2007 POLICY HIGHLIGHTER

February 15, 2007

Washington Pensions See Eight-Fold Increase in Unfunded Liability
Volume 17, Number 7

By Amber Gunn

In the last five years, Washington has seen its unfunded liability for pensions increase dramatically. According to the June 2006 Comprehensive Annual Financial Report, the total unfunded actuarial liability has seen an eight-fold increase from $778 million to $6.4 billion. The Public Employees’ Retirement System (PERS) Plan 1 unfunded liability increased from $584 million to $3,997 million between 2000 and 2005. In the same period the Teachers’ Retirement System (TRS) unfunded liability increased from $194 million to $2,444 million.

Tracing the origins of Washington’s unfunded pension liability
State contributions to the state retirement systems have fallen substantially since 1999 (see below chart). In essence, the legislature skipped the last two plan 1 payments and rolled them back into the actuarial liability. By not properly funding pensions, Governors Locke and Gregoire and the legislature were able to superficially balance their budgets. Taxpayers will have to make up not only the funds that were not put into the pensions, but also lost interest and/or stock gains.

Source: Washington State Retirement System and Pension Contribution Rates, January 2007, Office of Program Research

In addition to the under-funding of pensions, gain-sharing has also increased future contribution requirements. The benefit was approved in 1998 during the stock-market boom when double-digit returns seemed routine. When investment returns exceeded expectations, part of the excess was supposed to be returned to state workers through the pension system.

The state assumes an 8% annual rate of return on pension investments. This is the long-term average that must be achieved in order to fully fund pensions. Gain-sharing skims off high returns during good years, making the long-term average unreachable. Those periods of high returns are needed to off-set low interest years. If gains are trimmed during good years, state & local governments are forced to make up the difference.

In addition to gain-sharing and skipped payments, the state has chosen to ignore the state actuary’s mortality assumption recommendations. In his most recent report, the actuary recommended adjustments to the mortality assumptions used in the state’s funding models. The state had been using “static” mortality tables, meaning longer life-spans were not taken into account. The actuary recommended increasing contribution rates to ensure the system could cover the increased pension costs that accompany longer life-spans.

The Pension Funding Council (charged with adopting biennial contribution rates) rejected the actuarial funding recommendation, choosing not to include the mortality improvement costs. The implication of the Council’s rejection is that the governor and the legislature will not have to include the cost of mortality improvements in their budgets.

Using Priorities of Government to pay down pensions
With a budget surplus of nearly $2 billion, there is no reason the governor and legislature could not stop the growth of unfunded pension liability.

Using the Priorities of Government process, the state should:

• apply the funds to pension debt before creating new or expanded programs;

• repeal gain-sharing; and

• move surplus funds into pensions so that the interest income reduces future payments.

In addition to these actions, the state should adopt the state actuary’s mortality assumption recommendations. Increasing contribution rates now will ensure the pension system can cover the increased pension costs that accompany longer life-spans.

Conclusion
The state has skipped payments, added gain-sharing, and ignored the state actuary’s recommendations. These actions have dramatically increased pension costs for taxpayers—a problem that will only continue to swell if deliberate steps are not taken to correct it. Using the Priorities of Government process, the state can and should reduce Washington’s pension debt.

Amber Gunn is Director of EFF’s Economic Policy Center. She serves as a voting member on the American Legislative Exchange Council’s Tax and Fiscal Policy Task Force and is often consulted by media outlets and legislative staff for issue briefs and policy analysis. Prior to joining EFF full time, she was a Charles G. Koch Fellow in partnership with the State Policy Network. Amber holds a B.A. in Political Science and Spanish from the University of Washington.

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