public Employee-Retirement Systems survey covered 2,656 public employee retirement systems for the fiscal years that ended between July 1, 2004, and June 30, 2005.

U.S. Department of Health and Human Services, Agency for Healthcare Research and Quality, Medical Expenditure Panel Survey (MEPS).The Medical Expenditure Panel Survey, which began in 1996, is a set of large- scale surveys of families and individuals, their medical providers (doctors, hospitals, pharmacies, etc.), and employers across the United States. MEPS collects data on the specific health services that Americans use, how frequently they use them, the cost of these services, and how they are paid for, as well as data on the cost, scope, and breadth of health insurance held by and available to U.S. workers. The insurance component of the survey is conducted annually. A nationwide sample of employers, including state and local governments, is specifically designed so that national and state estimates of health insurance offerings can be made each year.

Wisniewski, Stan, and Lorel Wisniewski. State Government Retiree Health Benefits: Current Status and Potential Impact of New Accounting Standards. (Workplace Economics, Inc., #2004-08) AARP, Washington, D.C.: July 2004. This publication is based on information from the Workplace Economics, Inc., proprietary database, developed over 15 years, on benefits provided to state government employees in all 50 states. The database is the product of an annual survey of state governments on their employee benefits as well as an analysis of state employee health insurance plan documents. In addition, data were gathered and analyzed from state governments’ annual financial reports.

Workplace Economics, Inc. 2006 State Employee Benefits Survey. Workplace Economics, Inc., Washington, D.C.: 2006. The information in this report was collected by means of a written survey sent to all 50 states, followed by telephone and e-mail contacts to clarify information, and in some cases by confirmation with official documents or contacts with employee organizations. Because most states offer multiple sets of benefits to different groups or categories of employees, survey respondents were instructed to provide information on benefits that cover the largest number of employees or that were otherwise deemed representative. The information reported reflects benefits in effect January 1, 2006.

Zion, David, and Amit Varshney. “You Dropped a Bomb on Me, GASB.” (Americas/United States Equity Research, Accounting & Tax) Credit Suisse, New York: March 22, 2007. This report focuses on the OPEB obligations for each of the 50 states, along with the 25 largest cities in the United States, based on a review of each state’s comprehensive annual financial report, as well as other documents such as actuarial studies, bond offering documents, and U.S. Census data, and phone calls with state officials. Information was obtained on unfunded OPEB liabilities for 31 states. Among the other 19 states, it was determined that 3 states— Mississippi, Nebraska, and Wisconsin—had no OPEB plans. For the remaining 16 states, estimates were made by multiplying the number of full-time equivalent employees for each state (based on 2004 Census data) by $100,000, a rough estimate based on the data gathered on the 31 states.

Related GAO Products

State and Local Governments: Persistent Fiscal Challenges Will Likely Emerge within the Next Decade. GAO-07-1080SP. Washington, D.C.: July 18, 2007.

Retiree Health Benefits: Majority of Sponsors Continued to Offer Prescription Drug Coverage and Chose the Retiree Drug Subsidy. GAO-07-572. Washington, D.C.: May 31, 2007.

Employer-Sponsored Health and Retirement Benefits: Efforts to Control Employer Costs and the Implications for Workers. GAO-07-355. Washington, D.C.: March 30, 2007.

Private Pensions: Information on Cash Balance Pension Plans. GAO-06-42. Washington, D.C.: November 3, 2005.

State Pension Plans: Similarities and Differences Between Federal and State Designs. GAO/GGD-99-45. Washington, D.C.: March 19, 1999.

Public Pensions: Section 457 Plans Pose Greater Risk than Other Supplemental Plans. GAO/HEHS-96-38. Washington, D.C.: April 30, 1996.

Public Pensions: State and Local Government Contributions to Underfunded Plans. GAO/HEHS-96-56. Washington, D.C.: March 14, 1996.

An Actuarial and Economic Analysis of State and Local Government Pension Plans. PAD-80-1. Washington, D.C.: February 26, 1980.

Funding of State and Local Government Pension Plans: A National Problem. HRD-79-66. Washington, D.C.: August 30, 1979.