Legislature(2005 - 2006)
07/14/2005 12:01 PM House W&M
| Audio | Topic |
|---|---|
| Start | |
| Review of the Public Employees Retirement System (pers) and Teachers Retirement System (trs) | |
| Adjourn |
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
+ teleconferenced
= bill was previously heard/scheduled
ALASKA STATE LEGISLATURE
HOUSE SPECIAL COMMITTEE ON WAYS AND MEANS
Anchorage, Alaska
July 14, 2005
12:01 p.m.
MEMBERS PRESENT
Representative Bruce Weyhrauch, Chair
Representative Norman Rokeberg
Representative Paul Seaton (via teleconference)
Representative Peggy Wilson (via teleconference)
Representative Max Gruenberg
Representative Carl Moses
MEMBERS ABSENT
Representative Ralph Samuels
OTHER LEGISLATORS PRESENT
Representative Carl Gatto (via teleconference)
Representative Ethan Berkowitz
Representative David Guttenberg
Representative Kurt Olson
COMMITTEE CALENDAR
REVIEW OF THE PUBLIC EMPLOYEES RETIREMENT SYSTEM (PERS) AND
TEACHERS RETIREMENT SYSTEM (TRS)
- HEARD
PREVIOUS COMMITTEE ACTION
No previous action to report
WITNESS REGISTER
DON GRAY
Fairbanks, Alaska
POSITION STATEMENT: Testified during the review of the Public
Employees' Retirement System (PERS) and the Teachers' Retirement
System (TRS).
SUJIT M. CANAGARETNA, Senior Fiscal Analyst
Southern Legislative Conference of the Council on State
Governments
Atlanta, Georgia
POSITION STATEMENT: Testified on behalf of the council on
issues related to state retirement systems.
REPRESENTATIVE MIKE KELLY
Alaska State Legislature
Juneau, Alaska
POSITION STATEMENT: Asked questions during the review of the
Public Employees' Retirement System (PERS) and the Teachers'
Retirement System (TRS).
TOMAS H. BOUTIN, Deputy Commissioner
Office of the Commissioner
Department of Revenue (DOR)
Juneau, Alaska
POSITION STATEMENT: Testified during the review of the Public
Employees' Retirement System (PERS) and the Teachers' Retirement
System (TRS).
JOSEPH ESUCHANKO, President
Actuarial Service Company, P.C. (ASC)
Troy, Michigan
POSITION STATEMENT: Testified on behalf of ASC and answered
questions during the review of the Public Employees' Retirement
System (PERS) and the Teachers' Retirement System (TRS).
SENATOR HOLLIS FRENCH
Alaska State Legislature
Juneau, Alaska
POSITION STATEMENT: Asked questions during the review of the
Public Employees Retirement System (PERS) and the Teachers
Retirement System (TRS).
MELANIE MILLHORN, Director
Health Benefits Section
Division Of Retirement & Benefits
Department of Administration (DOA)
Juneau, Alaska
POSITION STATEMENT: Testified on behalf of the division and
answered questions during the review of the Public Employees
Retirement System (PERS) and the Teachers Retirement System
(TRS).
KEVIN BROOKS, Deputy Commissioner
Office of the Commissioner
Department of Administration (DOA)
Juneau, Alaska
POSITION STATEMENT: Offered a remark during the review of the
Public Employees Retirement System (PERS) and the Teachers
Retirement System (TRS).
DAVID TEAL, Legislative Fiscal Analyst
Legislative Finance Division
Alaska State Legislature
Juneau, Alaska
POSITION STATEMENT: Testified during the review of the Public
Employees Retirement System (PERS) and the Teachers Retirement
System (TRS).
ACTION NARRATIVE
CHAIR BRUCE WEYHRAUCH called the House Special Committee on Ways
and Means meeting to order at 12:01:27 PM. Representatives
Weyhrauch, Moses, Wilson (via teleconference), and Seaton (via
teleconference) were present at the call to order.
Representatives Rokeberg and Gruenberg arrived as the meeting
was in progress. Representatives Gatto (via teleconference),
Berkowitz, Kelly, Guttenberg, and Olson, and Senator French were
also in attendance.
^OVERVIEW(S)
^Review of the Public Employees Retirement System (PERS) and
Teachers Retirement System (TRS)
CHAIR WEYHRAUCH announced that the only order of business was
the review of the Public Employees Retirement System (PERS) and
the Teachers Retirement System (TRS). He relayed the agenda for
the meeting and the names and affiliations of invited speakers;
noted that the committee would accept brief public comment
before taking an at-ease until approximately 1:30 p.m., but that
the remainder of the testimony - from the invitees - would be
occurring when the committee reconvenes; and assured members and
other present that the public will have numerous opportunities
during future hearings to provide testimony. He indicated that
the committee, through hearings on this issue, would be
attempting to refine some of the committee objectives and bring
some legislation to the body in the upcoming session; to
consider a plan for addressing the unfunded liability; and to
refine any objectives regarding issues of appropriations, policy
changes, actuarial analyses, or pension revenue bonds.
12:09:06 PM
DON GRAY (ph) suggested that he can offer a two-fold perspective
on the issues because he is currently a beneficiary in TRS,
having taught for 23 years, and he has also recently retired
from a brokerage firm after 11.5 years. Regarding the $5.7
billion shortfall, he said the problem is more than the fact
that the mortality tables were outdated; the actuary gave advise
to the state that was not accurate, which resulted in the
state's reducing the amount of the employer contribution in the
late 80s/early 90s. He mentioned a press release from [Mercer
Human Resources], dated July 5, which he said looks as though
"they are positioning themselves to market benefit plans and to
sell what looks like a modified annuity program to retirees."
He said the trend is "away from a fixed benefit retirement
plan." He stated concern that [the actuary's] estimates on
health care costs were inaccurate. He said he hopes the
committee is able to evaluate the huge amount of data before it.
12:13:10 PM
CHAIR WEYHRAUCH in response to further questions, again outlined
the committee's agenda for the meeting, and offered assurance
that the public would have numerous opportunities during future
meetings to provide testimony.
12:15:00 PM
The committee took an at-ease from 12:15 p.m. to 1:35 p.m.
1:35:27 PM
CHAIR WEYHRAUCH again outlined the committee's agenda for the
meeting.
1:38:47 PM
SUJIT M. CANAGARETNA, Senior Fiscal Analyst, Southern
Legislative Conference of the Council on State Governments,
relayed that his remarks would deal with the challenges
confronting public retirement systems in recent years. He said
he would draw upon his research in preparing a 50-state review
of the nation's public retirement system, published in October
2004, as well as his ongoing study of this issue. He continued
as follows:
Part one: Any discussion of the financial position of
public retirement systems has to be placed in the
context of the overall health of state finances.
States are finally seeing improved revenue numbers,
and for the just-concluded fiscal year 2005, revenues
exceeded original budget projections in 42 states,
while three others met their targets. Revenue in only
five states came in below projections. Sales,
corporate, and personal income tax flows have all
performed admirably. This is a marked improvement
from the prior four years when states battled a fiscal
downturn termed the worst in six decades. Since
fiscal year 2001, states closed a cumulative budget
gap that surpassed $235 billion, by adopting a range
of difficult choices.
While the revenue side of the balance sheet is now
promising, unfortunately the expenditure side
continues to pose serious dilemmas. After several
years of flat growth, state spending grew by 6.6
percent in fiscal year 2005. The annual average since
1979 is 6.5 percent, even though the average over the
last five years was only 3.9 percent. Health care
costs lead the way here. And in the next decade, just
as it has in the last five years, Medicaid is
estimated to grow by 9-10 percent as year. In
addition, expenses associated with education, included
court-mandated costs, retirement systems, corrections,
transportation, demographic changes, and
infrastructure needs will continue to burden state
budgets.
1:42:12 PM
MR. CANAGARETNA continued:
Part two: State retirement systems are one element in
our nation's overall retirement architecture. There
has been a great deal of discussion recently of the
"graying" of American and the need to develop an
infrastructure to absorb the retirement needs of all
Americans. As [U.S.] Census Bureau figures indicate,
the elderly population in every state will grow faster
than the total population and seniors will outnumber
school-aged children in 10 states in the next 25
years.
Financial planners often recommend a three-legged
stool concept in planning for retirement. Each leg of
the stool is supposed to represent a source of income
in retirement, and the goal is to accumulatively
attain a standard of living at least compatible to the
one experienced prior to retirement. In this
analysis, if the first leg of the stool is Social
Security income, the other two legs of the stool refer
to personal savings and pension income.
Unfortunately, a closer view of national financial and
demographic trends reveals that all three legs of this
metaphorical retirement stool remain wobbly; a
development that threatens to seriously jeopardize the
retirement plans of the majority of Americans.
As states emerge from the recent financial downturn,
policymakers now face the daunting challenge of
dealing with weaknesses in public retirement systems.
These public retirement systems are underfunded at a
time when the first wave of the nation's Baby Boomers
is rapidly approaching retirement.
As mentioned, other areas of the nation's retirement
remain extremely shaky, as well. Specifically, the
precarious financial position of corporate pension
plan and the federal pension benefit guarantee
corporation. The looming shortfall is expected in
social security and Medicare in coming decades and the
low personal savings rates of most Americans, coupled
with higher rates of consumer and household debts.
MR. CANAGARETNA read further from his written testimony as
follows:
Part three: The employee retirement systems of state
and local governments remain a critical component of
our nation's government sector. Not only do these
retirement systems cover millions of public sector
employees and provided current and future income for
these retirees and employees, they contain significant
investment holding, as well.
After suffering steep losses-losses from which these
public pension plans continue to reel-during the
economic downturn of the early years of this decade
and during the 2000-2002 stock market collapse,
finally, most plans are seeing positive returns.
Based on the latest federal data, the cash and
investment holdings of state and local government
employee retirement systems cumulatively reached $2.2
trillion in 2003, a very slight increase - $14 million
- over the prior year.
Just a decade ago, in 1993, total cash and investment
holdings in these public pension plans amounted to
about $921 billion. Propelled by the tremendous gains
in equity investments in the late 1990s, these
holdings accelerated to about [$2.2] trillion by 2000
and have continued to hover at that level for the past
four years. During the recent fiscal downturn, a
number of state and local governments slashed their
regular contributions to their pension funds in order
to balance budgets. For instance, North Carolina
withheld $144 million in payments in 2002 and Texas
cut its contribution to the Teacher Retirement System
from 7.3 percent of employee pay to 6 percent. In
Illinois, until 1995, the state's contribution to its
pension funds was subject to an annual appropriation
by the legislature; yet, in the last decade, Illinois
lawmakers failed to allocate sufficient funds to cover
liabilities. Since 1996, New Jersey contributed
virtually nothing to its public employee retirement
plan.
1:46:02 PM
MR. CANAGARETNA continued:
My ongoing review of public retirement plans reveals
several trends. First, the increasing move by these
plans to invest in nongovernmental securities - such
as corporate bonds, stocks and foreign investments -
away from government securities - such as U.S.
Treasury bills. In fact, in 1993, public plans only
had 62 percent of their total cash and investment
holdings in nongovernmental securities; ten years
later in 2003, this percentage had ballooned to 77
percent. Several states made statutory changes to
allow their pension plans to invest more heavily in
the market; Georgia approved an increase from 50
percent to 60 percent and South Carolina Senate
approved an increase from 40 percent to 70 percent.
Second, in the last few years, payments from these
retirement plans have far outpaced receipts into the
plans. For instance, between 2000 and 2001, payments
increased by 12 percent while receipts shrank by 59
percent. Similarly, between 2001 and 2002, payments
expanded by 9 percent while receipts dwindled by 105
percent. A significant portion of these payments are
related to health care expenditures, a spending
category that has experienced substantial growth in
recent years.
Third, given the spate of accounting and corporate
scandals and the significant losses experienced by
these public retirement systems, there is a great deal
more activism on the part of the boards overseeing
these plans and state lawmakers to monitor more
closely the performance and management of their
retirement plans. Fourth, a number of research
studies indicate that in the last few years, a vast
majority of these public pension plans were
underfunded to varying degrees, ... [for example],
assets were less than their accrued liability. The
further a plan's funding level is below 100 percent,
the greater the contributions required to finance its
unfunded liability. For instance, according to the
October 2004 Southern Legislative Conference pension
report, 73 percent, or 68 of the 93 plans for which
information was secured, were unfunded to varying
degrees. Then, according to the latest (2005)
Wilshire Report on 125 state retirement systems, the
actuarial value funding ratio of plans declined from
103 percent in 2000, to 85 percent in 2004. Finally,
according to the latest - April 2005 - survey of 103
plans by the National Association of State Retirement
Administrators (NASRA), the average funding level
stood at 89 percent with a cumulative unfunded
liability of $267 billion.
1:48:42 PM
Fifth, the chilling effect of a Governmental
Accounting Standards Board (GASB) ruling released last
August on already teetering public pension plans.
GASB is the independent standard-setter for 84,000
state and local government entities. According to
this ruling, state and local governments have to place
a value on "other post-employee retirement benefits" -
consisting mostly of health care - they promise to
employees. They will also have to record as an
expense the amount - the annual required contribution
- they would need to stash away to fully fund this
long-term liability over 30 years. While the private
sector has had similar rules since 1992, for the
public sector, implementation will be phased in
beginning December 15, 2006. Given the huge spikes in
healthcare costs expected in upcoming years, the
explosion in unfunded liabilities as a result of this
ruling promises to be most alarming.
MR. CANAGARETNA paraphrased his written testimony further:
Part five: In responding to the growing crisis
associated with unfunded pension liability, lawmakers
have pursued various strategies to bolster the
finances of these systems. Pension Obligation Bonds:
One strategy adopted by states and localities in the
last decade or so involves issuing pension obligation
bonds. Given their increasing fiscal problems,
several states and localities opt to issue debt to
raise money to plough into their pension systems and
pay off, in a lump sum in today's dollars, their
unfunded liabilities. The fact that interest rates
have been at historically low levels recently and the
fact that raising taxes continues to be politically
radioactive, the opportunity to raise funds via
enhanced borrowing quickly loomed as an attractive
strategy. A further twist to this approach surfaced
in California where an effort was made by both
Governors Davis and Schwarzenegger in 2003 and 2004 to
issue pension obligation bonds to even pay for the
state's annual retirement contribution. Formerly, the
trend had been to completely retire the state's
unfunded liability portion not just pay for an annual
contribution. Some of the states that pursued pension
obligation bond strategy recently to replenish their
pension plans include California - $2 billion,
Illinois - $10 billion, Kansas - $500 million, Oregon
- $2 billion, and Wisconsin - $1.8 billion. In June
2005, West Virginia voters, in a special election,
rejected Governor Manchin's efforts to issue $5.5
billion in bonds to bolster his state's ailing pension
plans.
In selling these bonds, states are counting on the
interest payable on the bonds being less than their
pension investment earnings. Another advantage is
that states experience immediate budget relief because
their current-year contributions to a pension plan can
be secured from the proceeds of the bond issue. On
the flip side, there is always the possibility that
the market may not generate the returns to cover the
interest rate. Furthermore, once a state issues a
bond, it is locked into paying the debt whereas the
state has much more flexibility in deciding on future
pension contributions, including size, rate, and
regularity.
New Jersey's experience in 1997 offers a cautionary
tale for states mulling the pension obligations bonds
option. Then-Governor Christine Todd Whitman led an
effort that resulted in the state issuing $2.8 billion
in bonds that promised to pay off its unfunded pension
liability, solve all of its pension problems for the
next 36 years, make the state's contributions to the
plan for that year, and free up $623 million for tax
cuts. The state banked on getting returns exceeding
7.6 percent, the interest it was paying on the bonds.
For the first few years, while the economy surged
ahead and the stock market roared, the gamble appeared
to have paid rich dividends. Then, the economy
slumped and the stock market collapsed, resulting in a
severe drop in investment earnings. By mid-2003, even
after the stock market had recovered, the state only
saw returns of 5.5 percent, significantly lower than
the required 7.6 percent. In 2003, New Jersey paid
$163 million in debt service costs for the bonds and
these costs will soar to as high as $508 million
annually by 2022. The state will also have to inject
$750 million in contributions to the state pension
plan over the next five years. Consequently, the
state's costs, including interest, will escalate to
$10.3 billion. The city of Pittsburgh also suffered a
fate similar to New Jersey's with its ill-timed
pension bond offering in the late 1990s.
1:53:35 PM
MR. CANAGARETNA introduced the concept of "trimming benefits."
He continued paraphrasing his written testimony as follows:
Several strategies crop up under this category:
[1] Moving workers hired in the future to 401(k)-style
investment accounts away from the current format of a
guaranteed pension based on years of service and high
salary. California Governor Schwarzenegger advocated
this measure, but has since backed off from pursuing
it given the howls of protest. Governor Sanford in
South Carolina has also advocated this approach along
with Governor Romney in Massachusetts and Speaker
DeRoche in Michigan.
[2] Linking the annual increases in retirees' pensions
to cost-of-living increases based on the Consumer
Price Index as opposed to an automatic percentage
increase. The governors in Illinois and Rhode Island
both advocate this approach along with a New Hampshire
House Committee.
[3] Capping the amount that end-of-career raises would
contribute to a teacher's pension. In Illinois, the
governor proposed restricting big raises teachers
might receive towards the end of their careers, a
step, he contends, inflates their pensions and adds to
overall retirement debt.
[4] Adjusting the age at which employees are paid full
benefits. In Illinois, an individual who worked at
least eight years for the state can retire with full
benefits at age 60; the governor wants to raise the
age to 65. He also proposes changing - from 60 to 65
- the age at which state employees with 35 years
service can retire with full benefits. Similarly, in
Rhode Island, the governor sought to limit pensions to
only those who are 65 and who have worked at least 10
years, or those aged 65 and up, and who have worked at
least 30 years. Texas passed legislation that would
require educators to be at least 60 before retiring
with full benefits. Louisiana [proposed] pushing the
age at which teachers can get retirement benefits to
60; currently they can retire at 55 after 25 years or
at any age after 30 years.
[5] Reducing the percentage of pay a retiree gets for
each year of work. According to a Rhode Island
proposal, the maximum pension for a retired state
worker or teacher would drop from 80 percent of an
employee's three-year salary average after 35 years
work to 75 percent after 38 years.
[6] Eliminating programs like the Deferred Retirement
Option Plan, or DROP, which allows state workers with
30 years on the job to continue working up to three
years, for instance, while escrowing their retirement
benefits at a guaranteed rate of return. A number of
states and localities suffered huge financial setbacks
recently since they had entered into these DROPs
during the 1990s. When the economy nosedived and
stock market buckled, these guaranteed rates were
significantly more than what the public pension plans
were generating in earnings.
[7] Ending lucrative retirement plans where certain
state employees serve a brief period in select
positions and secure a significant boost in pension
income. Missouri recently eliminated its
administrative law judge retirement system which
allowed this practice. A Louisiana lawmaker proposed
halting the practice of granting new retirement breaks
through special interest legislation. He cited recent
bills to boost the retirement pay of nine members of
the State Police, a single judge, and 500 workers at
the Legislature.
[8] Placing salary caps on state and local government
retirees who return to work in government jobs. New
Mexico enacted such legislation.
[9] Debating the ability of public sector plans to
continue offering lucrative healthcare options to
retirees. In North Carolina and Michigan, currently,
any state employee who puts in five years of service
becomes eligible to receive free retiree health
insurance for life.
[10] Prohibiting school districts in Texas from
offering early retirement incentives.
1:57:32 PM
MR. CANAGARETNA continued:
Increasing costs: Minnesota proposed ... increased
pension contributions by public workers as well as
cities and counties. A proposal in Texas required ...
retired teachers to pay more in health care premiums.
Kentucky sought to increase the cost of retiree health
care benefits too. Louisiana proposed increasing
worker contributions to their retirement pay from 7.5
percent of salary to 8 percent. Nevada proposed
ending benefit subsidies for future state retirees
while both Arkansas and South Carolina required higher
retirement premiums from workers.
Consolidating boards: West Virginia teachers will
decide by 2006 whether to merge their two retirement
systems to create greater efficiencies. Louisiana
explored creating a single administrative board to
oversee its retirement programs for teachers and state
employees while Minnesota sought to merge the troubled
Minneapolis teachers' pension fund with the larger,
statewide fund. In Vermont, the governor and
lawmakers agreed to combine the funds of its three
state retirement systems for investment purposes.
Guaranteed returns: In a contrarian approach that has
hailed it as the first pension fund in the United
States to do so, Maine adopted a strategy known as
matching, ... [for example], deliberately aiming for
low, but guaranteed investment income to pay for the
retirement benefits of its workers. In 2003, Maine
put a third of its assets into very conservative
bonds. The bonds pay a low interest rate, but their
values will rise or fall in conjunction with the value
of the pensions the state must pay its retirees,
regardless of the trajectory of the markets.
Unorthodox investments: The Retirement System of
Alabama embarked on a series of unorthodox investments
that enabled the fund to progress from $500 million in
assets in 1973 to $26.6 billion in assets in 2004.
Some of these acquisitions include New York City real
estate, media outlets - television [and] newspapers,
hotels, a cruise ship terminal, golf courses, and most
recently, becoming the largest stakeholder of U.S.
Airways. Similarly, Massachusetts is considering a
proposal to open the state's $36 billion public
employee pension fund to all state residents for
investment purposes.
In conclusion, almost every state continues to be
plagued by unfunded pension liabilities, yet another
force pummeling state finances warily recovering from
the recent downturn. While in certain instances the
weakened pension outlook was the result of states
skipping their required contributions, the severity of
the recent fiscal downturn, demographic changes, and
the steep rise in healthcare costs are factors, too.
The implementation of the previously mentioned GASB
ruling could propel unfunded pension liability levels
to new heights beginning in December 2006, a trend
that could damage state bond ratings. Yet, the
"graying" of America, the fact that states will have
more retirees living longer in the coming years, and
the ability of the public sector to attract quality
employees in an era of dwindling retirement benefits,
requires innovative solutions. Further complicating
the public pension outlook is the fact that the
financial viability of the other elements of our
retirement infrastructure remains shaky too. Ensuring
both the short-term and long-term financial viability
of the different elements in America's retirement
systems, both private and public, remains of paramount
importance. In fact, first resuscitating and then
sustaining the financial health of our different
retirement income flows provides the underpinnings for
the foundation of the United States as an economic,
political, and military powerhouse in the global
context.
2:01:32 PM
CHAIR WEYHRAUCH asked whether the GASB ruling is mandatory and
if Alaska, or any other state, has any legal liability for
failure to comply with the ruling.
MR. CANAGARETNA said the GASB ruling will call for all state and
local governments to fall in compliance. He said there will be
a phasing process of over three years, based upon "the revenues
of the particular entity." He said he doesn't know the answer
to Chair Weyhrauch's question regarding legal liabilities, but
he offered to find out.
2:03:45 PM
MR. CANAGARETNA, in response to a request for clarification from
Representative Rokeberg, stated that the new GASB rule will
compel all 84,000 state and local government entities to put a
value on the other post-employee retirement benefits, which is
mostly health care. He explained, "In other words, they will
have to record, as an expense, the annual required contribution
for the amount they will need to assign or put away to fund this
long-term liability fully for the next 30 years." He said
actuaries estimate that this contribution could be 5-10 times
the current annual outlay for retirees' health care. He said
examples are available.
REPRESENTATIVE ROKEBERG offered his understanding that Alaska is
in conformance with [the GASB] rule, but he wants to ensure
that's true, "by definition."
2:05:44 PM
REPRESENTATIVE ROKEBERG asked whether there are any "good news"
stories regarding the use of the Pension Obligation Bond (POB).
MR. CANAGARETNA answered yes. He said the low interest rate
environment makes [using the POB] an attractive strategy. A
number of states have experienced successful bond issues. He
offered examples.
CHAIR WEYHRAUCH opined that it's a matter of timing.
MR. CANAGARETNA concurred. In terms of raw numbers, he said
Illinois' unfunded liability is the largest in the country;
therefore that state had to pursue [the POB] option just to
buttress its pension fund. New Jersey was not so lucky. He
said, "That's something that states have to ponder and ... do
their own risk-benefit analysis and come up with a strategy that
they feel is most appropriate to their own means." He said
although there have been bad outcomes, the last couple of years
have seen some pretty positive developments on that front.
CHAIR WEYHRAUCH noted that Mr. CanagaRetna used the term
"infrastructure." He asked, "In these states that have large,
unfunded pension obligations and liabilities, [have] their been
instances where their state's overall credit rating has taken a
hit because of that liability?"
MR. CANAGARETNA answered yes. He said one of the reasons that
that Illinois had to go ahead with its bond offering was to
ensure that its credit rating didn't continue to suffer as a
result of the state's huge, unfunded liability. He noted, "Just
yesterday, South Carolina's rating was lowered, mainly because
... the unemployment rate ... has been persistently high - much
higher than the national average, which is very unusual for a
state like South Carolina which, in the late 90s, did
exceptionally well in terms of generating employment." He said
rating agencies bring about their own set of demands on state
budgets, and states are pretty quick to react to possible
downgrades.
2:10:31 PM
REPRESENTATIVE MIKE KELLY, Alaska State Legislature, referred to
Mr. CanagaRetna's comments regarding the GASB-driven approach,
which he said is different than the [National Association of
State Retirement Administrators (NASRA)] graph that indicates
the funding of states. He surmised that [the NASRA graph] must
be "without any medical component."
MR. CANAGARETNA confirmed that the NASRA chart that the
committee has is "without the impact of the GASB ruling coming
into play."
REPRESENTATIVE KELLY asked, "Isn't it folly to pay much
attention to the NASRA numbers as compared with yours?"
MR. CANAGARETNA said the GASB numbers are just now becoming an
issue that people are talking about. He stated, "So, the NASRA
numbers are accurate as it is, but obviously factoring in the
GASB ruling, it'll be a whole different picture."
2:13:42 PM
TOMAS H. BOUTIN, Deputy Commissioner, Office of the
Commissioner, Department of Revenue (DOR), stated that the
Division of Treasury in DOR is the contractor for the pension
fund fiduciary for the Alaska State Pension Investment Board
(ASPIB). He noted that some pension fund responsibilities are
in a transition phase due to SB 141, given the expectation that
the bill will be transmitted to the governor and signed into
law. On September 30, ASPIB will sunset and be replaced on
October 1 by the Alaska Retirement Management Board, which will
become the fiduciary.
MR. BOUTIN noted that ASPIB is by far the largest client of the
Treasury Division. As of May 31, the Treasury Division managed
$20.3 billion, of which $12.6 billion was in PERS, TRS, Judicial
Retirement, and Military Retirement funds. Of that amount,
about $2 billion is managed internally, all in fixed income,
meaning that state investment officers buy and sell securities
every trading day, and the bulk of the money is managed by so-
called external managers - private money management firms hired
by the fiduciaries. The department manages those contracts on a
day-to-day basis for ASPIB and provides custodial, governance,
and compliance services to the board.
MR. BOUTIN said the asset allocation decided by the fiduciary
has a specific and predictable amount of volatility or risk.
Judging results over any short term could lead to conclusions
that do not properly account for that risk. Over the long term,
investment returns have exceeded both the target returns for the
asset mix selected by the fiduciary and the rate of return
assumed by the actuary. Mr. Boutin noted that for calendar year
2004, Institutional Investor magazine selected ASPIB as one of
the top three public pension plans in the nation.
MR. BOUTIN stated his understanding that the House Special
Committee on Ways and Means will be conducting a series of
meetings around the state regarding the issue of PERS and TRS.
He said he doesn't know to what degree the committee would like
to examine investment results, practices, trends, and outlook;
however, he made available to the committee all of the resources
at DOR. For example, he said he, the chief investment officer,
and the state investment officers could present any detail of
investment numbers the committee desires, including how managers
are hired and fired by the fiduciaries, how investment managers
are selected to be entrusted with the hundreds of millions of
dollars that the typical investment management firm manages.
MR. BOUTIN said ASPIB has allocated assets to investments in
real estate, agricultural land, hedge funds, private equity,
high yield bonds, and mainstream equity and fixed income
investment classes and styles. He said the investment
consultant, Callan and Associates, could present the ASPIB
results "in the context of Callan's data base that is the
universe of public and private pension plans.
MR. BOUTIN said the state comptroller is responsible for
compliance, governance, and investment accounting, and he
suggested a presentation on those topics may be of interest to
the committee. He stated that three years ago, ASPIB contracted
with a firm to provide a fiduciary audit of investment
practices. That firm came up with 85 recommendations, and the
board has now dealt with all the recommendations. A
presentation on that fiduciary audit would be another subject
for a possible presentation.
MR. BOUTIN noted that the department is also responsible for
state debt management, and he suggested the committee may want
to have some information regarding how the pension liabilities
are viewed in relation to other liabilities such as debt.
Furthermore, the department could also offer a perspective on
pension obligation bonds, although it has no experience with
issuance of those bonds. Mr. Boutin said one final idea for the
committee to consider is to come visit the Treasury Division to
meet the fixed income traders and the other state investment
officers, as well as those working in accounting and cash
management.
MR. BOUTIN, in conclusion, offered some numbers related to
investments. He noted that in fiscal year (FY) 04, PERS
investments generated a 15.08 percent rate of return compared
with 3.67 percent in 2003, while TRS investments generate a
15.09 percent rate of return compared with 3.68 percent in 2003.
The PERS and TRS annualized rates of return were 4.09 percent
over the last three years and 3.29 percent over the last five
years. FY 05 numbers are not yet available, he said.
MR. BOUTIN, regarding asset allocations, noted that during FY
04, both PERS and TRS asset allocations were 40.4 percent
domestic equities, 17.9 percent international equities, 27
percent domestic fixed income, 3.6 percent international fixed
income, 7.8 percent real estate, and 3.3 percent alternative
investments.
2:20:09 PM
CHAIR WEYHRAUCH relayed that the committee would appreciate
information detailing how the current unfunded liability came
about and what strategic approach is the Department of Revenue
advising the new Alaska Retirement Management Board to address
it. He said he would also like to know what involvement is
necessary from the legislature. He said, "I think to the extent
that we work in close partnership with the administration, the
more productive our results can be."
MR. BOUTIN agreed to research those issues and provide
information to the committee. He stated that over the long
term, the investment returns have exceeded both the target
returns and the actuarial assumptions; the asset allocation that
the fiduciary has selected carries with it a risk of a variation
in returns from year to year, including losses, which demands a
long-term perspective.
2:23:46 PM
REPRESENTATIVE ROKEBERG asked what the administrative branch's
policy is regarding the recently passed [SB 141] and "its
relationship to the legislature in the next session."
MR. BOUTIN relayed that the Treasury Division and the Office of
the Commissioner in the Department of Revenue and the Office of
the Commissioner and the Division of Retirement & Benefits in
the Department of Administration are meeting almost weekly to
address the implementation of SB 141, and reports are made to
the cabinet regarding "where we are in that implementation." He
said there are certain "things" that are needed from the Pension
Investment Board for the implementation of SB 141. He said the
expectation is that SB 141 will be signed into law.
2:27:09 PM
REPRESENTATIVE KELLY said he would like to hear from Mr. Boutin
regarding options other than pension obligation bond (POB)
approach.
MR. BOUTIN mentioned possible solutions that have been
discussed, including leveraging, POBs, and alternative options.
He indicated that the Treasury Division has decided that if one
day there is a fiduciary that wants to use leverage, the
division could come up with more appropriate increments and
lower-cost ways to borrow money.
2:32:57 PM
MR. BOUTIN, in response to comments from Representative
Gruenberg, noted that issues pertaining to liability, including
health care and actuarial assumptions are not within the purview
of the Department of Revenue. He interpreted Representative
Kelly to have said that "the map" doesn't fairly portray Alaska,
because virtually all the states on it do not include health
care in their actuarial calculation of liability, whereas Alaska
does; therefore, it's like comparing apples and oranges. He
noted that the State of Alaska has the highest credit ratings it
has ever had. Each time state general fund credit ratings are
reviewed, the pension liability is looked at and, at the current
funding levels, the State of Alaska's pension situation is not a
concern to the credit rating agencies, particularly in light of
the new GASB rule.
REPRESENTATIVE KELLY clarified that he had not intended to say
that the map shows Alaska in better shape than it appears, but
rather that the other states are portrayed inappropriately
relative to the GASB ruling.
CHAIR WEYHRAUCH clarified for the record that the aforementioned
map is from a Council and State Governments magazine; the same
magazine in which Mr. CanagaRetna's article appeared.
REPRESENTATIVE GRUENBERG asked why the state should be concerned
about the unfunded liability if the people who do the credit
rating are not.
MR. BOUTIN prefaced his answer by saying that, as Deputy
Commissioner for the Treasury Division, he does not have any
advise to give regarding what the legislature should and should
not be concerned about. Notwithstanding that, he said the
credit rating agencies look at the entire mix of assets and
liabilities and income outlook of any particular credit, and
"they've used words for this administration, like 'strong fiscal
management'" and are impressed with the resource drive of the
administration. He said, "They mention the pension situation,
but not in a negative way, when they write up the state's
credit."
REPRESENTATIVE GRUENBERG noted that there are a number of
municipalities across the state that are finding their pension
liabilities and insurance costs so high that some of them are
considering dis-incorporating "and taking other major steps."
He asked Mr. Boutin for comment.
MR. BOUTIN offered, for example, that yesterday the Alaska
Municipal Bond Bank approved purchase bonds from Petersburg and
Haines, and it looks as thought it will do so at its next
meeting for the Northwest Arctic Borough. He said that resulted
from an independent look at assets, liabilities, and future
revenues of those three political subdivisions of the state.
2:44:28 PM
JOSEPH ESUCHANKO, President, Actuarial Service Company, P.C.,
relayed that he'd done a study for the Legislative Council. He
noted that in its June 30, 2002, actuarial evaluation, Mercer
Human Resource Consulting made some significant changes in the
methods and assumptions it was using and it has been relatively
consistent in those assumptions for the next two years. He
offered the following comparison of the years 2002-2004 as
follows:
At June 30, 2002, the actuary projected the unfunded
liability in '04 to be $5.0 billion. A year later,
with additional experience, they changed their
projection to $5.5 billion, and then when the June 30,
[2004], report came out it was actually $5.7 billion.
In 2002, the actuary projected the 2005 liability to
be $5.1 billion. In 2003, they changed that
projection to $5.9 billion, and ... on June 30, 2004,
they changed it again to $6.2 billion.
MR. ESUCHANKO explained that he was not criticizing the changes;
as an actuarial gets more experience and garners more
information, it updates its information. He stated that he
roughly estimates that on June 30, 2005, [the unfunded
liability] will be $6.6 billion, which includes PERS and TRS.
Mr. Esuchanko continued with his comparison as follows:
In '02, the June 30, [2006], unfunded [liability] was
projected to be $5.1 billion. In '03 it was changed
to $6.1 billion. In '04 it was changed to $6.7
billion.
MR. ESUCHANKO said his estimate for next year is $6.9-$7.7
billion, and he leans more toward the upper end of that range
than the lower. He said the situation is getting worse compared
to what the projections have been. He said that when he made
his report to the Legislative Council, he noted that there are
alternative ways to calculating the liability. Currently, it is
calculated under a method called, "projected unit credit." He
said that's a method that's only used by 11 percent of state
plans, whereas about 75 percent use an "entry age normal"
method. He said, "It means that we calculate liability from the
time you're hired to 'til the time you retire, and we project it
along a continuum, and we look at it at this point in time."
Mr. Esuchanko said if a calculation were shown using that method
there would be a better comparison to other states' systems when
looking at their relative unfunded liabilities.
MR. ESUCHANKO said another method he suggested, which is not
used often, is a "present value of accrued benefits." That
method asks, "If the employee quits today, how much benefit has
he earned?" A value is put on that figure and is compared with
the assets. By doing this there is an idea of whether the
benefits that have been earned are being adequately funded.
MR. ESUCHANKO listed a fourth method as the "aggregate" method,
which produces no unfunded liability. He explained, "What it
does is it gives you a relatively large annual contribution,
because it amortizes all the [unfunded liabilities],
theoretically, over the work lifetime of your employees." He
offered further details. He said some consideration should be
given to "seeing what these answers look like." He continued:
As far as the future goes, the unfunded accrued
liability is going to increase over the near future,
as far as I can tell. Because you've put in a defined
contribution plan, it will begin to level out,
possibly with a small decline. And then, after your
25-year amortization period is up, it will then start
to decline because you're fully amortized.
MR. ESUCHANKO, in response to a question from Representative
Rokeberg, said he doesn't know why 25 years was chosen as the
period of amortization. He continued:
On of the primary reasons for the increase in unfunded
liabilities is the large cost of medical benefits.
When I look at the actuary's June 30, [2004],
evaluation, I see that 28 percent of the payments -
the cash flow out of the fund - ... to retirees is for
medical benefits. When I look at the accrued
liability, 38 percent ... is for medical benefits.
And when I look at the normal cost - the contribution
for this year's accrual - 43 percent is attributable
to medical benefits.
In 1999-2004, inflation increased 13.1 percent; wages
increased 16.7 percent. ... These statistics are on a
nationwide basis. The average medical premium
increased 67.5 percent. The PERS/TRS medical premium
increased 82.4 percent. Clearly medical growth is
significantly greater than inflation, and it's
becoming a larger and larger portion of the gross
national product.
MR. ESUCHANKO turned to what can be done. He said the June 30,
2004, draft of the actuarial valuation came out in the spring of
[2005]. He suggested that a full actuarial valuation as of June
30, 2005, be done as soon as possible, so that as the
legislative session begins in 2006, answers will be provided
much sooner and a known problem can be addressed rather than a
projection. From that, he said, the legislature will be able to
determine the unfunded liability. Mr. Esuchanko suggested going
one step further to "identify the sources"; discover how much of
that unfunded liability is attributable to each individual tier
and, within that, to each individual benefit. He said doing so
will give the legislature a better picture of where things are.
MR. ESUCHANKO also suggested that the legislature perform
various marginal analyses regarding, for example, the health
trend rate, inflation assumptions, investment returns, and
salary increases. Regarding the health trend rate - the
actuary's assumption as to what health costs will do in the
future - he stated his experience is that if health costs are
just one percentage point higher than the actuary assumed, the
accrued liability goes up by 8-12 percent. Regarding investment
returns, he asked, "If 8.25 [percent] is the assumed rate of
return, what happens if the real rate of return is 10 percent?
... How sensitive are the results to actual experience?"
MR. ESUCHANKO continued:
Then I'd like you to look at alternative actuarial
funding methods and assumptions. ... Right now you're
using projected unit credit; you may want to consider
entry age normal, which is probably the only other one
that I would suggest you consider. You're valuing
assets in a very traditional way and I would suggest
you stay with it. You've had experience studies done
to see how your assumptions compare to actual
experience and your assumptions are pretty much in
line with experience, but this would be a good time to
do a full experience study for a period of five or
more years to see whether assumptions should be
changed.
And then develop a strategic plan. Is there any way
you can lower operating expenses? Is there any way
you can increase net return on investments? Is there
any way medical cost savings can be instituted? And
is there any way you can reduce future pension
payment, without violating the constitution - without
taking away an employee's rights. As your committee
continues through the summer and the fall, there are
many things that I see that you can look at.
2:56:38 PM
CHAIR WEYHRAUCH asked if the legislature has purview over the
various aforementioned methods or if they are recommendations
from consultants that are adopted by the agency.
MR. ESUCHANKO offered his understanding that the actuary
recommends the changes and then the pension board makes the
final decision. He said the director of the Division of
Retirement & Benefits would be able to further comment on that
subject.
MR. ESUCHANKO, in response to Representative Gruenberg, agreed
to submit his comments in writing. He said there are expansions
of ideas that he could provide.
3:00:37 PM
SENATOR HOLLIS FRENCH, Alaska State Legislature, asked Mr.
Esuchanko if the state would have been better off if it had been
using the entry age normal method since 2002, for example.
MR. ESUCHANKO explained that if the entry age normal method had
been used, the unfunded liability would be different than it is
under projected unit credit, but "had you been using it
consistently over the years, you still would have had increases
in your unfunded liability."
SENATOR FRENCH asked, "Would it have been as large?"
MR. ESUCHANKO indicated that it may have been as large. He said
what he sees could have been done differently is the
projections. He said, "Certainly the actuary could not project
in the mid-90s that there would be a stock market problem in
2000; so some of these things are impossible to predict."
Nevertheless, he noted that what he has done is look back at the
last three years to see what has actually happened to what's
been projected. He said, "It seems obvious to me that
experience is coming out different than the actuarial
assumptions are determining, and possibly a change in
assumptions could have been made that would have projected more
accurately where you're going and allowed you to make an earlier
change in your direction."
SENATOR FRENCH surmised that making a little change in the
present could prevent problems in the future. He asked, "If we
could go back to '02 and do it all over again with perfect
hindsight, wouldn't you have increased your contribution rate
slightly then to avoid a big unfunded liability in the future?"
MR. ESUCHANKO answered, "With hindsight you would have, yes."
SENATOR FRENCH asked if medical costs caught Mr. Esuchanko's
industry by surprise. He asked, "If I went back to 2002,
wouldn't I find a whole bunch of articles in popular magazines
and ... financial magazines about how medical costs are going to
do nothing but ... increase?"
MR. ESUCHANKO answered as follows:
Within the actuarial profession it's fairly standard
practice to assume over the past several years that
health care costs would increase - let's pick a number
- 12 percent over the next year, and then the
following year drop that to 11 [percent], and then to
10, and then 9,8,7,6. Let's level [it off] at 5
[percent]. And the rationale is because medical
expenses are becoming such a high portion of the
[gross national product (GNP)] it can't go on at these
12 and 10 percent rates, so the actuary assumes it
will eventually level off at 5 percent. The fact is,
he was making those assumptions in 1992, and in 2002
he was making the same assumptions - 12 percent for
the next year - and so each year you're showing
losses. If you looked at some of these projections
out into the future for inflation and medical
expenses, then you might say that a better assumption
is 12 percent per year for the next three years, 11
percent for the next three, and 5 percent for the next
five, or something of that sort. ... We've got to
think outside the box. The actuaries at Mercer have
been making what I would call standard actuarial
assumptions; there would be no criticism from the
actuarial profession of the assumptions they are
making ....
SENATOR FRENCH concluded, "I guess ... the common sense response
to that is, 'How many years in a row can you be wrong before you
decide you're wrong?'"
REPRESENTATIVE ROKEBERG asked Mr. Esuchanko to provide
information to the committee regarding the cost of retaining his
services again and to "break the cost out to how the scope of
work can be defined in those discreet areas."
3:06:49 PM
MR. ESUCHANKO said his first recommendation would be an
actuarial evaluation as of June 30, 2005, as soon as possible.
He said the question would be whether Mercer or he performs the
actuarial, or whether Mercer performs it and he performs it as a
second opinion, which would significantly affect the fee quote.
REPRESENTATIVE ROKEBERG posited that that recommendation is
helpful.
3:07:46 PM
REPRESENTATIVE ROKEBERG noted that the Security Exchange
Commission (SEC) has recently criticized the conduct of
actuarial firms. He asked Mr. Esuchanko to comment.
MR. ESUCHANKO explained that there are actuarial standards of
practice and guidelines to professional practice of the Society
of Actuaries and the American Academy of Actuaries. He stated
that an actuary is supposed to be independent and objective in
his/her work. He said he is sure there has been criticism of
actuaries who find out what their client wants and make it
happen; however, he said he thinks there are very few actuaries
who actually do that.
CHAIR WEYHRAUCH surmised that sometimes that is not necessarily
a bad thing. In other words, if a person wants to meet an
objective, then the actuary would tell them how to get to that
objective using certain assumptions.
MR. ESUCHANKO concurred. He proffered, "I think where the
criticism would come in would be if the state would say, 'I know
we've got this big unfunded liability but we can't afford it
right now, we need an answer down here.'"
3:09:44 PM
REPRESENTATIVE GRUENBERG surmised that one of the items to
consider is the dramatic rise in health care costs, and he asked
whether there is "a branch of actuary science" that focuses on
that issue.
MR. ESUCHANKO relayed that there is such a branch though it is
not his specialty. In response to a follow-up question from
Representative Gruenberg, he offered his understanding that the
rise in health care costs is in part due to the development and
advertisement of "designer drugs." Generic drugs are not
getting nearly the amount of use as the name brand drugs. There
is a significant cost in developing drugs. He noted that a
person in a certain state of health today is using significantly
more medication than a person in the exact state of health was
using 15 years ago. He offered another factor of rising health
care costs as follows:
When a person is enrolled in a health plan where he or
she contributes nothing, you've essentially given that
person a free credit card: "Go to the doctor; charge
it to my employer." And so the discipline to ... make
conservative use of the physicians is lost with the
free credit card concept.
MR. ESUCHANKO said there are other factors that he would be
available to address if asked.
3:14:05 PM
MELANIE MILLHORN, Director, Health Benefits Section, Division Of
Retirement & Benefits, Department of Administration (DOA),
referred to a handout provided the committee entitled, "PERS and
TRS Funding." She directed attention to page 2, which shows
[earnings, actuarial rates, employer rates, and funding ratios]
for PERS and TRS, separately. She said the actuarial valuation
report itself is a report that is provided to the legislature
each spring. It is important because it measures the assets and
liabilities, provides the funding ratio, and, primarily,
facilitates in determining what the employer contribution rate
needs to be, "given the funding ratio and the promises of
benefits to future members." Referring again to page 2 of the
handout, she explained that "measurement year" is the actuarial
valuation year. She said, "This is a four-year look-back with
the most recent actuarial valuation that we have, which is in
draft right now." The handout shows for PERS that the
measurement year is fiscal year (FY) 01, which, Ms. Millhorn
said, "sets the employer contribution rate as of FY 04." She
noted that the actuarial investment return for PERS and TRS is
8.25 [percent]. The actual investment return was a negative
5.25 percent. She noted that the actual investment return for
measurement years FY 02, 03, and 04 was negative 5.48 percent,
positive 3.67 percent, and positive 15.08 percent, respectively.
MS. MILLHORN read the next line, which shows the cumulative
dollar shortfall, the most recent being a shortfall of $3.5
billion. The average calculated rate in the next row shows 6.77
percent under measurement year FY 01, which she said is an
average taken from approximately 155 employers with their own
contribution rates. She noted that, per regulation, that
contribution rate can increase or decrease up to 5 percent in
any one year. The contribution rate for measurement years FY
02, as recommended by the actuary, she noted, was 24.91 percent.
She explained the reason that number is [typed in bold] is
because she has other presentation material that goes back to
that valuation and what happened during it to "get us to where
we are right now." She read the average calculated rates for FY
03 and 04, which were 25.63 percent and 28.19 percent,
respectively.
MS. MILLHORN, [in regard to the board adopted rates, which are
shown on the next line down], said:
Right now, the board normally meets and sets a rate;
they have not done that at this point in time, and
it's expected that they will do that in October. But
what the division has done during that intervening
time period is we have advised all of our employers
that they should anticipate, at a minimum, for
budgetary purposes, up to a 5 percent increase. So,
that communication was sent to the employers the very
beginning part of June.
If the board adopts a 5 percent increase, that would
represent 25 percent for FY 07. And if again they
adopt another 5 percent increase, which is ... the
expectation, it would be 26 percent. And the reason
that is really, critically important is: For every
year you do not contribute at the actuarial calculated
rate, as recommended by the actuary, you're adding
additional liability to your system.
MS. MILLHORN said the funding ratio [shown on the next line] for
2001 was 100.9 percent and dramatically changed to 75.2 percent
for 2002. Currently the draft valuation shows the funding ratio
at 70.2 percent.
MS. MILLHORN reviewed the numbers shown for corresponding
categories in TRS. She highlighted that the actual investment
returns for FY 01, 02, 03, and 04 were negative 5.35 percent,
negative 5.49 percent, positive 3.68 percent, and 15.08 percent,
respectively. She stated, "Currently, the shortfall (indisc. --
coughing) about $3 billion for a total of $5.7 billion as of the
valuation in draft for 2004." The recommendation from the
actuary from the TRS 2002 valuation was 35.35 percent, she said.
The funding ratio, she said, is 62.8 percent.
MS. MILLHORN said there are 3 primary drivers associated with
the underfunded status: rising health care costs, loss of
investment income, and change of assumptions. She directed
attention to page 5, which she explained is a document directly
from the actuarial valuation provided [June 30, 2002]. It shows
that the contribution rate [from the prior year] was 6.77
percent and after adding all the variables, the contribution
rate shows as 24.91 percent. Two of the factors shown, both
health care related, add up to 10.66 percent. She noted that
many of the factors listed on page 5 are a consequence of an
audit that was conducted by Milliman USA in 2002. The purpose
of the audit was to ensure that the actuarial condition of the
system accurately measures the assets and the liabilities, and
that the assumptions are reasonable in order to pay for promised
future benefits. When that audit was conducted, the actuary
made recommendations to change the health trend from 7.5 percent
to 12 percent for the next three years, then grading down to 5
percent by FY 17.
3:24:21 PM
SENATOR FRENCH asked if that happened.
MS. MILLHORN said it did, adding that after the actuarial audit
was conducted, all of the recommendations that were made by
Milliman USA were adopted by Mercer Human Resource Consulting,
and those changes were later adopted by the board to be included
in "this actuarial valuation."
MS. MILLHORN, in response to a question from Representative
Wilson, said that, unlike for PERS, there is not a regulation in
place that sets the rate of increase or decrease for TRS; thus,
the board recommends the employer contribution rate. She said
that for about ten years the board had adopted an employer
contribution rate that was fixed, but after a downturn in the
market, the board recommended a 5 percent increase to the
commissioner of the Department of Administration. In response
to a follow-up question from Representative Wilson, she said the
5 percent limit for PERS was established in regulation.
REPRESENTATIVE WILSON-noting that ... knew it was inadequate,
did they inform the legislature of that fact.
MS. MILLHORN, in response to another question from
Representative Wilson, indicated that the final authority for
changing the 5 percent amount rests with the commissioner.
REPRESENTATIVE WILSON pointed out that the commissioner may not
know the need for the change if he/she is not informed.
MS. MILLHORN offered her recollection:
When the employer contribution rate was discussed at
the last meeting and established increases at 5
percent, that was joint PERS/TRS meeting. And I
recall that actually for [PERS], initially there was a
recommendation for less than 5 percent, but ultimately
5 percent was adopted. And different employers come
to those meetings and I do not recall that there was
any testimony that indicated that it should be higher
than the 5 percent, and it's my sense, if you will,
that while [TRS] normally adopted a flat employer
contribution rate, it appeared as if they were
following suit ... with the board members for [PERS].
REPRESENTATIVE WILSON said she could understand "in the last
couple years the hesitancy, especially for PERS, for
municipalities, because they haven't been getting revenue
sharing," but with regard to the major jumps in percentages that
have shown historically, she said she wonders how that happened.
3:31:20 PM
REPRESENTATIVE ROKEBERG asked when the 2002 audit was made
public.
MS. MILLHORN answered that the audit was conducted in October
2002, at which time the division received the report. She said,
"Thereafter, that information was provided to the boards, and
then ultimately incorporated into the valuation." She said the
schedule for the valuation begins in September when the actuary
receives the data file from the division, and the actuary spends
from September until approximately December or January doing all
the analyses necessary in preparation for the draft valuation to
come out the first part of February to be submitted to the
boards in March and to the legislature shortly after adopted by
the boards.
MS. MILLHORN said the practice has been for the boards to look
at the valuation report and then, after adopting it, a copy of
that valuation "goes to the legislature; goes to the governor."
REPRESENTATIVE ROKEBERG surmised that if the report was received
in October of 2002, it would have been available for the
deliberations of the 2004 budget in "calendar 03." He said he
is not frankly sure that the legislature was aware of that.
3:33:12 PM
MS. MILLHORN - noting that she was not present when this process
happened - explained what would happen when an audit was
completed:
That audit would be reviewed by the board and, after
that point, they would make determinations about
accepting the recommendation. Obviously Mercer did.
They accepted the recommendations by Milliman, and the
very next process would be that the board would
receive that information. Thereafter, they would
concur with that information, and then it would be
incorporated into the valuation, which would then be
received by the legislature. I'm not sure that
there's an explicit process whereby any of the audits
go to the legislature separately from the actuarial
valuation.
REPRESENTATIVE ROKEBERG emphasized how important it is to him to
be able to see the time line.
REPRESENTATIVE GRUENBERG asked Ms. Millhorn when [the Department
of Administration] first became aware that the average
calculated rate was increasing dramatically.
MS. MILLHORN estimated that the department would have become
aware of it somewhere around December or January.
REPRESENTATIVE GRUENBERG noted that the effect of retirement
incentive programs (RIPs) or rehiring retired employees has not
yet been discussed, which are both issues that he thinks have
contributed to the problem. He stated his concern that "this
has gotten away from us" and he would like the committee to take
a look cause and prevention, and would welcome Ms. Millhorn's
advise.
REPRESENTATIVE ROKEBERG noted that the legislature has been
accused of being part of causing the problem and he said he
takes great exception to that, because most of the legislature
was not even aware of the problem until most recently, but now
is being told the information was available much sooner.
REPRESENTATIVE GRUENBERG said he is hoping to fix the problem
rather than affixing blame.
CHAIR WEYHRAUCH concurred that that was the goal of the
committee.
3:40:26 PM
MS. MILLHORN in summary, invited members to inform her division
of ways in which it can help the legislature achieve its goals.
CHAIR WEYHRAUCH suggested that such a process might be time
consuming but much needed, and expressed his hope that the cause
of the problem can be discovered in order to come up with
preventative measures for the future.
MS. MILLHORN relayed that the division's handout also provides
details of the information she'd originally discussed, adding
that similar material is available with regard to TRS, and that
Mr. Boutin mentioned that there is material that discusses the
change in net assets compared to the change in liabilities over
a ten-year period. She said that information can be found in a
two-page letter from Mercer Human Resource Consulting [attached
to the report].
REPRESENTATIVE ROKEBERG said the asset methodology change,
particularly the recognition of deferred losses, has had a
substantial impact on the shortfall. He asked for clarification
of the term, "corridor adjustments," and said he would like to
know "what was done previously."
MS. MILLHORN explained that the corridor adjustment method looks
at a corridor above and below assets and makes a calculation
based on that. She said the methodology does not work well when
there is a downturn in the method. Furthermore, the corridor
method has been described as complicated and difficult to
understand. Milliman changed to the asset smoothing method,
which is a common method used by pension systems. However, in
order to make that change, it was necessary to "reset to market
the fair value of assets." In order to take in losses, that
change represented a $1 billion immediate recognition for PERS
and $866 million immediate recognition for TRS.
3:47:02 PM
REPRESENTATIVE GRUENBERG referred to page 3 and told Ms.
Millhorn that he would appreciate any further identification the
division could provide [explaining the causes of the deficit].
REPRESENTATIVE ROKEBERG asked whether there is an executive
summary of the audit.
MS. MILLHORN said she would provide Representative Rokeberg with
a copy of the audit.
REPRESENTATIVE ROKEBERG asked what the difference is between ad
hoc [post retirement pension adjustment (PRPA)] and [Cost of
Living Allowance (COLA)].
MS. MILLHORN said that the ad hoc PRPA is a benefit available to
Tier I PERS and TRS members, and it is discretionary; it is
based on the financial health of the system. She explained that
COLA is available in statute and is based on residency and
individual (indisc. - fade out).
REPRESENTATIVE ROKEBERG surmised that in the FY 02 budget the
legislature appropriated $20 million as an extra bonus to Tier I
employees. He asked, "Is that at the discretion of the
legislature to grant that, or what?"
MS. MILLHORN said that such is recommended by the PERS and TRS
Boards and approved by the commissioner.
CHAIR WEYHRAUCH pointed out that the bonus to Tier I employees
occurred at a time when the state was experiencing a $2.4
billion shortfall.
MS. MILLHORN, in response to a question from Representative
Rokeberg regarding a COLA lawsuit, relayed that Assistant
Attorney General Neil Slotnick is handling that case. She said
the case was heard by the superior court, which decided, against
the State of Alaska, that "it was a violation of the
constitution not to pay those individuals because they had
decided to live in a high cost-of-living area." The case is
being heard next in Alaska Supreme Court.
3:52:50 PM
REPRESENTATIVE GRUENBERG offered his understanding that the PRPA
was based on litigation, too.
MS. MILLHORN concurred. She offered further details. In
response to Representative Gruenberg, she said the PRPA is
funded out of the pension system, not out of general funds. In
response to a follow-up question from Representative Gruenberg,
she said the Commissioner of the Department of Administration
has not approved an ad hoc PRPA in the last three years, due to
the funding of the system, and there has been no law suit
brought forward.
REPRESENTATIVE GRUENBERG pointed out that the statute of
limitations had not yet run out.
3:55:51 PM
KEVIN BROOKS, Deputy Commissioner, Office of the Commissioner,
Department of Administration (DOA), noted that the recently
passed SB 141 addresses many of the issues being raised.
3:56:57 PM
DAVID TEAL, Legislative Fiscal Analyst, Legislative Finance
Division, Alaska State Legislature, regarding the shortfall,
said he thinks the options are clear: reduce expenses or
increase income. He said Mr. CanagaRetna's testimony provided a
good starting point; a list of what other states have done to
reduce expenses. He noted that Mr. Boutin had testified that
the legislature can look at earnings in terms of increasing
income. Mr. Teal said, "You may be able to increase earning,
but I can tell you that I would be happy to have the returns
that the pension funds have had on my personal account." He
said he thinks contributions have not really been looked at yet
- "the ability to address this through additional
appropriations." He reminded the committee that the state has
been running a deficit of approximately $500 million a year, for
the past decade. Although revenue in the state is promising,
the expenditures are increasing faster than the revenue. The
price of oil is high and likely to stay so. He said [FY]
expenditures were approximately $2.5 billion if you correct for
crossing fiscal years and jumped to over $3.2 billion in [FY]
06, which is an increase of more than 25 percent. He stated,
"The outcome is likely that we simply fill the deficits that we
faced in the past; I don't expect any surplus on a continuing
basis."
MR. TEAL said that the good new is that the state has included
health costs in its analysis, because it will not be affected by
the GASB methodology change. Alaska is far from being short of
cash like some states are. Nevertheless, the deficit of $5.7
billion is not a small amount, particularly given that the
projection is that it will increase as high as $15 billion in
the future. He noted that the deferred compensation plan that
was recently adopted, by its nature eliminates unfunded
liabilities. He said it is important to look at the trend,
which, he suggested, illustrates that the situation has
deteriorated. Nothing works every time and everywhere, but
there are steps that can be taken. He said, "It's hard to see
the results when something turns so slowly, but I'm just glad
that you recognize that there is a problem and that it's better
to turn slowly than not turn at all." He indicated that the
Legislative Finance Division can offer assistance, but like the
Division Of Retirement & Benefits, will need some direction from
the legislature. He concluded, "Give us some direction, and
we'll do the best we can."
4:04:25 PM
CHAIR WEYHRAUCH surmised that today's meeting offered the
committee a chance to hear the different views of those who
testified. He said that further meetings will focus on further
refining the problem with the goal of arriving at solutions. He
expressed appreciation to those who testified for providing the
public with information regarding the unfunded liability, and he
said he thinks there are many good ideas to divine from the
public and special interest groups in the future.
REPRESENTATIVE GRUENBERG thanked the chair for addressing these
issues in a bipartisan manner. He asked Chair Weyhrauch if he
plans to conduct future hearings limiting the topic to the
unfunded liability issue.
CHAIR WEYHRAUCH said that he does not want future meetings to
denigrate into a critical process of "what we've done with
respect to the policy decision and implementing the defined
contribution plan." He said he would like to focus on making
what has been recently adopted better. In response to another
question from Representative Gruenberg, he indicated that he
envisioned holding at least three more meetings before the start
of the next legislative session.
REPRESENTATIVE ROKEBERG noting that he'd had discussions with
Carol Comeau, Superintendent, Anchorage School District, and he
thinks school districts should be encouraged to participate in
the process. He said he is particularly impressed with the
methods that NEA has used for its health care cost containment.
He said that is an issue that could be explored in a more formal
manner with a greater degree of detail. He also suggested that
Mr. Slotnick be invited to discuss issues such as the COLA case
and ad hoc PRPA legal review and what the legislature can do to
manage those issues. He characterized Mr. Teal's comment - that
even with the surplus the state generates from oil revenue for
the next ten years the state will still have a shortfall - as
disturbing.
4:12:43 PM
REPRESENTATIVE WILSON suggested that having an idea ahead of
time when future meetings might occur could facilitate members'
ability to attend. Referring to the ratio of seniors to school
age children, she said she would like to know the numbers for
Alaska. Regarding a suggestion that permanent fund earnings be
used, she pointed out that the pension is only for state
employees, while the permanent fund earnings are spread across
to all residents of the state; therefore, she warned that there
could be an outcry in using those funds to solve the shortfall.
She indicated that she thinks the legislature needs to look at
the previously discussed methods and consider using more than
one. She noted that Mr. Esuchanko had suggested a lot of
possible ways to looks at the situation and get information and
facts, in order to proceed intelligently.
CHAIR WEYHRAUCH noted that the public employee unions, school
districts, NEA, the municipalities through the Alaska Municipal
League (AML), and other employers around the state have all
offered to assist the committee as it deliberates on this issue
and would certainly be invited to the discussion. He said more
information would be garnered and more expertise would be sought
to help advise the committee.
ADJOURNMENT
4:16:46 PM
There being no further business before the committee, the House
Special Committee on Ways and Means meeting was adjourned at
4:16 p.m.
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