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Unfunded Liabilities in PERA’s Health Plan Accumulate

by Penn Pfiffner and Barry Poulson

This legislative session Colorado HB1250 was introduced to begin addressing an unfunded billion-dollar liability in the Public Employee Retirement Association’s (PERA) retiree health care benefit program. Its own sponsor then killed the bill after it came under a fire storm of hysteria-tinged and false criticisms, fueled by one-sided media coverage.

Colorado taxpayers lost an important opportunity for the Legislature to begin the fundamental reforms required to put PERA on a sustainable fiscal path. Instead PERA will continue to carry huge unfunded liabilities that in the absence of reform will eventually require a taxpayer bailout or PERA retirees being denied their promised benefits.

About a dozen years ago, PERA established a health care program for people who retire before age 65 and no longer are covered by their government employer for health insurance. Local governments, school districts and state government contribute annually. The program is a type of “defined benefit.” In other words, a promise with no cap to the cost.

The PERA health benefit also gives retirees a direct premium subsidy even after they turn 65 and begin using the taxpayer-supplied Medicare.

HB 1250 would have changed the program from an open-ended promise to pay retirees whatever it takes, to a $230 fixed subsidy — the amount they receive today. Additionally, eligibility for PERA’s retiree health insurance would have been restricted to those 65 years of age and under, and thus not eligible for Medicare or Medicaid.

Unfunded liabilities in PERA’s retiree health plan have doubled over the past five years to more than $1 billion, and are projected to continue to grow for the foreseeable future as health benefits paid to public sector retirees continue to increase more rapidly than employer (read taxpayer) contributions to the health plan.

An Independence Institute study last year found that PERA’s amortization period is in excess of 30 years. Its actual contribution rates are far below the required contribution rates that would meet standards set by the Government Accounting Standards Board (GASB).

What’s more, the funding crisis in PERA is actually worse than reported in their annual financial statements. PERA assumes an 8 percent return on assets and uses this rate of return to discount liabilities in the plan. GASB recently issued guidelines that recommend using a discount rate that is a blend of the municipal bond rate and the Treasury rate, a rate between 4 percent and 5 percent. Using this discount rate, a recent study by Robert Novy-Marx from the University of Chicago and Joshua Rauh from Northwestern University finds that on a per capita basis, PERA has one of the most underfunded pension and retiree health plans in the country, with unfunded liabilities equal to $33 billion in the pension plan and over $1 billion in the retiree health plan. The study projects that over the next two decades, state plans with large, unfunded PERA-sized liabilities are likely to go bankrupt.

A number of states have recognized the huge risk posed by their retiree pension and health plans and have begun to make changes that follow the lead of reforms that have already been enacted in the private sector. Most private employers have either eliminated retiree health benefits, or replaced them with a defined contribution plan in which the employer caps the subsidy to retiree health insurance at a fixed dollar amount, with employees picking up the remainder of the health insurance premium.

HB1250 was an attempt to address PERA’s impending fiscal nightmare with some sensible reforms. Unfortunately, the public sector retiree lobby is better organized and louder than the Colorado taxpayer lobby. Sure, HB1250 was not going to solve all of PERA’s problems in one fell swoop, but that is more a testament to how deeply flawed our public pension system is than anything else.

Fixing this mess is a massive undertaking that will require many reforms enacted through many steps. HB1250 would have been a great first step. Let’s hope, for the sake of both Colorado taxpayers and future PERA retirees, that some courageous legislators undertake this task, and soon.

The article originally appeared in the Colorado Springs Gazette, May 3, 2012.