Locally administered public pension plans, which had lagged behind state plans in funding levels, are making some progress, gradually closing the gap between the two.
That’s according to a brief from the Center for Retirement Research at Boston College. In its last comprehensive review of locally administered plans’ funded status compared with that of state plans, conducted in 2011, state plans were better funded with local plans trailing.
But there have been lots of changes since then, with numerous reforms to both state and local plans seeking to control rising pension costs and limit liability growth.
In its current examination of local plans, CCR used the most recent data available—from 2015 and 2016—and found that local plans no longer trail state plans by such wide margins.
In comparing the trends in funded status for both state and local plans, the brief finds that although local plans have paid more of their actuarially required contributions than state plans, they experienced returns that were “relatively poor,” which left them lagging behind state plans.
This occurred despite their size, since local plans aren’t necessarily small ones. The report says that there are considerably more local plans than state plans, but state plans have the edge in the number of members and the amount of assets. Yet the range in size of local plans is tremendous.
The report points out that “more than 90 percent of local plans had under $1 billion in assets in 2015, but three plans–the New York City Employee Retirement System, the New York City Teachers Retirement System, and the Los Angeles County Employee Retirement System–each had market assets in excess of $40 billion.”
In the early 2000s, the report says, both types of plans were overfunded, in aggregate, but then the financial crisis hit and local funds fell more steeply than state funds. Since then, however, the funded status of local plans has “increased modestly from 67.0 to 69.9 percent, while the funded status of state plans has remained essentially level between 73.3 to 73.9 percent,” it says.
Two factors played a big role in this change: contributions and investment returns.
Depending on how much the employer actually forked over for required contributions, and how the employer calculated that contribution (new regulations kicked in in 2014, when new Government Accounting Standards Board standards replaced the Annual Required Contribution with the Actuarially Determined Employer Contribution), long-term trends in the percentage of required contributions received could be evaluated.
The “level percentage of payroll” method allows plans to amortize unfunded liabilities, but it can mean that plans can fall behind on required contributions by using smaller amortization payments early on and larger ones later, and then regularly extending the amortization period—thus keeping the payments smaller than they need to be for an indefinite period of time.
Plans that instead use the level-dollar amortization method, on the other hand, pays down the unfunded liability more quickly. But both methods can keep plans short on contributions, contributing to their underfunded woes.
Local plans, using the level-dollar method, got more of their required contributions paid up than state plans, since, the report says, “about a third of local plans already use a level-dollar method, compared to just under a quarter of state plans.”
And then there’s the matter of investment returns. Local plans tended to have higher returns than state plans, which the study says could be due in part to their lower allocation to alternative investments such as private equity, hedge funds, real estate and commodities.
Currently there’s a 6 percent differential between state and local plans’ allocations to alternative investments, which has improved the returns experienced by local plans and helped to close the gap in funded status between them.
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