U.S. Postal Service: Action Needed to Address Unfunded Benefit Liabilities
Released: 2014-03-13T00:00:00

Letter

Background

As table 1 shows, at the end of fiscal year 2013, USPS had about $100 billion in unfunded liabilities for pension, retiree health, and workers’ compensation benefits as well as outstanding debt. These unfunded liabilities have increased by 62 percent since fiscal year 2007.

Since fiscal year 2007, USPS has experienced significant financial challenges. USPS’s gap between expenses and revenues has grown significantly. In fiscal year 2009, we returned USPS to our high-risk list due, in part, to a projected loss of $7 billion—and an actual loss of over Also, USPS did not make retiree health $8.5 billion—in fiscal year 2010.benefit prefunding payments totaling $16.7 billion due during fiscal years 2011 through 2013. In addition, USPS’s outstanding debt to the U.S. Treasury increased from $2.1 billion at fiscal year-end 2006 to its current statutory borrowing limit of $15 billion.and unfunded liabilities have become a large and growing burden— increasing from 83 percent of USPS’s revenues in fiscal year 2007 to 148 percent of revenues in fiscal year 2013.

As shown in figure 1, USPS’s debt USPS’s dire financial condition makes paying for these liabilities highly challenging. In the short term, USPS lacks liquidity to fund needed capital investments and cannot increase its liquidity through borrowing since USPS has hit its $15 billion statutory debt limit. At the end of fiscal year 2013, USPS held unrestricted cash of $2.3 billion, which it states represents approximately 9 days of average daily expenses. This level of liquidity could be insufficient to support operations in the event of another significant downturn in mail volume. In the long term, USPS will be challenged to pay for its unfunded liabilities on a smaller base of First- Class Mail, its most profitable product. First-Class Mail volume has declined 37 percent since it peaked in fiscal year 2001. In addition, USPS’s five-year business plan projects this volume will continue declining by about 5 to 6 percent annually.

USPS’s Funding of Its Benefit Liabilities Varies by Program

The extent to which USPS has funded its benefit liabilities varies as a result of different statutory funding requirements specific to each benefit program as well as USPS’s financial means to make funding payments. For example, prefunding of USPS’s pension benefits has been required over decades, and as a result, USPS’s pension liability is over 90 percent funded. Prefunding USPS’s retiree health benefits began in 2007, and at a fairly aggressive pace, and the liability is about half funded at present. In contrast, under the Federal Employees Compensation Act (FECA), USPS funds its workers’ compensation benefits on a pay-as-you-go basis, pursuant to statutory requirements, so the entire FECA liability is unfunded. Also, as discussed further below, the ongoing prefunding requirements—i.e., the rules for calculating the amount that USPS must pay each year—differ among the pension, retiree health, and workers’ compensation programs.

For each of the four post-employment benefit programs—Civil Service Retirement System (CSRS), Federal Employees Retirement System (FERS), retiree health, and workers’ compensation—table 2 illustrates, as of the end of fiscal year 2013, USPS’s liability, the value of the assets that have been set aside, the funded percentage, and the unfunded liability. The funded percentages are 91 percent for CSRS, 101 percent (i.e., a slight surplus) for FERS, 49 percent for retiree health, and 0 percent for workers’ compensation. The unfunded liabilities, in order of decreasing size, are $48 billion for retiree health, $19 billion for pensions, and $17 billion for workers’ compensation. These total to about $85 billion, which, together with USPS’s debt to the Treasury of $15 billion, adds to the $100 billion of total debt and unfunded liabilities cited earlier.

What USPS’s Liabilities Represent

USPS’s benefit liabilities are actuarial estimates of the present value of a portion of the future benefits projected to be paid under each program based on formulas in current law. Specifically, for both the pension and retiree health programs, the liability includes two pieces: (1) the present value of all projected future benefits for current retirees and their beneficiaries, plus (2) the present value of a portion of the projected future benefits for current employees and their beneficiaries, based on employees’ service to date (with each additional year of service adding to the liability, such that approximately the full liability is accrued when employees reach retirement).employee groups and other stakeholders, these liabilities do not include any amounts for future USPS employees not yet hired or born. The workers’ compensation liability represents the present value of all projected future benefits for former employees who have sustained an injury and are eligible for benefits; it does not include a provision for projected future injuries to current employees.

Contrary to statements made by some These liability measurements depend on a combination of economic and demographic assumptions regarding such factors as future investment returns, interest rates, inflation, salary increases, medical costs, and longevity. These liability measurements inherently contain significant degrees of uncertainty, and can change from year to year, both because of actual experience differing from the assumptions and because of changes to the assumptions themselves, which can occur in response to emerging experience and changing conditions. As an example of the sensitivity of these liabilities to changes in assumptions, USPS has estimated that its $48 billion unfunded liability for retiree health benefits could have ranged from $35 billion to $64 billion, solely by varying the inflation rate by 1 percent in either direction.

USPS’s pension and retiree health liabilities are estimated using demographic and pay-increase assumptions developed for the federal workforce as a whole, rather than assumptions developed for the USPS workforce in particular. Some have suggested that USPS’s benefit liabilities may be overstated in that the use of USPS-specific assumptions would result in a lower liability measurement.we support using the most accurate numbers possible. We suggested that if USPS-specific assumptions are used, the assumptions should In 2013, we testified that continue to be recommended by an independent body (such as OPM’s Board of Actuaries).

Different Funding Rules Apply to Different Programs

USPS’s ongoing prefunding contributions are governed by separate rules applying to the funding of its CSRS, FERS, retiree health benefit, and workers’ compensation liabilities. These separate rules include variations in amortization periods, recognition of any surpluses, use of actuarially determined versus fixed payments, and actuarial assumptions.

The Postal Accountability and Enhancement Act (PAEA) eliminated USPS’s agency contributions for CSRS, as the USPS had a CSRS surplus at that time. The surplus of $17 billion was transferred to the new Postal Service Health Benefits Fund (PSHRBF) to begin prefunding USPS’s retiree health liability. Under current law, USPS is not required to make any prefunding contributions for CSRS prior to fiscal year 2017. If USPS were to have an unfunded CSRS liability in 2017 (for example, if the current unfunded CSRS liability of $20 billion persists), USPS would have to begin making prefunding payments to eliminate the unfunded liability by September 30, 2043, i.e., over a 27-year amortization period from fiscal years 2017 to 2043. If USPS were to have a CSRS surplus as of the close of any of the fiscal years ending in 2015, 2025, 2035, and 2039, the CSRS surplus would be transferred to the PSHRBF.

For FERS, USPS is annually required to contribute its share of the “normal cost” plus an amortization payment toward any existing unfunded liability. The normal cost is the annual expected growth in the liability attributable to an additional year of employees’ service. The amortization payment toward any unfunded liability is determined using a 30-year amortization period. Since USPS has had a FERS surplus for a number of years, it has not had to make any amortization payments, only its normal cost payments. Current law does not provide any provision for utilization of any FERS surplus, as discussed further in the next section. USPS made FERS normal cost payments of $3.5 billion in fiscal year 2013.

Retiree Health

Unlike its pension liability, prior to 2007 USPS had been funding its retiree health liability on a pay-as-you-go basis—an approach in which USPS paid its share of premiums for existing retirees, with no prefunding for any future premiums expected to be paid on behalf of current retirees and employees. We have drawn attention to USPS’s retiree health benefit liability over the past decade. In May 2003, the Comptroller General testified that USPS’s accounting treatment—which reflected the pay-as- you-go nature of its funding—did not reflect the economic reality of its legal liability to pay for its retiree health benefits, and that current ratepayers were not paying for the full costs of the services they were receiving. Consequently, the pension benefits being earned by USPS employees—which were being prefunded—were being recovered through current postal rates, but the retiree health benefits of those same employees were not being recognized in rates until after they retired. The Comptroller General testified that without a change, a sharp escalation in postal rates in future years would be necessary to fund the cost of retiree health benefits on a pay-as-you-go basis.

In 2006, PAEA established requirements for USPS to begin prefunding its retiree health benefits. USPS stated in its 2007 Annual Report that such prefunding was a “farsighted and responsible action that placed the Postal Service in the vanguard of both the public and private sectors in providing future security for its employees, and augured well for our long- term financial stability,” but also acknowledged that the required payments would be a considerable financial challenge in the near term.

PAEA required USPS to make “fixed” prefunding payments to the PSRHBF, ranging from $5.4 billion to $5.8 billion per year, due each fiscal year from 2007 through 2016. three required annual payments. We have referred to these 10 years of required payments as “fixed” because the amounts are specified in statute rather than calculated based on an actuarial measurement of the liability. In addition to these prefunding requirements, USPS is also required to continue paying its share of health benefit premiums for current retirees and their beneficiaries, payments USPS has been making. USPS paid $2.9 billion for its share of retiree health benefit premiums in fiscal year 2013.

USPS’s $5.4 billion retiree health benefit prefunding payment due at the end of fiscal year 2009 was reduced to $1.4 billion. Pub. L. No. 111-68, § 164 (Oct. 1, 2009). We reported on USPS’s retiree health prefunding requirements in GAO-13-112. period of just 10 years, as has sometimes been stated. However, we have reported that the required payments are significantly “frontloaded,” in that the total payments required in the first 10 years (fiscal years 2007– 2016) were significantly in excess of estimates of what actuarially determined amounts would be.

Workers’ Compensation

The Federal Employees’ Compensation Act (FECA) is the workers’ compensation program for federal employees, including USPS. FECA is managed by the Department of Labor (DOL) and provides benefits paid out of the Employees’ Compensation Fund to federal employees who sustained injuries or illnesses while performing federal duties. USPS funds its workers’ compensation under a pay-as-you go system by annually reimbursing DOL for all workers’ compensation benefits paid to or on behalf of postal employees in the previous year. USPS reimbursed DOL $1.4 billion for fiscal year 2013.

Impact of Unfunded Benefit Liabilities Absent Actions by Congress to Address Them and Key Considerations

Without congressional action to address USPS’s benefit funding issues and better align its costs and revenues, USPS faces continuing low liquidity levels, insufficient revenues to make annual prefunding payments, and increasing benefit liabilities. Deferring funding could increase costs for future ratepayers and increase the possibility that USPS may not be able to pay for these costs. USPS stated that in the short term, should circumstances leave the agency with insufficient cash, it would be required to implement contingency plans to ensure that mail delivery continues. These measures could require that USPS prioritize payments to employees and suppliers ahead of some payments to the federal government. For example, as discussed previously, near the end of fiscal year 2011, in order to maintain its liquidity USPS temporarily halted its regular FERS contribution. However, USPS has since made up those missed FERS payments. According to USPS, current projections indicate that it will be unable to make the required $5.7 billion retiree health benefit prefunding payment due in September 2014. USPS has stated that its cash position will worsen in October 2014 when it is required to make an estimated payment of $1.4 billion to DOL for its annual workers’ compensation reimbursement. USPS’s statements about its liquidity raise the issue of whether USPS will need additional financial help to remain operational while it restructures and, more fundamentally, whether it can remain financially self-sustainable in the long term.

We have previously reported that Congress and USPS need to reach agreement on a comprehensive package of actions to improve USPS’s financial viability. In previous reports, we have discussed a range of strategies and options, to both reduce costs and enhance revenues, that Congress could consider to better align USPS costs with revenues and address constraints and legal restrictions that limit USPS’s ability to reduce costs and improve efficiency. We have also reported that it is important for USPS to align its expenses and revenues to avoid even greater financial losses, repay its outstanding debt, and increase capital for investments needed to sustain its national network. In addition, we have reported that Congress needs to modify USPS’s retiree health prefunding payment in a fiscally responsible manner, and that USPS should prefund any unfunded retiree health liability to the maximum extent that its finances permit. Implementing strategies and options to better align costs with revenues would better enable USPS to be in a financial position to fund and pay for its debt and unfunded benefit liabilities.

Key Funding Considerations

With any unfunded liability comes the risk of being unable to pay for it in the future. This risk can be heightened when future revenues are declining or highly uncertain, as is the case for USPS. We have reported on several rationales for prefunding pension and retiree health benefits.Some of the same reasoning could be applied to workers’ compensation benefits as well. The benefits of prefunding include the following:

Achieving an equitable allocation of cost over time by paying for retirement benefits during employees’ working years, when such benefits are earned. For USPS, this is about equity between current and future postal ratepayers. This is in line with helping USPS align costs with revenues. An additional consideration here is the “legacy” unfunded liability that was not paid by ratepayers in prior years.

Protecting the future viability of the enterprise by not saddling it with bills later after employees have retired.

Providing greater benefit security to employees, retirees, and their beneficiaries. Prefunded benefits are more secure against the future risks of benefit cuts or inability to pay.

Providing security to any third party that might become responsible in the event of the enterprise’s inability to pay for some or all of the unfunded liability.

Prefunding decisions also involve trade-offs between USPS’s current financial condition and its long-term prospects. While reducing unfunded liabilities protects the future viability of the organization, no prefunding approach will be viable unless USPS can make the required payments, but attempting to do so in the short term could further strain its finances. USPS currently lacks liquidity and postal costs would need to decrease or postal revenues to increase, or both, to make required prefunding payments. To the extent prefunding payments are postponed, larger payments will be required later, when they likely would be supported by less First-Class Mail volume and revenue.

In 2012, we developed projections of USPS’s future levels of liability and unfunded liability for its retiree health benefits. These projections showed that current law would result in a significant reduction of USPS’s future unfunded liability if USPS resumed making the required payments.However, USPS has indicated that it does not expect to make any of the remaining fixed prefunding payments, through fiscal year 2016, an intention that means its unfunded liability would increase and its future payments would be greater.

From the perspective of all USPS’s post-employment benefit programs, any relaxation of funding requirements in the short term—for example, by suspending retiree health prefunding for a period of years—will result in a higher overall unfunded liability for these programs in total. Nonetheless, Congress has to consider the balance between (1) providing USPS with liquidity that provides breathing room in the short term in order to restructure its operations for long-term success, and (2) protecting USPS, its employees and retirees, and other stakeholders in the long term by funding its liabilities for benefits that have already been earned or accrued.

It is also important to note that unfunded liabilities can be reduced in either of two ways. An unfunded liability is the difference between the liability and its supporting assets. As such, an unfunded liability can be reduced by increasing the amount of assets (i.e., through prefunding), but it can also be reduced by decreasing the size of the liability, such as by decreasing benefit levels or USPS’s share of such benefit costs, where such a reduction is deemed to be feasible, fair, and appropriate. We have reported on proposals to increase the integration of USPS’s retiree health benefits with Medicare, which would have the effect of reducing USPS’s liability but would also involve other policy considerations.

In our prior reports, we have identified funding issues related to USPS’s unfunded liabilities that remain unresolved and have identified potential methods for addressing these issues:

Actuarial assumptions: We support making the most accurate measurements possible of USPS’s benefit liabilities, and support the development and use of assumptions specific to USPS’s population of plan participants.assumptions are used, that the assumptions should continue to be recommended by an independent body, such as OPM’s Board of Actuaries.

We have suggested that if USPS-specific

Fixed versus actuarially determined payments: We have reported that the retiree health prefunding schedule established under PAEA was significantly frontloaded, with total payment requirements through fiscal year 2016 that were significantly in excess of what actuarially determined amounts would be. We added that Congress needs to modify these payments in a fiscally responsible manner. We support proposals to replace the fixed payments with actuarially determined amounts.

Funding targets: We have expressed concern about proposals to reduce the ultimate funding target for USPS’s retiree health liability from the current target of 100 percent down to 80 percent. Such a reduction would have the effect of carrying a permanent unfunded liability equal to roughly 20 percent of USPS’s liability, which could be a significant amount. If an 80 percent funding target were implemented because of concerns about USPS’s ability to achieve a 100 percent target level within a particular time frame, an additional policy option to consider could include a schedule to achieve 100 percent funding in a subsequent time period after the 80 percent level is achieved.

FERS surplus: Under current law, USPS’s payments to FERS increase, appropriately, when USPS has an unfunded FERS liability, but USPS realizes no financial benefit when it has a FERS surplus. We have reported that we would support a remedy to this asymmetric treatment, but we have reported on important trade-offs to consider for different types of remedies. While the most recent estimate shows a relatively small FERS surplus for USPS—an estimated $0.5 billion—USPS has stated that it believes its FERS surplus would have been substantially larger if its FERS liability had been estimated using postal-specific demographic and pay increase assumptions. A conservative approach to permit USPS to access any FERS surplus would be to use it to reduce USPS’s annual FERS contribution by amortizing the surplus over 30 years (which would mirror the legally required treatment of an unfunded FERS liability). Another approach would be to reduce USPS’s annual FERS contribution by offsetting it against the full amount of surplus each year until the surplus is used up; this would be comparable to what occurs for private-sector pension plans. We have previously suggested that any return of the entire surplus all at once should be done with care, given the inherent uncertainty of the estimated liability and the existence of USPS’s other unfunded liabilities.should be considered as a one-time exigent action and only as part of a larger package of postal reforms and restructurings. Any provision that would return a surplus whenever one developed would likely eventually result in an unfunded liability.

A one-time-only return of the entire surplus In conclusion, we again emphasize that deferring funding liabilities in benefit programs could increase costs for future ratepayers and increase the possibility that USPS may not be able to pay for its benefit costs, and that USPS should work to reduce its unfunded liabilities to the maximum extent that its finances permit. Ultimately, however, the viability of funding promised benefits depends on the financial viability of USPS’s underlying business model. We continue to recommend that Congress adopt a comprehensive package of actions that will facilitate USPS’s ability to align costs with revenues based on changes in the workload and the use of mail.

Chairman Farenthold, Ranking Member Lynch, and Members of the Subcommittee, this concludes my prepared statement. I would be pleased to answer any questions that you may have at this time.

GAO Contact and Key Acknowledgments

For further information about this statement, please contact Frank Todisco, Chief Actuary, FSA, MAAA, EA, Applied Research and Methods, at (202) 512-2834 or todiscof@gao.gov. Mr. Todisco meets the qualification standards of the American Academy of Actuaries to render the actuarial opinions contained in this testimony. Contact points for our Congressional Relations and Public Affairs offices may be found on the last page of this statement. In addition to the contact named above, Lorelei St. James, Director, Physical Infrastructure Issues; Teresa Anderson; Samer Abbas; Lauren Fassler; Thanh Lu; and Crystal Wesco made important contributions to this statement.

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