WASHINGTON — While the Governmental Accounting Standards Board’s new accounting standards announced Monday will improve financial reporting for public pension plans they also will put added pressure on cash-strapped state and local governments to reform their systems.
“For policy makers it will make the problem more visible and I think it will force policy makers to engage and come up with actual solutions to the problems,” said Matt Fabian, managing director at Municipal Market Advisors. “Most of the solutions up until this point have been on the peripheral, really only treating future workers and their related pensions. What has to be done is somehow adjust or manage the liabilities owed to current retirees and employees. That’s the problem that very few governments have addressed.”
The estimated total shortfall for public pensions is $757 billion, as of fiscal year 2010, the most recent data available. While some state and local governments have already taken action to improve their government finances, the unfunded gap continues to grow.
“The new standards will improve the way state and local governments report their pension liabilities and expenses, resulting in a more faithful representation of the full impact of these obligations,” said GASB chairman Robert Attmore.
The new rules increase the accounting of total unfunded liabilities in particular for systems that already have funding problems, such as Illinois and Puerto Rico, Fabian said. Such states, will “fare worse under the new system,” he said.
Currently, governments disclose pension information in the footnotes to their financial statements, and generally only report the contributions they are required to make in a given year, as well as what they actually paid.
The new accounting rules would require governments to disclose a “net pension liability” figure for the first time on their balance sheets in addition to funding projections. The net pension liability is the difference between the total pension liability and the assets set aside in a trust and restricted to paying benefits.
GASB said the change would “more comprehensively and comparably measure the annual costs of pension benefits.”
The Center for Retirement at Boston College estimated that under GASB’s new standards 126 pension plans would see their funding ratio decline to just 57% of obligations, down from 76% in 2010.
“It will make the funded situations much more visible and evident,” Fabian said. “On the surface you can expect rating downgrades might follow.”
Rating agencies have begun incorporating more pension liabilities into their credit analysis. John Sugden, director of US public finance with Standard & Poor’s, said that these new measures will be useful for credit analysis, while at the same time some of the changes will create reporting volatility.
“When you are going from actuarial to market valuations, obviously your valuations change from year to year based on market performance of your investments,” Sugden said. “That could make comparisons and historical funding levels a little bit of a challenge and it adds just general volatility.”
Previously, states have used a “smoothing” timeline, which allowed governments to factor in the changes in investment performance over a period of years.
Most state and local government groups oppose the new standards, charging they create confusion and should not be used for government pension funding and budgeting. They have also said that GASB’s focus on unfunded liabilities over the traditional annual required contributions, or ARC, is a significant disconnect between funding and accounting for pension costs.
“We certainly have issues with the underlying premise,” said Lars Etzkorn, program director for federal relations for the National League of Cities. “Pensions throughout the US are secured and funded and can meet their obligations. These accounting requirements and disclosures are not going to change the fundamentals of the sound pension system that exists.”
The changes will be phased in and as a result it’s unlikely there will be sweeping credit downgrades, Fabian said. The final standards do not take full effect until 2015.
The GASB standards are not binding, but state and local governments must meet them in order to receive clean, or nonqualified, opinions from auditors on their financial statements.