Retiree Healthcare Tops Unfunded Pensions as Fiscal Threat

Retiree Healthcare Tops Unfunded Pensions as Fiscal Threat
July 24, 2014

Can anything be in worse condition than unfunded government pensions? Unfortunately, yes—and it’s something few people have heard of. It’s called OPEB (Other Post-Employment Benefits), or government retiree healthcare commitments. The average state has $11.46 billion of unfunded retiree healthcare debt, compared to $10.85 billion of pension debt as of fiscal year-end 2012. 

OPEB and pension benefits are part of employee compensation. Just like salaries, these retirement benefits are costs incurred each year the employees work, and they should be included in the state's budget and paid each year. Today’s taxpayers should pay all compensation costs for services they receive.

Unfortunately, state governments do not include all these compensation costs in the budget as employees earn them. Instead, states typically handle OPEB benefits on a “pay-as-you-go” basis. Because no money is set aside each year to cover these expenses, future taxpayers must cover retirees' healthcare checks when they are written. Current employment costs are paid by future taxpayers who did not receive services from the retired employees.

Accounting Tricks

Some states use an accounting trick to make their OPEB debt appear lower. By dropping a few dollars into an OPEB fund, states can assume higher rates of return, decreasing the estimated size of their unfunded promises. Hawaii recently “prefunded” $100 million of its $11.2 billion in retiree health promises. An accounting loophole then allowed the state to assume a rate of return of 7 percent instead of 4 percent on investments. Hawaii’s unfunded OPEB debt magically decreased from $11.2 billion to $7.7 billion—a $3.5 billion reduction by the stroke of a pen.

Across the Fortune 1000 companies, combined debt for retiree medical benefits totals $285 billion, according to a recent Wall Street Journal article. State retiree medical benefit debt totals more than twice that amount, $573 billion. The public is not as well informed about government retiree healthcare funding as business investors. Governments still hide their retiree healthcare debt from public view. 

Hidden Health-Care Debt

Beginning in Fiscal Year 2015, governments will be required to disclose all their retiree pension debt to the public. But the hidden retiree health-care “grenade” will continue to rattle around the floor, pin loose and ready to fall out. If current revenues are not enough to cover increasing health expenses (for prior services), other spending priorities may suffer. 

Instead of including current-year checkbook receipts and only checks written, states should calculate all bills and expenses incurred regardless of when they will be paid. Budget documents should clearly estimate year-end debt (the balance sheet, including pension and retiree healthcare debt). We call this FACT-based budgeting (Full Accrual and Calculation Techniques). FACT-based budgets fully inform citizens of the results of their state’s spending plans, enabling them to hold elected officials responsible. 

To see how your state’s retirement pension and healthcare debt has grown since 2009, and compare it to other states, use the “Create Your Own Chart” option at http://www.statedatalab.org/.

Donna Rook (drook@statedatalab.org ) is president of StateDataLab.org, a project of Truth in Accounting.