2018 PEPRA compensation limits

The 2018 PEPRA compensation limits are $121,388 for Social Security members and $145,666 for non-Social Security members.

These limits are the maximum pay that a California public agency can recognize in a defined benefit plan for PEPRA members, i.e. those first hired by a public employer in 2013 or later.  “Classic” members hired from 1996 through 2012 are subject to the higher §401(a)(17) pay limit that applies to private sector employees.

Each year, the California Actuarial Advisory Panel (CAAP) publishes an “unofficial” calculation of the PEPRA compensation limit.  The 2018 limits are published on the State Controller’s Office website at Agenda Item #4 – Draft CAAP 2018 PEPRA Limit Letter November 21, 2017.

CalPERS usually publishes the limits in late February or early March.  The 2017 PERS notice is at https://www.calpers.ca.gov/docs/circular-letters/2017/200-010-17.pdf.  Update 1/16/2018: the 2018 PERS notice is at https://www.calpers.ca.gov/page/employers/policies-and-procedures/circular-letters.  Search for letter #200-001-18.

We’ve confirmed all of the PEPRA calculations in the CalPERS and CAAP letters.  Here is a complete set of the PEPRA compensation limits through 2018:

PEPRA Compensation Limit
Year Social Security Members Non Social Security Members
2013 113,700        136,440
2014 115,064        138,077
2015 117,020        140,424
2016 117,020        140,424
2017 118,775        142,530
2018 121,388        145,666

First pensions, now OPEB – New GASB 74 & 75 will transform OPEB reporting

Public sector employers, get ready! The Governmental Accounting Standards Board (GASB) has officially approved new accounting statements for Other Post-Employment Benefit plans (OPEB; retiree medical). Here’s what the recent GASB announcement confirms:

  • Final provisions will closely mirror GASB 67/68 pension accounting. The official statements won’t be released until late June, but last summer’s OPEB exposure draft included similar provisions such as:
    • The unfunded liability will now go on the balance sheet.
    • The liability discount rate will be based on a projection of how long dedicated assets (plus future contributions) will cover current plan members’ future benefit payments.
    • OPEB expense will recognize asset and liability changes over a shorter time period.
    • Goodbye ARC! Funding and accounting are officially separated, so plans and employers should consider developing a new OPEB funding policy.
  • Expanded note disclosures and RSI are required, including sensitivity of results to a +/-1% change in the discount rate and medical trend assumptions.
  • Effective dates:
    • GASB 74 Plan accounting is first effective for reporting periods beginning after June 15, 2016 (e.g., fiscal years beginning July 1, 2016 or January 1, 2017).
    • GASB 75 Employer accounting is first effective for reporting periods beginning after June 15, 2017 (e.g., fiscal years beginning July 1, 2017 or January 1, 2018).

Although the implementation dates are almost 3 years away, employers should take action now to prepare. Some questions to ask include:

  1. How can I develop and implement an OPEB funding policy over the next few years? Prefunding OPEB can help reduce the unfunded balance sheet liability.
  2. What plan benefit adjustments and investment policy changes are available to lower my long-term OPEB liability? Now is the time to review your OPEB management strategies.
  3. What is my strategy to educate stakeholders about OPEB promises and their potential financial impact under the new GASB 74/75 requirements? OPEB is a complex topic that may be unfamiliar to plan members, government decision-makers, and taxpayers.

The new GASB 74/75 statements should help make OPEB promises more understandable and transparent. While there’s still sufficient lead-up time, employers should view this as an opportunity to proactively address an employee benefit which is often unfunded but must be managed prudently.

OPEB Investments – The Danger of Playing It Safe

CautionUnder GASB 43 and 45, public sector employers are required to account for retiree medical benefits under special rules for Other Post-Employment Benefits (OPEB).  Many have chosen to pre-fund these liabilities in a trust similar to a retirement plan trust.  At the recent Minnesota School Board Association convention, Van Iwaarden Associates teamed up with an investment advisor to emphasize how actuaries and investment advisors should work together to develop a prudent investment policy based on projected benefit payments.

Most policy makers at public sector employers are not investment experts nor are they experienced with pre-funding long term liabilities.  Too often, the decision is made to invest trust assets in “safe” investments just as they do with operating funds.  This is potentially a major mistake, especially now with short term interest rates near zero!

The best practice is to pre-fund retiree medical liabilities and to invest the trust assets in a way that is consistent with the projected cash flow.  Certainly, a substantial portion of the assets should be invested for the short term to meet short term cash flow.  However, the balance of the assets should be invested for the long term to meet projected cash flows twenty to thirty years away.

The recommended action plan for decision makers includes:

1.    Estimate the projected life of the OPEB Trust
2.    Review investment policy and its handling of OPEB
3.    Amend policy and investment strategy appropriately

A detailed actuarial report is the start of the process to manage OPEB liabilities and assets.  The actuarial report can and should be much more than just a perfunctory exercise to meet GASB accounting requirements.
The full presentation can be found through this link.

“Measure It Before You Promise It” for GASB 45 OPEB

Over the past several years, GASB 45 has required public employers to recognize the cost of Other Postemployment Benefits (OPEB: e.g., retiree health insurance, life insurance) while employees are accruing the benefits, not after they retire. For many public entities, the true cost of their healthcare promises has been an eye opener.

However, public employers (especially local entities) should remember that GASB-type calculations are valuable in the “off-season” too. This post discusses one of the biggest missed opportunities for cost-saving: Measuring the cost impact of changes to retiree OPEB before contracts are signed.

In the corporate world, it is almost unheard of for employers to adjust their retiree benefit promises without first measuring the cost impact. This is especially true of collectively-bargained pension and retiree health plans. Both sides hire an actuary to estimate the cost of these benefits and bring their numbers to the table.

However, many local public entities may not be used to this process yet. During the biennial GASB 45 valuation process, we still encounter contractual changes to retiree benefits that occurred after the prior actuarial study but were not reported to us in the interim. There are two main problems with this approach:

  1. It’s not prudent to make or change benefit promises without estimating the cost impact. Suppose an employer is renegotiating a contract and there is a proposal to change the retiree health benefit from “fully-paid single premiums until age 65” to “fully-paid family premiums for up to 5 years”. Is this a cost increase or decrease? There’s no way to know unless you measure the cost beforehand.
  1. GASB 45 requires a full actuarial valuation if there is a significant change in benefit promises.  As we discussed in a previous post, public employers shouldn’t wait until the next scheduled actuarial study (2 or 3 years, depending on plan size) to reflect significant plan changes in their financial statements.

As public employers get acquainted with valuing the actuarial cost of their OPEB benefits for GASB 45 financials, they should embrace the philosophy of “measure it before you promise it” for any changes to these benefits. Public sector OPEB are becoming front page news and administrators must proceed cautiously when adjusting benefits or making new promises.

Understanding the Leveraging Effect of GASB 45 OPEB Liabilities

As public plan sponsors complete their second (or third) actuarial valuation of GASB 45 liabilities, they may be surprised at the potential volatility of their Actuarial Accrued Liability (AAL). There are various factors that can cause large AAL changes, including adjustments to the plan provisions or switching health insurers. This post focuses on a less obvious (though sometimes more powerful) source: the leveraged nature of OPEB liabilities.

The retiree healthcare promises measured under GASB 45 generally consist of two pieces: a gross health claims component (i.e., the expected cost of retiree health coverage) and a premium offset component (i.e., the amount that retirees pay for their coverage). The net OPEB liability is just the difference between these two elements. The following example illustrates how a small change in either of the input components can have a much larger effect on the net liability result. We call it the “leveraging” effect.

Read more…

First Look at Proposed GASB Accounting Changes

Over the past couple of years, the GASB (Governmental Accounting Standards Board – they write the public employer accounting rules) has started the process of updating the accounting rules for public employer pension and retiree health plans. They issued an invitation for ideas/comments in 2009 and now we are getting our first sneak peek at the direction that GASB is thinking of going. Their website has been updated with a list of Major Tentative Decisions that could have a HUGE impact on the way retiree benefit costs are accounted for under GASB 27 and GASB 45. The three biggest changes appear to be:

1. Moving the Unfunded Actuarial Accrued Liability (UAAL) onto the balance sheet instead of just showing it in a footnote.

2. Switching from a single liability discount rate (based on expected return of plan assets) to a bifurcated discount rate. Liabilities covered by current assets will still use the old assumption, but unfunded liabilities will be discounted using a “high-quality tax-exempt municipal bond index rate”. The latter rate will likely be much lower than the old discount rate for pension plans (which will increase the liability calculations), but it remains to be seen how the mechanics of this process will actually work.

3. Less smoothing of unexpected asset and liability changes. Currently these unanticipated changes can be spread out and recognized over a period of up to 30 years. It appears the GASB is proposing that this period be shortened to the remaining service period of current employees (probably closer to 10 – 15 years).

The net effect of these proposed changes will likely be that accounting costs for public pension benefits will go WAY up. The impact on retiree health and OPEB liabilities is less clear since they are now usually valued using a very low “risk-free” interest rate. Moving to a (presumably higher) municipal bond index rate will decrease the UAAL, but this could be totally offset by the other proposed methodology changes.

Once we learn more from the GASB in June, we’ll provide additional analysis. For now, Girard Miller at Governing.com has a good summary of the possible ramifications and explores the proposed changes in greater detail. The proposed GASB accounting changes likely wouldn’t go into effect for several years but, as Mr. Miller points out, public plan sponsors should start exploring the potential effects now so that there is adequate time to prepare and develop solutions.

Public Pension Backlash

I have been saying to my colleagues for the past couple of years that the backlash against public employee pensions was on the horizon. Recent newspaper articles and pension studies confirm that the storm is finally here. With many private employees seeing their retirement savings halved during the recession and their employer-sponsored retirement plans cut back, it was only a matter of time before “pension-envy” took over.

However, it seems that the recent press exposure of public pension finances and well-publicized instances of questionable benefit practices has obscured some of the most important questions regarding pension plans – public or private.

  • What is the purpose of a pension plan? Is the current plan serving its purpose or does it need to be adjusted to adapt to changing times?
  • Are current benefit levels in the plan “appropriate”? A “race to the bottom” of employee benefits doesn’t help anyone in the long-term, but I think that it is entirely fair to make targeted adjustments to pension plan benefits so that they are competitive, affordable, and meaningful.
  • How will benefits be financed? This is the question that has been making headlines recently due to the recession’s impact on pension plan trust funds. Stories of pension funds being 30% to 40% underfunded can rile people up, but they rarely capture the complexities of pension plan financing. Pension plans can be a very efficient way to provide meaningful benefits to large groups of employees, but the cost must be transparent and the funding can’t be perpetually deferred to future generations.

One of the most rational voices I have heard in this growing debate has been Gerard Miller at the website www.governing.com. He has many thoughtful articles about pension reform that try to bridge the gap between maintaining unaffordable public pensions and a total dismantling of the system.  I believe that the debate on public pension reform is just getting fired up and we can expect to see it displayed prominently in this year’s mid-term elections. It remains to be seen whether this topic can be discussed objectively or whether it will just devolve into an all-out battle between the “haves” and “have-nots”.