Legislature(2005 - 2006)
09/08/2005 01:01 PM House W&M
| Audio | Topic |
|---|---|
| Start | |
| Discussion of Pers/trs Shortfall Issues | |
| Adjourn | |
| Discussion of Pers/trs Shortfall Issues |
* 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
September 8, 2005
1:01 p.m.
MEMBERS PRESENT
Representative Bruce Weyhrauch, Chair
Representative Norman Rokeberg
Representative Paul Seaton
Representative Peggy Wilson
Representative Max Gruenberg
MEMBERS ABSENT
Representative Ralph Samuels
Representative Carl Moses
OTHER LEGISLATORS PRESENT
Representative John Coghill
Representative David Guttenberg
Representative Jay Ramras
Representative Carl Gatto
Representative Mike Kelly
Representative Kurt Olson
COMMITTEE CALENDAR
PERS/TRS FUNDING SHORTFALL ISSUES
- HEARD
PREVIOUS COMMITTEE ACTION
No previous action to report
WITNESS REGISTER
MELANIE MILLHORN, Director
Health Benefits Section
Division of Retirement & Benefits
Department of Administration
Juneau, Alaska
POSITION STATEMENT: Testified on behalf of the division.
DAVID TEAL, Legislative Fiscal Analyst
Legislative Finance Division
Legislative Agencies & Offices
Juneau, Alaska
POSITION STATEMENT: Testified during the discussion of PERS/TRS
shortfall issues.
GARY HUTCHISON
Fairbanks, Alaska
POSITION STATEMENT: Testified on behalf of himself to recommend
a change to the [Alaska State] Constitution.
CHARLES GALLAGHER, Chair
Retired Public Employees of Alaska
Northern Region Chapter
Ester, Alaska
POSITION STATEMENT: Testified on behalf of himself during the
discussion of PERS/TRS shortfall issues.
DORIS ROBBINS, Member
Retired Public Employees of Alaska (RPEA)
Fairbanks, Alaska
POSITION STATEMENT: Testified during the discussion of PERS/TRS
shortfall issues.
RICHARD SOLIE, Ph.D.
Fairbanks, Alaska
POSITION STATEMENT: Offered comments during the discussion of
PERS/TRS shortfall issues.
JEFF JOHNSON
Fairbanks, Alaska
POSITION STATEMENT: Testified during the discussion of PERS/TRS
shortfall issues.
BILL BJORK, President
NEA-Alaska
Anchorage, Alaska
POSITION STATEMENT: Testifying on behalf of NEA-Alaska, offered
advise during the discussion of PERS/TRS shortfall issues.
WAYNE HEIMER
Fairbanks, Alaska
POSITION STATEMENT: Testified on behalf of himself to make a
suggestion during the discussion of PERS/TRS shortfall issues.
DON GRAY
Fairbanks, Alaska
POSITION STATEMENT: Testified on behalf of himself during the
discussion of PERS/TRS shortfall issues.
V. K. LAHDENPERA
Anchorage, Alaska
POSITION STATEMENT: Testifying on behalf of herself, offered
comments during the discussion of PERS/TRS shortfall issues.
KEVIN RITCHIE
Alaska Municipal League
Juneau, Alaska
POSITION STATEMENT: Testified on behalf of the AML during the
discussion of PERS/TRS shortfall issues.
ACTION NARRATIVE
CHAIR BRUCE CHAIR WEYHRAUCH called the House Special Committee
on Ways and Means meeting to order at 1:01:36 PM. Present at
the call to order was Representative Weyhrauch. Representatives
Rokeberg, Seaton, Wilson, and Gruenberg joined the meeting via
teleconference as it was in progress.
^DISCUSSION OF PERS/TRS SHORTFALL ISSUES
1:02:58 PM
CHAIR WEYHRAUCH announced that the only order of business was
the discussion of PERS/TRS shortfall issues. He said that
presently there is approximately a $5.7 billion unfunded
liability and a question regarding what that means to both the
systems, those in them, and those retired from them. He
clarified that the purpose of the hearing was not to delve into
policy debates over whether there should be a defined benefit or
defined contribution plan; that policy decision has already been
made by the legislature. He said the House Special Committee on
Ways and Means will be looking at the financial implications
related to the unfunded liability and what, if anything, the
legislature should do about it. He said the committee will hear
public testimony and then decide whether there are a range of
options to present to the legislature to address the unfunded
liability. He reviewed that at the last hearing, the committee
did not take public testimony, but heard from recognized experts
on state retirement systems to place Alaska's system in the
context of the national perspective. He offered a brief history
of the House Special Committee on Ways and Means and noted that
"this kind of a hearing fits within the strategic context" of
the committee.
1:10:59 PM
MELANIE MILLHORN, Director, Health Benefits Section, Division of
Retirement & Benefits, Department of Administration, referred to
a memorandum in the committee packet, dated September 7, 2005,
which she said shows the response of the division to questions
posed by Chair Weyhrauch. The first question asks what the
present amount of the unfunded liability is for PERS and TRS.
As of the draft valuation of June 30, 2004, the unfunded accrued
liability for PERS is $3.4 billion and $2.4 billion for TRS.
The total unfunded liability, as previously mentioned, is $5.7
billion. She noted that it takes the actuary six months to
conduct a complete valuation on each of the systems. The
valuation for a one-year period ending June 30, 2005, was
available for dissemination in draft form as of April 2006. She
noted that the information was reviewed by the PERS and TRS
Boards in March, but the valuations were not finalized;
therefore, they are still in draft form.
1:16:55 PM
REPRESENTATIVE DAVID GUTTENBERG, Alaska State Legislature, asked
if the state is still retaining the services of Mercer [Human
Resource Consulting] as its actuary.
MS. MILLHORN answered yes; however, she noted that the division
went out for a request for proposal (RFP) for actuarial
services, and expects to award a contract for actuarial services
based on the successful bidder sometime in October. She
estimated that there are five actuarial firms that have a
national reputation for working with government pension plans;
and out of those five national firms, the state received
proposals from four.
1:18:21 PM
MS. MILLHORN referred to the second question in the memorandum,
which asks about the definition of the term "unfunded liability"
and how it differs from "deficit" or "debt." She defined
unfunded liability as "the excess of the accrued liability over
the assets of the plan at the valuation date." She explained
that a deficit is simply "the amount by which a sum of money
falls short of what is necessary," while a debt is "the amount
that is promised and is owed." The question also asks how the
unfunded liability is calculated and whether it is likely that
the events on which the calculation is based will occur. Ms.
Millhorn said the actuary goes through a detailed process in
determining what the accrued liability is for future obligations
of the system. She noted that the valuation reports back to
1976 are available on line.
MS. MILLHORN stated that the valuation itself sets out the
assumptions that underlie the valuation. She said it's
important to remember this is an annual process whereby the
system is evaluating and telling policy makers exactly what the
status is of the retirement system. She described the process
as "a snapshot in time." The valuation reveals "what your
future obligation is for these members as of that date." She
added that it's also important to remember that valuations are
subject to change year after year.
MS. MILLHORN said that an important component of the valuation
report is that it sets out and determines what the accrued
liability is by comparing the assets of the system to the
liabilities and thus establishing the employer contribution rate
or the amount the system needs to collect from the employers in
order to pay for promised benefits for its members. If the
system has accrued liability that is higher than the valuation
of the assets, the result is an unfunded liability. That
unfunded liability for the system, as of that point in time, is
then amortized over a 25-year period to pay off the unfunded
liability. Based on the information as of June 30, 2004, the
actuary recommended that the PERS employer contribution rate be
set at 28.19 percent and the TRS employer contribution rate be
set at 41.78 percent. If the board were to have approved those
recommendations, then those rates would have been set in place
for the next 25 years. Ms. Millhorn noted that there are two
components to the employer contribution rate: the normal cost
rate and the past service rate.
1:25:36 PM
MS. MILLHORN, regarding the likelihood of the events on which
the calculation is based occurring, indicated that coming into
play are economic and demographic assumptions. She said those
assumptions are in place in order to pay for the future
obligations; however, it is also known that those assumptions
may change over time. For example, she noted, the medical cost
trend was reset in 2002 after a valuation. She said a new
mortality table was in place as of 2000. The targets are made
by the actuary with the best estimates that are available.
1:28:04 PM
MS. MILLHORN turned to the third question in the memorandum,
which asks what the liability means in general and, in
particular, for: state finances, credit rating, additional
appropriation, retirees, current employees, and payment of
medical and pension benefits. She noted that attached to the
pages of information provided by the division is a one-page
chart that shows the increase in the employer contribution rate
from fiscal year (FY) 06-09 for five different categories: the
State of Alaska, the University of Alaska, the school districts,
the municipalities, and a total for all categories. For
example, she said, the increase to the State of Alaska in FY 06
is $40 million, for a total of $142 million.
1:29:09 PM
MS. MILLHORN said, "The projection is that this increments up by
5 percentage points per year. And it's important to note when
we're talking about an increase in 5 percentage points that that
is additive, which means the employer contribution rate for FY
06 for PERS, set at 16.77 [percent], when ... adopted at a 5
percent increase - 5 percentage points - ... means that that
rate goes to 21 percent."
1:30:52 PM
REPRESENTATIVE GUTTENBERG asked for an idea of what other
changes occurred, including what assumptions have changed.
1:31:08 PM
MS. MILLHORN noted that the valuation of 2002 was a "pretty
dramatic change for the system." She said there were some
changes in assumptions and there were some experiences that were
taken into the system as of that valuation for 2002 that
included a change in the medical cost trend and the actual
experience as a result of medical costs for the system during
that one-year period. She offered further details:
There was a projection in place that indicated that
the medical costs were at 8 percent and then that
would decrement down to the next 9-year period, or so.
And when they reset that, they recognized that the
actual experience for the system, year after year, was
closer to 9-10 percent, and so they reset the medical
trend to 12 percent for the next 3 years, followed by
a decline in that medical cost trend. And ... those
two factors added together for that valuation in 2002
added 10 percent to the employer contribution rate in
one year for PERS and TRS.
MS. MILLHORN said a recommendation based upon a valuation by
Milliman, the auditor of the system, was that the actuarial
valuation system itself needed to be changed. She indicated the
change was recommended "because they used a corridor method."
She explained that the corridor method "looks at a band that
surrounds your assets." It was determined that that band was
too narrow. The recommendation was to use an "asset smoothing
method," which she explained takes in the gains and losses to a
system in a 5-year period. The method is designed to "take the
volatility out of spikes in your employer contribution rate."
In order to make that change, it was necessary to "reset to the
market value of assets," which recognized all the losses for
PERS and TRS in a one-year period. It added $1 billion to PERS
and about $600 million to TRS.
1:35:19 PM
MS. MILLHORN, regarding credit rating, said she believes the
Department of Revenue should address that question.
1:35:46 PM
MS. MILLHORN, in regard to additional appropriation, noted that
in accordance with SB 141, the [Alaska Retirement Management
(ARM) Board] will come up with short- and long-term solutions to
deal with the unfunded liability. That board will be
"constituted" in October, will meet, and will provide a report
to the legislature regarding its recommendation associated with
additional appropriation. With regard to retirees, she said the
liability has no impact. She said, "Those benefits are
constitutionally protected under the Alaska [State]
Constitution, Article 12, Section 7. She said that has been
tested and upheld in the court system. Those benefits cannot be
diminished, nor impaired; it's a contractual relationship that
exists.
1:36:45 PM
REPRESENTATIVE WILSON asked what happens to the state and the
system when people retire early.
1:37:17 PM
MS. MILLHORN asked for clarification as to whether
Representative Wilson was referring to those who retire through
a retirement incentive program (RIP) or when an employee chooses
to retire earlier.
1:37:51 PM
REPRESENTATIVE WILSON answered both.
1:37:56 PM
MS. MILLHORN noted that the state has offered multiple RIPs.
She said:
We have not actually calculated that to determine what
the impact is, but we do know - based on the most
recent analysis prepared in response to House Bill
329, which was a RIP bill - ... that due to rising
health care costs, it is exceedingly difficult for the
... system to actually find a savings in order to let
the individual retire early. It's designed to give
the individual three years of service, so long as the
individual and the employer make contributions that
result in a savings. And we found that when that was
analyzed in relation to House Bill 329, that the costs
were prohibitive to allow an individual under those
circumstances. You almost had to delete the position
in order to realize a savings. ... It was very
difficult to go back and peg that savings to the
system. So, ... in a situation where there may have
been a projection that there would be a savings,
because you can go in and replace the position or have
the higher advance step placement later on, it may
diminish, erode, or change the initial projections
upon which you thought you were going to have a
savings but it didn't ultimately materialize into a
savings.
1:39:54 PM
REPRESENTATIVE WILSON offered a case in point: She said when
someone retires early from the school system and is replaced by
someone new at a lower pay scale, initially it saves the school
money. However, because of the guarantees of the retirement
program, what happens is that the person who retired two years
early is not paying into the system for those two years.
1:41:09 PM
MS. MILLHORN, in response to the second part of Representative
Wilson's original question, said if a person chooses to retire
early, that is calculated as part of the process. When a person
chooses to retire early, he/she takes an actuarial reduction in
his/her benefit, which is not anticipated to result in an
unfunded liability to the system.
1:41:46 PM
MS. MILLHORN returned to her review of the questions from the
memorandum, specifically the question related to what the
liability means for current employees. She said, "It's not a
direct impact for our current employees; however, employers do
have increases in the employer contribution rates and that has
fiscal impact for their budget." Regarding the payment of
pension and medical benefits, Ms. Millhorn said retirees will
continue to receive them.
MS. MILLHORN addressed the fourth question in the memorandum,
which asks when the unfunded liability began and over what
period of time it has existed. She said although it is
difficult to pinpoint a specific period of time, there are known
occurrences that happened with the system that are contributing
factors toward the unfunded liability. For example, medical
assumptions were too low for a period of time, a problem that
was remedied in 2002, which had the consequence of increasing
the employer contribution rate dramatically. She said that
beginning in 1997, for approximately a seven-year period, the
employer contribution rate was lowered because of surpluses in
the system, resulting in a $460 million savings to the employer,
with a realized savings of approximately $360 million due to an
increase in wages.
1:44:01 PM
REPRESENTATIVE GUTTENBERG noted that almost every state in the
country has problems with its public employee retirement system.
He asked specifically, if assumptions being made incorrectly or
too low is a problem unique to Alaska.
1:44:43 PM
MS. MILLHORN responded by naming two issues common among all the
retirement systems: loss of investment income during the three-
year bear market in the early 2000s and rising health care
costs. Many of the pension systems enhanced their benefits
substantially during that bear market. She stated that the
actuarial analysis information that was provided in January 2005
takes the unfunded liability at the $5.7 billion amount. She
continued:
The plan changes that you're speaking to represent
$500 million out of the $5.7 billion. And out of
that, ... $400 million is attributed to ad hoc [post
retirement pension adjustment (PRPAs)]. And that
leaves you with $100 million in unfunded liability
through plan changes with the legislature. And so, my
analysis is that the legislature has been very
judicious in not having that be one of the primary
factors. And it's a very small factor associated with
the unfunded liability.
1:47:05 PM
REPRESENTATIVE ROKEBERG asked if the teachers under TRS are also
constitutionally guaranteed their retirement benefits.
1:47:24 PM
MS. MILLHORN answered yes.
1:48:43 PM
MS. MILLHORN, in response to follow-up questions, explained that
beginning in 97-98, there were surpluses in the system that
allowed the employer contribution rate to be lowered, and she
confirmed that those surpluses lasted for seven fiscal years.
1:49:38 PM
REPRESENTATIVE ROKEBERG said he would like a follow-up showing
those amounts and the impacts to the state budget.
1:50:00 PM
MS. MILLHORN said she would provide that information.
1:50:28 PM
MS. MILLHORN returned to the memorandum and question six,
regarding the division's position on the unfunded liability.
She reminded the committee that there are three primary factors
that contribute to the system's unfunded liability: rising
health care costs, loss of invest income, and change in
actuarial assumptions to better reflect changing information.
She mentioned a "sensitivity analysis," which she said is
information obtained through the valuations and in regard to the
investment returns. She said it is shown at the back of the
previously mentioned presentation material from the division.
She said a sensitivity analysis doesn't necessarily look at just
the system's assumption; it tests variables to look at the
sensitivity associated. For example, two assumptions have a
high level of sensitivity: the investment return and the
medical cost. She said the information in the handout isolates
the investment return into three specific categories and looks
at what the employer contribution rate is as a result of that
isolation. Those three categories are: base case, at 8.25
percent; optimistic, at 9 percent; and pessimistic, at 7.5
percent. She offered further details.
1:54:08 PM
MS. MILLHORN indicated that the following two charts show "what
that represents in a change to the contribution rate for
employers over that 25-year amortized period," for PERS and TRS,
respectively. The last page of the handout shows [the
hypothetical effect of changes in liabilities and assets]. It
shows that a 5 percent liability increase will increase the
employer contribution rate 3.4 percent for PERS and 4.7 percent
for TRS, while a 5 percent market asset decrease will decrease
the employer contribution rate .3 percent for PERS and .5
percent for TRS. She stated that an increase in liabilities has
a far greater impact on the employer contribution rate than a
change in the net assets. She stated her understanding that
there was information available to committee members from the
actuary as of July 14. In response to a request from the chair,
she said she would provide that information to the committee.
She said it shows the change in net assets and liabilities for
PERS and TRS for the last 10 years, and it ties back to the $5.7
billion in unfunded liability.
1:57:48 PM
REPRESENTATIVE GRUENBERG directed attention to the division's
answer to question six on the memorandum. He said very little
has been discussed relating to how to contain the cost of health
care. He noted that a number of insurance companies maximize
the amount that they will pay per procedure. He asked if the
state's actuary has looked at the actuarial effect of
instituting more stringent reimbursement rates.
1:58:35 PM
MS. MILLHORN said medical benefits for members are protected
under the Alaska State Constitution; therefore, the state must
be careful about any changes it makes. The court ruled that
changes can be made; however, any decreases to benefits must be
met with corresponding increases. She noted that in 1999, the
plan changed nine different elements of the retirees' medical
plan. She offered examples. A lawsuit was brought forward as a
result of those changes. That particular lawsuit was remanded
for further analysis before the [Alaska] Superior Court. She
said the division talks to the Department of Law before making
any changes, to make sure it is in compliance with the court
ruling.
2:01:44 PM
REPRESENTATIVE GRUENBERG said Ms. Millhorn has mentioned having
preferred providers. He asked, "Do you have a legal opinion
that says that would be such a change?"
2:01:54 PM
MS. MILLHORN responded that currently the division is
contemplating that particular initiative. She said that after
conferring with the Department of Law, it does not appear to be
problematic. She said, "We are vigorously ... pursuing anything
that we can do that would not impinge on that particular
lawsuit, and we continue to make those efforts and look at those
particular initiatives." She explained that Commissioner
Matiashowski has charged the division with looking at all
possibilities for cost containment, and as part of that
initiative, the division had positive open enrollment for the
active employees, asking that documentation be provided that
supports that all members are eligible "for our 125 qualified
plans." She said it was found that about 10 percent of the
population did not provide the documentation. She reported that
the realized savings to the active plan is projected to be about
$3 million annually. She said, "We are underway right now to go
through that very same process with our retirees." She said
national auditing firms have determined that up to 15 percent of
individuals will not be able to support that they are eligible
for benefits under a plan during an open enrollment, and the
projection is that the savings based on that percentage would be
approximately $16 million annually. She added that SB 141
tasked the division to provide the legislature with report on
all cost initiatives.
2:04:05 PM
REPRESENTATIVE GRUENBERG expressed concern that the state may be
denying some people coverage when they clearly ought to be
covered. He said for example that he has a foreign-born son,
and "we had a devil of a time getting some documentation to
support that Daniel was eligible." He suggested that that may
be an issue to cover at a future hearing. He said his question
had been in regard to the preferred provider list. He said he
also is concerned with the increasing cost of [medical] care.
He asked if there may be some way to put a cap on the amount the
state will pay for the same service. He suggested, "That's not
denying anyone a benefit; it's simply capping a cost."
2:05:42 PM
MS. MILLHORN responded that she had spoken to Chair Weyhrauch
outside of the hearing to discuss putting together some
information for the next House Special Committee on Ways and
Means meeting to address this issue. Regarding putting a
limitation on particular costs for procedures, she said she
would want to talk to the Department of Law to find out if that
would be an issue.
2:06:13 PM
REPRESENTATIVE GRUENBERG said he wants that issue addressed and
would like to invite the Department of Law to the table. He
said he would also like to address whether people are being
denied because they can't come up with paperwork.
2:06:45 PM
MS. MILLHORN stressed that the division has not denied anyone
who can't provide paperwork but is eligible; it works with them
on a case-by-case basis. She said the intent is not to penalize
people.
2:07:44 PM
REPRESENTATIVE GUTTENBERG asked what is being done nationally to
control costs, without changing benefits. He said he would like
Ms. Millhorn to address that question at the next committee
meeting.
2:08:40 PM
CHAIR WEYHRAUCH requested that Representative Guttenberg refine
his question and submit it to the committee. He said the
committee is looking at these issues with a "macro view", rather
than with a "micro view."
2:09:37 PM
REPRESENTATIVE GUTTENBERG indicated that working on medical cost
control may help with [the unfunded liability].
2:09:56 PM
MS. MILLHORN directed attention to question 8 in the memorandum,
which asks when the legislature has to fund the liability or
when it will face a cash flow problem. She said a 5-percentage
point increase, in and of itself, creates fiscal problems for
employers. She said it is expected that those rates will
continue to rise until they reach that calculated rate. She
explained, "Every year that you're not at the calculated rate
recommended by the actuary it has the impact of adding
additional liabilities to the system."
2:11:11 PM
CHAIR WEYHRAUCH asked what the effect of a cap would be on the
employer contribution rate.
2:11:27 PM
MS. MILLHORN reminded the committee that regulation AAC.35.900
was enacted in 1991 at the request of the Municipality of
Anchorage to cap the PERS employer contribution rate at a 5
percentage point increase or decrease in any one year. She
explained that SB 141 supersedes that regulation; therefore,
AAC.35.900 does not exist any longer and it will be up to the
Alaska Retirement Management Board "to make a determination
about employer contribution rates going forward." In response
to Chair Weyhrauch's question, she said if the employer
contribution rate was capped at 3 percent, additional
liabilities would be added to the system, because the state
would be "pushing and deferring liabilities into the future."
She stated, "In the last two valuation periods, those
contributing factors that built on the 2002 valuation can ...
primarily be attributed to not being at the calculated rate and
a rise in the health care cost. Those are really the two
factors that bring the 24.91 [percent] to 28.19 [percent] and 35
[percent] for ... [TRS] to 41 [percent]."
2:13:27 PM
REPRESENTATIVE WILSON asked what happens if a municipality
cannot pay its part for one reason or another. She asked if the
state would be responsible.
2:14:05 PM
MS. MILLHORN answered that the system would not get the
contribution that it needs and the cost to the employer would
increase. When an employer terminates its participation
agreement with the retirement system, the retained actuary looks
at each individual member and provides options to all the
members to either vest in the system or refund out of it. At
the end of that election process by the members, a termination
report is generated that goes to the employer. She said the
employer is presented with a bill for payment. Ms. Millhorn
said the division works with those employers to set up a
repayment schedule.
2:17:36 PM
REPRESENTATIVE WILSON asked who is ultimately responsible.
2:17:49 PM
MS. MILLHORN responded that if the employer truly cannot pay,
the employee would still be provided with the benefits. That
cost would be absorbed by the retirement system.
2:18:29 PM
CHAIR WEYHRAUCH clarified that Representative Wilson's question
is in regard to who would be legally responsible.
2:18:53 PM
MS. MILLHORN said the State of Alaska would have a cause of
action and would pursue payment from that particular employer.
2:19:22 PM
REPRESENTATIVE ROKEBERG, regarding the 5 percent cap repeal in
SB 141, asked if Ms. Millhorn is indicating that there would be
"no grandfathering and/or cap that relates to the unfunded
liability for Tiers I, II, and III."
2:20:04 PM
MS. MILLHORN answered yes. In response to a follow-up question
from Representative Rokeberg, she explained that the procedure
for PERS is now and will continue to be to receive a
recommendation for the employer contribution rate. She
continued:
They set that rate as an average calculated percentage
amount. They don't apply an individual employer
contribution rate to the 155 employers for PERS; they
adopt an average calculated rate. And for ... TRS,
they have a single rate that is the rate used for all
... TRS employers.
2:21:32 PM
REPRESENTATIVE ROKEBERG said he thinks the committee should look
into this issue further.
2:22:43 PM
REPRESENTATIVE SEATON mentioned accrued liability charts and
said he would like clarification at the next meeting on whether
that is in regard to a projected unfunded liability.
2:22:59 PM
MS. MILLHORN returned to the memorandum and question nine, which
asks whether the legislature should worry about the liability or
whether it will fix itself. She said there are three available
levers to improve the funding status for the system: to
experience higher investment returns than projected for some
period of time; to reduce the benefit costs; or to receive a
cash infusion in order to reduce or eliminate the unfunded
liability.
2:24:18 PM
REPRESENTATIVE GRUENBERG noted for the record that any time
benefit costs are reduced, it is important to take care that the
benefits are not reduced, because that would be
unconstitutional.
2:24:47 PM
MS. MILLHORN concurred.
2:24:54 PM
DAVID TEAL, Legislative Fiscal Analyst, Legislative Finance
Division, Legislative Agencies & Offices, said he would be
speaking in regard to a seven-page handout with charts [included
in the committee packet]. He said that while meeting with Chair
Weyhrauch the week before, he was shown an article from a
Nebraska newspaper regarding that state's pension funds. He
said Chair Weyhrauch asked him to create a similar chart for the
State of Alaska. That chart is shown on page one of the
handout. He said the gist of the article is in the following
statement: "Like many public pensions, benefits tend to
increase when the fund is flush; contributions go up when
shortfalls occur." The bottom of the graph shows a number of
actions that [Nebraska] took: lowering the retirement age;
increasing cost of living benefits; and changing to an early
retirement. He said, "They're blaming that for the problems
they're now facing with unfunded liability." The good news, Mr.
Teal said, is that Alaska did not really modify its programs."
The bad news, he noted, is shown on page 2 of the charts, where
Alaska is shown to look as bad or worse than Nebraska. He
suggested that the $5.7 billion unfunded liability can be
thought of in terms of being twice the amount of the annual
state budget, or one-quarter of the permanent fund; it's a lot
of money.
2:29:27 PM
MR. TEAL said some questions to ask are: why is there a problem
when the state didn't do anything wrong; what actions could the
state take; and what will happen if the state does nothing? He
said he thinks the chart is too simple. Pensions are long-term
issues, he said, and "it's better to avoid snap decisions on
long-term issues." He said that is not political advice, it's
just a realization that small differences compound over time,
or, conversely, the impact of changes takes a long time to
materialize.
MR. TEAL said Ms. Millhorn discussed the reasons for the gap's
existence, including market returns, life expectancy, and
medical costs. He directed attention to page 1 of the charts.
He indicated that Nebraska decided to change its assumptions on
market returns. The chart shows assets increasing but also a
jump in benefits. Alaska's chart shows both, he said.
2:32:54 PM
MR. TEAL said discussion has taken place regarding the dangers
of making decisions about knowing exactly "where we are" and
what the projections are on cash flow. He said the question is
whether the system is increasing its asset base or if the
problem is being compounded now by annual payouts that exceed
cash inflow, thus increasing the size of the liability. He
recommended looking at a chart that looks at the future,
complete with the impact of "modifying those assumptions and
taking action or not taking action." He indicated it would be
helpful to know whether the state faces an actual crisis or just
a potential liability that will hit some date in the future. He
continued:
Describe the consequences of delaying; convince me that
this issue is not the same as hearing the Constitutional
Budget Reserve will be gone in two years, every single year
for the past decade. Because that's ... what we have heard
there, and how do we know that this isn't the same thing?
MR. TEAL noted that at the last meeting, the committee heard
that unfunded liability is a nationwide problem, and it also
heard a list of things that other states are doing about it. He
said the legislature can copy those other states or stumble upon
a solution of its own. However, he said he agrees with Chair
Weyhrauch that there is a better chance of success if the
legislature really understands the problem, the impact, and the
pros and cons of each potential action.
MR. TEAL noted that Representative Weyhrauch also asked him to
provide more detail on the resources available to address the
problem. Specifically, given the price of oil, what the
limitations are on the actions that are faced because the state
has or doesn't have the money to address it. He opined that the
Division of Retirement and Benefits is in a much better position
than he is to talk about issues of sensitivity. He said Chair
Weyhrauch asked him to look at the overview of the budget; a
little more than just PERS, it's a kind of "heads-up" on what
the Legislature may face when it returns to Juneau in January.
2:35:16 PM
He directed attention to page 3, which shows a fiscal summary.
He continued:
That circled number on line 29 of the [FY] 06 budget
shows that we've got a $2.6 billion budget, and that
gives us a surplus on line 30 of about $40 million.
But there's a footnote there, and that's oil at $38 in
footnote 1. And in particular, look at footnote 4
that says FY 06 appropriations for formula programs
excludes $414 million that went to public education.
... That's because that appropriation for education
crossed fiscal years and ... doing that distorts year-
to-year comparisons. If we were to adjust for that,
the budget is actually at $3 billion. The next chart
on page 4 is a chart that is on our web site.
Typically, what that shows, is the fiscal gap and
then, at the type of various prices of oil, you can
see that at $38 that gap begins to turn into a surplus
appearing at the top of the chart. At $38 we
breakeven [with] no gap [or]... surplus. The current
price of oil is $57 and change. That's noted on the
charts, and that shows a surplus there of $1.1 billion
for FY 06.
Page 5 shows a revised fiscal summary, and this is the
response to that ... fiscal note on the traditional
summary - footnote 4. The danger there is that, as I
said, the FY 06 budget's really understated by $400
million, and if not for the use of that '05 surplus we
would be at $3 billion [with] break-even oil prices of
$44. And the danger here is that we are not really
looking at '06 anymore, we're looking at FY 07, and
it's this $3 billion budget that's going to be the
base for the '07 budget - not the $2.6 billion that
(indisc.) in the fiscal summary.
So, what I did then was prepare another break-even
chart at a $3.5 billion budget. You can argue about
when we're going to hit $3.5 billion, whether it is
'07, or '08, or '09, or 2010, but we will get there
soon, and you can see on this chart that the breakeven
point is $53 a barrel, and that $57, where we are at
right now, wouldn't give us much of a surplus - about
$250 million, which comes and goes real quickly in a
volatile oil market.
2:39:34 PM
MR. TEAL continued:
[Chair Weyhrauch] also asked me to talk about
supplemental bids, because the idea was how much money
those high oil prices in '06 leave us to address the
PERS/TRS issue. This is very rough; [the Office of
Management & Budget (OMB)] and the departments are not
really willing to talk about "supplementals" at this
time of year, but we've got some guesses. One is the
Federal Medicaid Matching Percentage (FMAP). They
told us last year [that] our Senators would try to fix
it, and then [they] argued that everything that we
know from the national perspective is that we wouldn't
get that money. I think we can now admit that that
money is not on the way; it's going to cost $55
million in the supplemental bill. Average Medicaid
supplementals in the past 5 years have been about $23
million; it wouldn't surprise me if we get another
supplemental from Medicaid in that neighborhood.
The Marine Highway System [is] another source of
supplemental needs. Partly because of fuel, and
partly because of ... changes in ... underfunding,
$20-25 million may go there. Fire suppression was [a]
huge supplemental last year, about $40 million. Fire
season's bad this year, as well, but many of those
fires are on Federal land this year, and we may get
away with no supplemental for fire suppression. But
typically, we'll have about $75 million a year for
other purposes, or other supplemental needs. I'm
looking at a $150-200 million supplemental budget
request.
... So, what we're looking at here is a true FY 06
surplus of about $500 million .... We will have cash,
but a lot of that - $400 million of it - is carried
forward from last year. So, [the] bottom line is,
you'll have about $900 million on the table available
for purposes other than this $150-200 million
supplemental. And looking to '07, as I said the
critical point there is that the starting point of the
'07 budget will be the $3 billion spent in '06 after
adjusting for that '05-'06 crossover. The '07
budget's likely to see increases from that point as
always: the FMAP will jump to about $75 million a
year, beginning in '07; the state PERS rate increase
will cost another $25 million or so, in general funds;
if the legislature again decides to fund PERS for
school districts, that's another $40 million; and if
they give the same sort of increase that they gave
school districts last year, you're looking at $80
million. So, we're up somewhere between [a] $140-180
million increase on just those items for '07.
2:42:36 PM
MR. TEAL, in response to a question from Representative
Gruenberg, said Medicaid will probably increase as well; it has
been increasing at about the rate of 14 percent a year on a $600
million budget. He continued as follows:
In addition to that, dividends from Alaska Housing
[Finance Corporation (AHFC)] are down [and] school
debt is up, so I wouldn't be at all surprised to see a
$3.2 or even a $3.3 billion budget in '07. On the
other hand, the Capital Budget in '06 was at a little
over $300 million and if the legislature chose to go
back to a more normal capital budget of $100-150
million, there is some potential for reduction there.
But getting back to the retirement system and how this
plays, on this break-even chart you've got $3.5
billion. You've got oil at $53; $57 - [that's] break-
even there. Where we are in '07 and in the future all
depends on oil. The forecast is now ahead that occurs
in October and the numbers will be [released],
probably in December. But I don't expect an oil
forecast above $50. And that supports a spending plan
of about $3.3 billion, which ... as I just said,
wouldn't be a surprise.
MR. TEAL noted that there is a summary of the oil price
information on page 7, which shows general fund expenditures for
FY 06 at $3 billion, with an increase of $200 million per year.
The page also shows how much revenue the state would have at
various prices per barrel; it computes the surplus by
subtracting the expenditures and revenues, and shows the
cumulative surplus. He continued:
You can see that we've got deficit through 2010, even
... with oil at $50. So, you need $50 oil just to
break even in '07 through ['10]. At $55 a barrel, you
show a cumulative surplus out there, but you're back
to an annual deficits by 2010, meaning that you're on
the downslide again. ... The Chairman asked me about
a fiscal plan, specifically the role that this
unfunded liability may play in that plan, and whether
there is any money to reduce the unfunded liability if
you choose to do so. ... If you look at the $55
scenario, you'll see that there's a surplus in '07 of
$418 million, which combined with the surplus through
'06 of a little over a billion, gives you about $1.5
billion on the table.
2:47:04 PM
MR. TEAL said one option would be to spend all the money at
once; however, he opined that that would not be "much of a
fiscal plan." He explained that a fiscal plan generally
involves not spending money "in some fashion." He cited the
following options "in order of declining flexibility," as
follows: depositing the money to the permanent fund, making it
untouchable forever; letting it fall to the [capital budget
reserve (CBR)]; putting the money towards retirement, where it
would roll to the distant future; or putting the money in a
public education fund. He recommended the latter. He
explained:
[It's] not ... because it costs us any money or saves
us any money; it just takes the money off the table
very early in the process and moves the decision to
the full FY 07 process. So ..., rather than going
through this abbreviated supplemental process, where
the scrutiny is limited, you would put money in the
education fund, freeing up that billion dollars, or so
.... You could then spend it in the '07 budget
process. Same amount of money - it just would, in
theory ..., be given more scrutiny. Even with this,
you could pay up to $1.5 billion of the unfunded
liability of the retirement system in '07.
MR. TEAL said the state does have money to address the problem
and, although not filling the whole gap, to make significant
progress.
MR. TEAL said the question then becomes whether the state should
fund some of the unfunded liability, how much it should fund,
and what impact it would have on various interest groups.
2:50:43 PM
MR. TEAL observed that the state's liability equals only about
half of the system's liability; therefore, of the $5.7 billion
unfunded liability, approximately $3 billion is the state's.
The other $3 billion of liability belongs to the cities,
communities, and school districts. He said that none of these
entities would ever get a bill for the $5.7 billion. He
explained:
By that I mean, it doesn't come due in 2017, or 2033,
or pick your date out there, because the way the
system works is that the rate increase is designed to
eliminate that unfunded liability in 25 years, meaning
that you don't have to do anything about it except pay
the rate increases, and your problem is solved.
So then, the primary reason to be concerned about
solutions other than rate increases is that those
increases are unacceptable or unaffordable.
MR. TEAL said the task force needs to clarify whether [the
state] is looking for a solution to the PERS/TRS system-wide
problem - the full $5.7 billion, or is simply looking at the
problem from the state's perspective, saying, "We've got ... $3
billion of this unfunded liability." He said the next step is
to decide whether rate increases are an acceptable solution. He
continued:
If the focus is the state, I think the rate increases
are an acceptable solution. You just increase the
operating budget [and] the money comes from various
fund sources. ... The critical thing here is that as
you saw last year, the state's liability was about $50
million. The general fund portion of that was only
$25 million. The other portion comes from federal and
other funds. Now, if we took that $3 billion
liability and closed it, making a $3 billion cash
injection, you'd be spending $3 billion worth of
federal general funds to fix the problem. You'll pay
for it in rates, in which case the state pays half,
and federal and other sources pay the other half. So,
I guess I would say, "Why would you want to fix the
problem with the infusion of general funds? It costs
you twice as much than if you just let it ride."
2:54:02 PM
MR. TEAL continued:
Teachers are now negotiating for pay increases, but
the districts look at it this way: each teacher just
costs us an additional 5 percent because of this
benefit increase, and we can't afford to increase
take-home pay in addition to this 5 percent. And then
you've got education advocates saying, "Thank you for
funding education, but not enough of it went to the
classroom." The trouble here is that everybody's
right, and in this case, it ... may make more sense to
pay off that unfunded liability up front in order to
keep rate increases down so the districts aren't faced
with ... the employment dilemma they've got right now.
MR. TEAL said he doesn't understand how any employer can have a
benefit rate of 50 percent; he/she cannot be competitive because
the employees cost too much. He noted that, arguably, the state
is not responsible for communities in the same direct manner as
for school districts. He stated that he sees the unfunded
liability "entering the budget state ... at school districts and
communities." The question, he added, is whether the state
wants to "prefund them." The unfunded liability cannot be
escaped. He explained:
... If you use this ... surplus and put it towards
retirement or some other program that's going to cost
you now or cost you later, what you're doing is
spending the surplus now and reducing future budgets
instead of increasing them. So, I guess my
recommendation is that when a surplus exists, use it.
2:56:55 PM
CHAIR WEYHRAUCH asked, "That means not having any lapse into the
CBR?"
2:57:05 PM
MR. TEAL responded that he would recommend "prefunding" the
school districts, and perhaps the communities. He added, "As I
said, you've got no direct liability for communities, but of
course, who is it you represent?" He said communities are far
less able to afford the 5 percent increases.
2:57:41 PM
REPRESENTATIVE GUTTENBERG asked if there is a way to "get into
... PERS where you just address the municipalities' employees."
2:57:56 PM
MR. TEAL answered yes. He surmised that the logic is that with
the high prices of oil, the primary impact on the state is
surplus revenue. He noted that [the Department of
Transportation & Public Facilities (DOT&PF)], the University [of
Alaska], [and the Alaska State] Troopers are hit with higher
fuel bills, "but that's far outweighed by the revenue increase."
He said high oil prices don't add any revenue to the
communities, but certainly cost them money. He stated:
That's the only logic I have for saying the
communities are the ones that need the money and don't
have the revenue sources. The state has the revenue
sources, and your question in January [was], "Are you
going to share with the communities?"
I don't have any answers, here. ... We're certainly
willing to work with [the Division of] Retirement &
Benefits and work with you to try to find the answers,
but $5.7 billion's a lot of money. We don't have it
all now and, even if we did, there are other things to
spend the money on.
2:59:36 PM
REPRESENTATIVE WILSON asked if the responsibility of the state
would be that if it bailed out some entities it would have to
bail out others.
3:00:11 PM
MR. TEAL replied that he doesn't have an answer to that
question. He suggested that the director of the Division of
Retirement & Benefits may have a better sense of what the
state's liability would be.
3:00:47 PM
REPRESENTATIVE GATTO stated his understanding that Orange
County, California, filed for bankruptcy and he suggested that
some boroughs in Alaska may file for bankruptcy.
3:01:38 PM
REPRESENTATIVE ROKEBERG asked if it is true that historically
the state has not provided general fund monies for TRS
liabilities "as separate line item" or if it is "typically used
in the foundation formula."
3:02:06 PM
MR. TEAL responded:
Technically, you didn't address the TRS liability -
you didn't give the school districts money - but ...
certainly you knew that their liability was $40
million and that the increase in the base student
allocations ... was designed to pay $40 million to
cover their PERS liability and then another $40
million on top of that. ... I guess the answer is
[that] they didn't have to spend money on TRS - the
new money that they got in formula - but effectively
there's nothing else they can do. They had to pay
their bill for retirement, and you gave them money
that they could spend on anything. So, it's pretty
hard to say which dollar precisely was used to pay the
pension liability.
You also gave money to communities. And there's a
difference here, because with the communities, you
gave that money directly to retirement and benefits
and said the money was intended to reduce their
contributions that year. ... I think most of the
communities did accept their 5 percent increase and so
didn't get any windfall. But I know that Juneau is
one community that said, "Great, our increase is paid;
we just got a $1.3 million windfall." ... They didn't
use it to pay down their pension.
MR. TEAL, in response to a remark by Representative Rokeberg,
indicated that the amount that Juneau received was $18 million.
REPRESENTATIVE ROKEBERG asked, "In your recollection, is that
unusual; have we ever done that before?"
MR. TEAL responded, "Never directly, because we've never had
increases in rates like this." He said it doesn't matter
whether the money is slated as paying for a portion of a
community's pension liability or is labeled community assistance
- a dollar is a dollar.
3:05:13 PM
REPRESENTATIVE ROKEBERG directed attention to a spreadsheet
attached to a September 7 [2005] letter from Melanie Millhorn
[included in the committee packet, showing the increases in and
total for the composite employer contributions]. He noted that
the cumulative total for FY 06 is $386.5 million and $716.6
million for FY 09. He asked if it would be a correct assumption
to say "that delta - the differential there - would be the
amount of unfunded liability for ... the next three fiscal
years."
3:06:44 PM
MR. TEAL answered that the unfunded liability is $5.7 billion.
He added, "This is simply the amount that would be generated by
the capped rate increase."
3:07:01 PM
REPRESENTATIVE ROKEBERG observed that the spreadsheet shows a
projected $330 million increase in the cumulative total for the
next three years, beginning in FY 06.
3:07:58 PM
MR. TEAL confirmed that Representative Rokeberg's observation
was correct.
3:08:10 PM
REPRESENTATIVE ROKEBERG said it would be interesting to "see ...
where we have to be [for] the out years to get the balance."
3:08:49 PM
REPRESENTATIVE MIKE KELLY, Alaska State Legislature, said he
would like to see the shortfall shown in another column. He
noted that the legislature has been told that one factor that
has not been incorporated into the actuarials regarding the
retirement system is that [life expectancies will continue to
increase], and that factor could add to the unfunded liability.
He asked Ms. Millhorn for her opinion.
3:10:03 PM
MS. MILLHORN said the actuarial assumptions will be reviewed.
She said the current mortality table in use is from 1996 and has
some built in projections; however, the actuary has indicated
that there is a 2000 mortality table available.
3:11:30 PM
MR. TEAL clarified that the numbers on the chart usually
understate the money needed to close the gap. He noted that Ms.
Millhorn had referred previously to a sensitivity chart which
shows a 5 percent liability increase and 3.4 [percent] impact on
rates, versus a market asset decrease. He explained:
What that means is that putting money into the system
has a lot less impact than changing your benefit
payout .... It's the benefit side that ... hits you
on just your sensitivity analysis, which we can see in
bits and pieces, and which I would like to see as an
extension of chart two saying: "I want to take this
thing out - it's 5.7 now. Given your assumptions,
what would that liability be next year, next year,
next year?" The sensitivity analysis they've given
you so far just says, "What's the impact on the rate?"
That's not enough for me to make a decision, because I
don't know whether that rate goes for 25 years and
what it does. Do we then still close the unfunded
liability at 25 years? I think there's a lot of
information that you could get, or should get from the
actuary before you really decide what to recommend to
the full legislature.
3:15:07 PM
REPRESENTATIVE SEATON said he thinks everyone needs to
understand that the $5.7 billion is the present dollar value of
the schedule of anticipated payments to be made for benefits.
That schedule of payment, he said, is "$15.6 unfunded." He
continued:
I think it's really imperative that people realize
that the present dollar cost is the calculation from
the schedule of payments that we'll have to make to
retirees, and also everyone should realize that about
75 percent of all the benefits that are going to be
paid out are not from deposit money that we get and
collect, but is scheduled on the growth of that asset
base. So, if our asset base is underfunded, then it's
not growing, and that's got to pay ... three-quarters
of all the benefits in the future. So, ... it becomes
a very sticky problem to be carrying a large unfunded
liability, not just because it's unfunded liability,
but because it's not growing to make those payments.
3:17:54 PM
REPRESENTATIVE ROKEBERG expressed his appreciation to Mr. Teal
for "coming back and helping make the point I wanted to make."
He said he has seen other charts better than the one being
discussed, which made the distinction between the various
entities that had the unfunded liabilities and "where they may
fall." He indicated that Representative Seaton's information
"makes an interesting point that we need to focus on in terms of
public policy formation." He stated that there are four
distinct elements that make up the unfunded liability for the
state and each one calls for different policy decisions. He
added, "And I think that that's important ... when we talk about
this $5.7 billion that we think of it in terms of the categories
and the entities that have that liability, which I don't believe
is ... 100 percent the province of the state general fund to
fix. And as a result I think that we need to keep that in mind
when we discuss this in terms of our own policy discussion." He
said he would like to see an updated chart with more current
information regarding the accrued unfunded liabilities.
Furthermore, he said he would like to know about any other
sensitivity adjustments before the legislature makes any policy
call. He concluded:
It's troublesome for me right now, for example, in the
Anchorage area to have all our teachers under the
cloud of a possible strike here, when in fact there's
been absolutely almost no discussion publicly about
this extraordinary amount of the money that the state
... is putting into the Anchorage School District
right now. It's like an assumption that this is a
given for the future, and I ... think we're doing a
disservice to the public right now when we don't talk
about this in the proper context.
3:21:33 PM
GARY HUTCHISON noted that he is a resident of Fairbanks who has
been a practicing certified public accounting (CPA) for 30
years, providing services to municipalities under government
accounting and government auditing standards. He revealed his
background as the current presiding officer of the Fairbanks
North Star Borough, and as one who has served on the assembly
for six years; however, he specified that he was not testifying
on behalf of the borough or the assembly.
MR. HUTCHISON offered suggestions for dealing with the
deficiency. He stated that he understood Mr. Teal to have said
that the surplus from the higher oil prices will not be
sufficient to eliminate the deficiency. He said that is a
significant point that underscores the need for the ability to
change benefits. The Alaska State Constitution and the supreme
court interpretation of it prohibits the adjustment of benefits
of current employees, he said; therefore, he recommended that
the constitution be changed "to eliminate the effect of that
supreme court decision." He said if people work longer,
benefits would be more affordable.
3:24:05 PM
MR. HUTCHISON said his second suggestion would be to have large
funds contributed into the PERS/TRS retirement systems soon. He
said, "If we could get a constitutional amendment so that you
had some flexibility in adjusting benefits, you'd have a new
basis for an actuarial calculation." He said surpluses should
not be spent on the general fund and should not be allowed to go
in the CBR; they either should be put into PERS/TRS or into a
fund that the legislature can access with a 51 percent vote.
3:24:27 PM
MR. HUTCHISON said he thinks more needs to be known regarding
"why we are where we're at." He said he was puzzled in the past
that the projected cost increases for the [state's] retirement
program were "flat" when other [private] businesses were
incurring increases in health costs of 15-30 percent. He
remarked, "That went on for years and I used to think ..., 'Boy,
they must have a wonderful system here that contains costs.'"
He added, "Of course, we see now that that's not the case." He
said it's important to know why those assumptions were wrong,
and the legislature should know whether or not controls need to
be put in place to ensure that the best estimates from actuarial
calculations are used, rather than the most favorable ones.
3:25:53 PM
CHARLES GALLAGHER, Chair, Retired Public Employees of Alaska,
Northern Region Chapter, stated that when he looked at his PERS
retirement account and compared it to his [Supplemental Benefits
System (SBS)] account, he realized that his PERS funds had been
used for the past 25-30 years that he worked for the state in
order to accommodate the needs of the tax payers in the 90s. He
explained that his PERS funds were accumulated at the rate of
2.3 percent, whereas his SBS was often accumulating at the rate
of 18 percent, which is what allowed him to retire. He said he
mirrors Mr. Teal's recommendation that "this be forward-funded
into an Escrow account in order to accommodate the needs of what
could be coming up in the next two years." He also agreed with
Mr. Teal that the reason the money should be in the Escrow
account is "to allow a little bit more time in the situation to
develop."
3:28:11 PM
DORIS ROBBINS, Member, Retired Public Employees of Alaska
(RPEA), testifying on behalf of RPEA, revealed that she is
retired from the Department of Labor. She said RPEA has been
working actively with its members to help reduce the cost of
health care. For example, many members have taken generic drugs
whenever possible and changed to mail order prescription in
order to save the system money. She stated that she feels like
the real problems have been ignored "at this point." She said,
"This is the kind of investigation that should have been done
before a bill was passed without it being thoroughly analyzed.
So, now I hope you will go back, ... follow up on these things,
and try to find a solution." She said she contracted with the
state for retirement and benefits, thus, they are guaranteed by
the Alaska State Constitution, and she expects them to be
honored. She suggested that perhaps the current higher price of
oil will help the problem.
3:30:18 PM
MS. ROBBINS said part of the underfunding problem occurred when
retirement incentive programs (RIPs) took place in the past
without the funding for them being put into the system at the
time. She said she was told that when an employee retired early
[through a RIP], "that money would be put into the system, which
would make up the difference from what they would have made,
perhaps at their higher range, and then a lower new employee
would have come in and taken that job and been paid a lesser
rate." She suggested what may have happened is that sometimes
those positions were rewritten at a higher grade and given
higher salaries. She asked the committee to look into that.
She said the health care problem is nationwide and "we need to
encourage our people in [Washington] D.C. to work on that." She
noted that drug companies are making more than Wall Street or,
for that matter, anyone else in the whole world. She said there
has been discussion about a health maintenance account that was
put forth by Aetna; it's a program that has been used across the
country. She said although it costs something to start up,
getting people to get regular health checks saves money in the
long run, because it can prevent the higher cost of emergency
care. She said she works on a committee that is studying ways
to solve the problem of health care costs, and she told the
committee she is glad to see the legislature taking a positive
approach "to actually do something about the problem."
3:32:59 PM
RICHARD SOLIE, Ph.D., stated his understanding that the primary
purpose of the hearings is to address the unfunded liability.
He noted that he had prefaced his written testimony [included in
the committee packet] with some recommended changes to the
retirement plan adopted through SB 141. He said he thinks it
was at least implied by a number of legislators that there would
be further examination of that plan before its effective date of
FY 06, and he urged the committee not to "overlook that aspect."
3:34:07 PM
CHAIR WEYHRAUCH clarified, "While the major thrust of this
committee was to look at the unfunded liability and address
that, it was not to overlook potential recommendations for
change if they were constructive and something we could
recommend to the legislature."
3:34:25 PM
DR. SOLIE, regarding the funding shortfall, opined that the
ultimate shortfall will turn out to be significantly larger than
the $5.7 billion estimate in the 2004 actuarial reports from
Mercer Human Resource Consulting. He explained that in the 2004
report, the actuary continued to make assumptions that were
similar to those that led to the previous understatement of the
liability. He named three assumptions:
First [is] the continued underestimate of future
health care inflation. And as I indicated in my
written testimony, their assumptions dropped that
inflation trend down to 5 percent by FY 14, and we
have an experience that goes back to FY 78, showing an
average of 10 percent a year. And I think it is
incumbent on us to make sure that we don't use an
unrealistic assumption there and get ourselves back in
the same jam.
[Second, is the] continued reliance on the outdated
life expectancies and the mortality data. The ...
long-established trend line shows life expectancies
increasing at about two years per decade - that's life
expectancy at birth - and yet Mercer continues to use
outdated data in that regard.
... A third thing is that I think we're using an
unrealistically high assumption regarding investment
returns. Now unless these assumptions are corrected,
any action that the legislature takes to cover the
funding shortfall could fall billions of dollars short
of actually dealing with the problem. And I think the
very difficult decisions that the legislature has to
face in this upcoming session will be multiplied
greatly if you have to come back and face a similar
problem a few years down the line.
So, I would urge you to press very hard to make sure
those assumptions are as realistic as possible and
that the true nature of the problem is truly
understood at the time when the issues are dealt with.
3:37:22 PM
DR. SOLIE stated that he has no special knowledge in regard to
covering the unfunded liability, thus his comments would be made
as "an ignorant citizen." He stated his belief that the onus
should be on the State of Alaska, and a significant portion of
the surplus resulting from high oil prices, for example, should
be "considered for application to that." He said that at the
same time he thinks some added cost can and probably should be
borne by employers. He said he is not certain [how much] that
should be, but suggested that one starting point may be the
level of increases that have already been put into place.
DR. SOLIE said he thinks consideration should be given to
pension obligation bonds (POBs); however, he said their
potential negatives should be weighed carefully along with the
potential positives of savings. If POBs are to be part of
package, he stated, the sooner a decision is made, the better,
because interest rates are going up and the advantage that might
be gained through the use of POBs will disappear. Beyond that,
he said that he is afraid consideration may have to be given to
drawing on the permanent fund; although he said Mr. Teal's
suggestion to extend payments "on the state side out for an
indefinite period of time" may be the best solution. Mr. Solie
stated:
If it's determined that the permanent fund has to be
capped - either in terms of the earnings or
conceivably in terms of the corpus of the permanent
fund - certainly considerable effort is going to have
to be undertaken to inform and convince the general
public, because to tap the earnings is going to
require courage on the part of the legislature, but I
think will only exist if the public supports it. To
tap the principal, of course, is going to require a
change in the [Alaska State] Constitution [and] a vote
of the people, and that would require significant
public information."
3:40:09 PM
DR. SOLIE said in that regard he thinks it might be helpful to
obtain a decision of ruling from the Alaska Supreme Court as to
what the actual obligation is of the State of Alaska with
respect to the pension obligations. He referred to previous
discussion about who would pick up the bill if a municipality
were to fail to pay and go bankrupt.
3:40:43 PM
JEFF JOHNSON said he is long-term resident of Alaska who has
practiced as a certified public accountant (CPA) for 30 years,
including auditing and advising on defined benefit, defined
contribution, and health plans. He revealed that he is also a
member of the Fairbanks City Council. Regarding the $5.7
billion unfunded liability, he said, "As we address that
problem, we, as council members and as legislators, are unable
to pay a bill that's accrued for past benefits, and that we
think future generations further than 25 years out - unborn
children - will have better economic means to pay these bills."
Mr. Johnson said a projection is needed to find out what the
result of a continued incremental increase of 5 percent would
be. He said:
Because the interest on [$5.7 billion] to roughly 8
percent of that could be $400-500 million, we know
we're going negative - we're not going positive. So,
we're over $6 billion dollars right now, assuming all
the actuarial assumptions are correct, and I totally
agree with Dr. Solie - we know when they're not
correct. So, we're probably closer to $7 billion
right now.
3:42:53 PM
MR. JOHNSON stated his understanding that the CBR currently
amounts to $2 billion. He asked what the payments paid by the
State of Alaska would have been from '95 forward if the state
had implemented the correct assumptions back in the early 90s.
He stated his belief that that number would probably be $1
billion. He clarified, "So, would we really have $2 billion in
the constitutional budget reserve right now? No, we would have
had to spend that money already had we used correct assumptions
ten years ago." Part of the CBR exists, he said, because the
state underfunded PERS and TRS in the past.
MR. JOHNSON mentioned a large pension plan in Alaska that is
being paid off in 15 years compared to the State of Alaska that
will be paying for 30-40 years. If the state were to pay off
the unfunded liability through financing and did so over 15
years, he said, the premium would be approximately $309 million
a year. He continued:
If the bill was only $5 billion, we could pay this off
in 15 years, if we slammed. Now I know the bill is
more than $5 billion, but the concept of the
difference between 6 percent and 8.25 - it's about $50
million. So, there's a lot of risk with pension
obligation bonds, but if you believe it, and we
research it, and we say it works, we save $700 million
for the State of Alaska over 15 years - and that's a
gross number, not a preset value.
MR. JOHNSON indicated that if the contributions to
municipalities and school districts were frozen at 20 percent,
then those entities would know that "the state's going to take
care of the big picture" and would be able to set a budget. He
said a plan was put together with actuarial benefit assumptions
made 25 years ago [that] were erroneous, yet they were the best
assumptions known at the time. The volatility of the plan
dictates that there will be major changes. He said, "These
changes have all been economically disastrous for the state
right now." He continued:
The City of Fairbanks ... signed on and said, "Hey,
... join this, it's a great program, and send us 10
percent, roughly, a year, [or] 15 percent and life is
good." Our projected PERS rate right now, if we want
to pay our bill off in 25 years - this is the rate
established two years ago - is 100 percent. We have
to pay 100 percent of our eligible employees right now
- that's our burden, just for PERS, but when we signed
on, everyone really felt that the cost would be closer
to 10 or 15 percent. So, I believe it is a state
problem.
3:48:02 PM
BILL BJORK, President, NEA-Alaska, noted that he submitted
written testimony [included in the committee packet]. He
emphasized that NEA-Alaska believes that the first critical step
is to well define the magnitude of the problem and that an
independent actuary is needed to review the current retirement
systems to determine what actuarial assumptions ought to be
applied. He noted that the actuary retained by Legislative
Council, Joseph Esuchanko, had testified during a previous
hearing and much of his information was illustrative.
MR. BJORK reviewed that the assumption that Mercer Human
Resources Consulting applied is a 3.5 percent rate of inflation.
Alaska's experience over any 10-year period is 2.6 percent. The
permanent fund, which he said is well respected for good
management, uses a 3 percent inflation figure, as does the
Governor's office. He noted that the difference between a 3
percent and 3.5 percent is huge; a half a percent over 30 years
is $1 billion. He said it is vital that everyone agrees on what
rates to apply.
MR. BJORK stated that wage growth is another issue. Mercer uses
a 3.75-4.5 percent figure for wage growth, he said, but most
employees in state government have experienced far less.
Teachers' salaries, for example, "have grown by 1.36 percent per
year over the last 17 years." The largest increase in salary,
he noted, was 3.23 percent experienced "this last year." He
said [NEA-Alaska] believes it ought to be decided which
actuarial assumption is the correct one to apply.
MR. BJORK mentioned medical costs and said he agrees with Dr.
Solie regarding the rate applied by Mercer after 2014. He said,
"There just is virtually no basis in fact for annual increases
dropping to 5 magically in 2014." He said Mr. Esuchanko
recommended projecting at 7.5 percent. He added, "We've modeled
it ourselves at 8 percent, annually. The assumptions used by
the actuary "ought to be in line with Alaska reality," he said.
He concluded:
We appreciate the information provided today on the
liability associated with each tier in ... PERS and
TRS .... I think that's illustrative look forward to
the conversation at future meetings in that area.
In the area of medical costs, NEA-Alaska has some
experience managing care. We believe that the medical
system provided for our retirees is right for managed
care - not reduction of benefits, but managed care.
We know how to do it, and we could help in that area.
3:52:52 PM
REPRESENTATIVE GUTTENBERG noted that the committee is hearing
challenges to Mercer's actuarial assumptions. He said he would
like an oversight into what the next actuarial contract will be
and what kind of controls will be built into it.
3:53:45 PM
WAYNE HEIMER, testifying on behalf of himself, told the
committee that he is a retired wildlife biologist in Tier I of
the retirement system. He surmised that the committee is trying
to model a system, without knowing the assumptions. He
expressed appreciation of the committee's work. He said it
looks like the state is in trouble because it received bad
assumptions in the past and the legislature must boldly do what
it can. He stated his belief that not much can be done about
the investment market, and he said he does not think it's
practical to "dink too much with the existing benefits." He
said he thinks that means the legislature must do something with
"the cash infusion." He said he has heard some creative ideas
from people who seem to know what they're talking about. He
urged the committee to "look strongly at that cash infusion by
whatever plan there is," and to be fair, wise, and prompt.
3:55:50 PM
DON GRAY, testifying on behalf of himself, stated that because
of the passage of SB 141, new public service employees in PERS
and TRS will not contribute to the pool of funds for earlier
retirees starting July 1, 2006. Conversely, the employers in
the State of Alaska, the boroughs, cities, and local school
districts will still have the obligations that previously
existed in the systems. He supported Mr. Teal's previous
testimony regarding the advantage to paying down the unfunded
liability sooner rather than later, because it "reduces the pain
on school districts and municipalities, in particular." He made
the assumption that that would also reduce "the pain" on local
taxpayers. He continued:
Money is rather fungible; you can spend it in one part
of a budget and save in another part of a budget. It
does become a form of municipal revenue sharing, but
one where the legislature can direct that public money
is spent as intended and is not simply a windfall, as
referred to earlier. As you indicated, it's pay now
or pay later. If you postpone state payment, local
taxpayers will feel the annual increased employer
contribution rate. It's fair that the state prepays
for borough employers, city employers, [and] local
school districts, as well as the State of Alaska, and
for school districts in unorganized boroughs where
they're ... 100 percent state funded - not [funded] by
local taxpayers.
MR. GRAY recalled that Dr. Solie had previously spoken to
amending SB 141, so that the ability to recruit and retain
future quality employees is addressed. He recommended Dr.
Solie's letter dated August 17 be included in the committee
packet. He noted that both city councilman, Jeff Johnson, and
borough assembly chair, Gary Hutchison are CPAs, as well as
elected public officials. He stated his belief that the
opinions of those two men reflect both their professional and
political perspectives, thus he asked the committee to "heed
their comments." He again urged the committee to pay down the
unfunded liability sooner rather than later.
3:58:36 PM
V. K. LAHDENPERA, testifying on behalf of herself, revealed that
she is a second-generation Alaskan who has worked for 35 years
as a public health nurse manager for the Municipality of
Anchorage. She stated that she was opposed to parts of SB 141,
and she requested a copy of Dr. Solie's letter. She indicated
that the results of SB 141 will be that the state will have a
problem obtaining quality professionals. She explained that
years ago the nurses employed by the state were the best paid,
but now are the worst paid. The PERS benefit was a draw in the
past, but now it's gone. She indicated that the state could
find itself in big trouble during a natural disaster if it does
not have enough qualified people in the public health system.
She said after hearing Mr. Teal's testimony she is not sure any
audit is necessary, because it is such an expense. She
indicated that she thinks preventative medicine can reduce the
cost of health care.
4:03:10 PM
MS. LAHDENPERA, regarding SB 141, said the average person is not
versed in financial investments and it's costly to hire a
financial advisor on a routine basis. She indicated that she
hopes there could be options in the retirement plan regarding
investments. She stated that she loved being a government
employee, and she said she feels strongly that the legislature
and the State of Alaska employees need to work closely together
on the issue.
4:04:32 PM
KEVIN RITCHIE, Alaska Municipal League, expressed his
appreciation of the committee's focus on the problem. He said
that over the years, municipalities and school districts have
met on a regular basis and will "continue to try to contribute
positively to the process." He said AML agrees with
Representative Rokeberg that each of the categories of employers
needs to be looked at individually. He continued:
As ... [Mr.] Teal stated, the liability that's accrued
to municipalities and school districts is $3 billion -
give or take - but ... [Ms.] Millhorn said and
Representative Seaton emphasized [that] the 5 percent
increase, which is very significant to municipalities,
still isn't paying the bills. In other words, what
the actuaries are seeing is that the average percent
of salary paid by both municipalities and the state
needs to be somewhere in the neighborhood of 40
percent. Going up 5 percent a year is not paying the
bills, and the real costs are accruing because of
essentially -- and I don't want to call it interest
charges, but it works the same way. The liability
that you see on the part of the municipalities - about
$3 billion - the state is charging or adding to the
liability of municipalities at the rate of 8.25
percent a year. So, in other words, on that $3
billion, that's growing by about a quarter of a
million dollars a year, because of that 8.25 percent
loss of revenue that ... otherwise the state would get
through investments if that money were actually there.
So, in essence it's like a loan at 8.25 percent which
is accruing interest at a very substantial rate.
To give you an idea of the quarter billion dollar
increase in municipal liability each year: that's
about 33 percent of all the property taxes collected
by municipalities. So, you'd have to increase
property taxes about 33 percent just to do an
interest-only approach to the growing liability. So,
it's a very significant issue for local taxpayers.
MR. RITCHIE, referring to Mr. Teal's previous comments regarding
the state's present oil revenue boom, said:
While the state is accruing significant amounts of
money every time the price of oil goes up, according
to OMB several months ago, at least, there's about $65
million for every $1 increase. But according to the
Institute for Social & Economic Research in the
University of Alaska, Alaskans are using about 20
million barrels of oil per year. So, in essence, when
the price of oil goes up one dollar, [it means] $65
million dollars in new revenue to the state, but $20
million of new increases to school districts,
municipalities, families, [and] businesses. And of
course, those costs are much higher in rural areas
where the cost of oil and the cost of transportation
are so much higher. So, that does expand the ...
financial problem that municipalities are facing
during the oil ... revenue boom.
4:08:24 PM
MR. RITCHIE echoed the sentiments of previous speakers that any
changes to assumptions should be made known. He said if there's
any possibility of constitutionally acceptable cost savings,
that would be something that municipalities and school districts
strongly support. Looking at POBs is a priority of
municipalities, he said. He emphasized what some other speakers
had said regarding acting sooner rather than later because of
rising interest rates. He said that certainly a "pay-down into
the system" is a long-term benefit to all municipalities. He
said he would like the committee to consider putting a cap on
contributions by municipalities and school districts, "in that
the bulk of the resource revenues obviously accrue to the state,
not the municipalities or school districts." He said that might
be a way of sorting out the liability in a way that's equitable
and affordable for municipalities and school districts. He told
the committee that finance directors and leaders have a lot of
great information and ideas and could help define the municipal
side and school district side of the financial issue for the
committee.
4:10:26 PM
CHAIR WEYHRAUCH thanked the Fairbanks delegation, particularly
Representatives Kelly, Ramras, Guttenberg, and Coghill, and all
the people in Fairbanks who showed up to the meeting there.
ADJOURNMENT
There being no further business before the committee, the House
Special Committee on Ways and Means meeting was adjourned at
4:10:16 PM.
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