State pension funding gap grows for FY 2016

The funding gap for state pensions grew for fiscal year 2016, with a number of failures to reach sustainability.

That’s according to an analysis by the Pew Charitable Trusts, which examined 2016 because it was the most recent year for which comprehensive data were available for all 50 states. Among the problems it identified that increased the gap were states coming up short on their investment targets; setting those targets too high; andfailing to set aside enough money to fund pension promises made to public employees.

The report says that in 2016, the state pension funds included in the study cumulatively reported a deficit of $1.4 trillion, which represents an increase of $295 billion from 2015 and the 15th annual increase in pension debt since 2000. Overall, it found, state plans disclosed assets of just $2.6 trillion to cover total pension liabilities of $4 trillion.

Poor investment returns accounted for a major part of the shortfall, with the median public pension plan’s investments returning only about 1 percent in 2016. That’s considerably below the median return assumption of 7.5 percent, and that disparity added about $146 billion to the debt.

Another chunk of the shortfall came from assumption changes, with states mostly lowering the assumed rate of return used to calculate pension costs. That contributed for another $138 billion in increased liabilities.

But even if markets had done better and met those high return assumptions, it still wouldn’t have been enough to meet plan funding obligations. Thanks to states not contributing enough to meet their obligations to plans, the gap would still have risen by about $13 billion. Overall, states would have had to kick in $109 billion to pay for both the cost of new benefits and interest on pension debt; the actual amount contributed, $96 billion, fell short.

While preliminary information for 2017 points toward a boost in market returns lessening unfunded liabilities somewhat, the flip side of that is increased volatility that can easily go the other way and increase risk to pension funds—particularly if states continue to fail to fully fund their obligations.

Says the report, “Even small changes to projected returns can significantly increase liabilities. Pew applied a 6.5 percent return assumption, instead of the median assumption of 7.5 percent, to estimate the total liability for state pension plans and found that it would increase to $4.4 trillion—$382 billion more than the current amount. The funding gap would then jump to $1.7 trillion.”

It adds that “Ultimately, differences in state pension funding levels are driven by policy choices, with well-funded states having records of making actuarial contributions, managing risk, and avoiding unfunded benefit increases.” Most states are failing to do so, with only four states in the whole country at a funding level of at least 90 percent—New York, South Dakota, Tennessee and Wisconsin. Five states were less than 50 percent funded, and 17 other states had less than two thirds of what is required.