WASHINGTON — Washington, D.C., and Detroit have the strongest funded pension plans, with Chicago the weakest, Morningstar Inc. said in a research report.
The report, titled "The State of City Pension Plans 2013: A Deep Dive into Shortfalls and Surpluses" and released Tuesday, analyzes the pension plans and liabilities for the 25 most populous cities.
"We focused on the 25 most populous cities because they are major financial centers and play an important role in the overall economy and the larger municipal bond market," said Rachel Barkley, a muni credit analyst at Morningstar. "While municipal bankruptcies are rare, the recent cases of Stockton and San Bernardino in California, along with the city of Detroit, may have significant impact on the national level as we see how the federal bankruptcy court will view state constitutional protections of retirement benefits."
Morningstar found the 25 cities in total have more than $125.13 billion of unfunded pension liabilities, or $3,776 per capita. The cities, in aggregate, have a funded ratio - the assets divided by liabilities - of 66.4%. However, using a median ratio, they are 76.0% funded, with unfunded liabilities of $1,556 per capita.
The 25 cities are also large debt issuers, with a total of more than $132.46 billion of outstanding direct debt, slightly more than their total unfunded liabilities.
Washington, D.C.'s funded ratio was the highest, at 104%, Detroit's was next at 91.4%, followed by San Antonio's at 90.9%. Chicago's was lowest at 35.2%. Besides Chicago, six cities had funded ratios below the "fiscally sound threshold of 70%," the report said. The others were New York at 60.1%, Phoenix at 61.0%, Boston at 62.2%, San Diego at 68.5% and Austin at 69.9%. Funding ratios were not available for Indianapolis, Columbus and Charlotte, according to Morningstar.
For 22 of the 25 cities, they are the majority participant and will have to fund all or most of the pension liabilities. About half the cities contributed the full annual required contribution, or the required dollar amount they would need to pay to fund employee benefits earned in the last fiscal year. San Jose's 2012 pension contribution was 29.7% of general fund spending, the highest among the 25 cities. Memphis, Tenn., made the smallest pension contribution in 2012, at 3.1% of its general fund spending.
The report noted that the fiscal health of pension plans tends to shift gradually over time and urged investors to look for red flags that indicate the solvency of a pension plan is deteriorating.
"Potential red flags include a substantial unfunded pension liability, a low and-or declining funded ratio, a high [unfunded actuarial accrued liability] per capita, annual contributions less than the [annual required contribution], rapid increases in annual contributions, and pension costs accounting for a significant portion of general government spending," Morningstar said.
On a national level, upcoming changes in standards for state and local government pension plans from the Governmental Accounting Standards Board "are expected to shake up pension reporting and accounting dramatically," the report said.
The standards, which are nonbinding but must be met to get a clean audit, become effective in fiscal years beginning after June 15 and for employers in fiscal years beginning after June 15, 2014. Generally the new standards require the disclosure of annual change in net pension liability (NPL) rather than the annual required contribution.
The new standards also will change the allowable accounting methods, "which will create a disconnect between pension funding and accounting while leading to greater volatility for pension accounting," the report said. "The impending change expected to have the greatest impact will be the prohibition on using smoothing methods for accounting, although it will still be allowed for funding purposes."
The report cited a recent report by the Center for Retirement Research at Boston College that contended the new accounting methodology would cause the aggregate funded level for 126 sampled large pension plans across the country to drop to 60% from 73%. "This decline in funding, coupled with the emphasis on the NPL, is likely to increase the debate regarding pension benefits and their impact on governments," the report said.