WASHINGTON -- Funding levels for state and local pension plans fell to an average of 74% in fiscal 2016, two percentage points lower than the year before, the Center for State and Local Government Excellence found in a report.

The report covers a database of 170 state and local government pension plans that include about 95% of state and local workers who have pensions.

The nation’s most distressed large public employee pension plan in fiscal 2016 was the Kentucky Employee Retirement System, which was only 18.9% funded.

Also at the bottom of the list were the Providence Employee Retirement System at 27.1%, Chicago Municipal Employees at 30.5%, the Illinois State Employees’ Retirement System at 34.4%, and the Connecticut State Employees’ Retirement System at 35.5%.

Jean-Pierre Aubry, director of state and local research, Center for Retirement Research at Boston College.
Jean-Pierre Aubry says there hasn't been much improvement in state and local pension funds since the financial crisis. Center for Retirement Research at Boston College

“Plans need to set and pay a more sufficient annual required contribution, in addition to achieving their assumed returns,’’ the three authors of the study advised. About three-quarters of the plans use a fiscal year ending June 30 while the remainder use a calendar year.

The authors noted that the “revival of markets in 2017 has helped pension plan assets recover,’’ but said the future funding status of public pension plans “will depend heavily on both future investment performance and adequate contributions.’’

Plans in the database made an average investment return assumption of 7.6%, which was relatively flat from 2015 but continued a lowering of expectations from the 8% average return assumption made in 2001.

“The question is, what is a reasonable rate of return going forward,’’ said Jean-Pierre Aubry, the lead co-authors of the report who serves as director of state and local research at the Center for Retirement Research at Boston College.

The authors didn’t suggest what that reasonable rate of return might be, Aubry said.

“The point we tried to make is that we are 10 years out from the financial crisis and we haven’t seen much improvement in pension funds,’’ he said.

The average 7.6% expected investment return remains rosier than the projections of many major investment firms. JP Morgan is among those at the highest end of the projections, expecting a 7% return over the next 10 to 15 years. Charles Schwab expects 6.3% over the next 10 years. Goldman Sachs predicts 4.7% to 5.5% over the next five years.

Public plans averaged only a 0.6% in actual rates of return on their investments in fiscal 2016, the report said.

Even if the plans do realize that 7.6% projected rate of return on their investments in each of the next five years, their funding levels will remain at 72%, Joshua Franzel, president and CEO of the center said in a forward to the report.

Aubry said he believes public pension plans generally “are muddling through this period,’’ with many making minor adjustments such as increasing employee contributions and revising cost-of-living pension payments.

The most distressed pension plans in places such as Kentucky, Illinois and New Jersey won’t solve their problems with conventional measures, he said.

In the 170 plans that were examined, funding levels declined under both new accounting standards issued by the Government Accounting Standards Board (GASB Statement No. 67) that uses market values and the old accounting standards (GASB Statement No. 25) that used smoothed values, said the new report.

The overall findings are based on a composite of the two approaches.

Most pension plans still issue reports based on GASB 25 even though GASB 67 went into effect in 2014.

The plans using the old accounting rules fell only one percentage point to 72% from 73%.

But those using the new accounting standard experienced an even steeper funding drop to an average 68% in 2016 from 73% in 2015.

Plans using the new GASB standards based on stock market assets benefited from the stock market surge in fiscal year 2017.
The authors projected that the funded status of those plans will show a 3.2% for fiscal 2017 when they take a more in-depth look after the last of the plans complete their fiscal year on Dec. 31.

If plans using GASB 25 had adjusted their blended discount rate to an average of 6%, they would have been only 56% funded.

And if their discount rate was 4%, they would have averaged only a 43% funded status.

The plans using the old GASB standard that uses a blended rate will have a modestly improved funded status for 2017.

The study blamed the steady growth of liabilities and the slow growth of assets due to poor stock performance for the negative trend.

In 2016 liabilities from promised benefits grew 5.6% under the GASB 25 standard and by 6.3% under the new GASB 67.
GASB also issued a new standard for plan contributions in 2014 called the Actuarially Determined Employer Contribution (ADEC) that replaced the Annual Required Contribution (ARC).

The report found that plans appear to have shifted to using the ADEC for both funding and reporting purposes, rather than maintaining two sets of required contribution numbers. It also found that the differences between the ADEC and the ARC generally “do not seem to be consequential’’ because assets and liabilities in both cases are based on the old GASB standard.

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