Legislature(2005 - 2006)SENATE FINANCE 532

01/26/2005 09:30 AM Senate FINANCE


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09:32:58 AM Start
09:35:42 AM Adjourn
* first hearing in first committee of referral
+ teleconferenced
= bill was previously heard/scheduled
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+ Department of Administration: TELECONFERENCED
Public Employee's & Teacher's Retirement
Systems Overview
                              MINUTES                                                                                         
                     SENATE FINANCE COMMITTEE                                                                                 
                         January 26, 2005                                                                                     
                             9:32 a.m.                                                                                        
                                                                                                                                
                                                                                                                              
CALL TO ORDER                                                                                                               
                                                                                                                                
Co-Chair Green convened the meeting at approximately 9:32:58 AM.                                                              
                                                                                                                                
PRESENT                                                                                                                     
                                                                                                                                
Senator Lyda Green, Co-Chair                                                                                                    
Senator Gary Wilken, Co-Chair                                                                                                   
Senator Con Bunde, Vice-Chair                                                                                                   
Senator Fred Dyson                                                                                                              
Senator Bert Stedman                                                                                                            
Senator Donny Olson                                                                                                             
                                                                                                                                
Also Attending:   SENATOR GARY STEVENS;  REPRESENTATIVE MIKE  KELLY;                                                          
MELANIE  MILLHORN, Director,  Division of  Retirement and  Benefits,                                                            
Department of Administration;                                                                                                   
                                                                                                                                
Attending  via  Teleconference:     From  an  offnet  location:  BOB                                                          
REYNOLDS,  Senior   Actuarial  Consultant,  Mercer  Human   Resource                                                            
Consulting                                                                                                                      
                                                                                                                                
SUMMARY INFORMATION                                                                                                         
                                                                                                                                
Overview By Department of Administration:                                                                                       
Public Employee's and Teachers Retirement Systems                                                                               
                                                                                                                                
                                                                                                                                
AT EASE 9:35:42 AM                                                                                                            
                                                                                                                                
MELANIE  MILLHORN, Director,  Division of  Retirement and  Benefits,                                                            
Department  of Administration, directed  her testimony to  a handout                                                            
titled, "State  of Alaska,  PERS & TRS, Presentation  to the  Alaska                                                            
Legislature" [copy on file.]                                                                                                    
                                                                                                                                
Ms. Millhorn  indicated the three  funding policies that  govern the                                                            
Public  Employee's  Retirement   System  (PERS)  and  the  Teacher's                                                            
Retirement System (TRS),  as demonstrated on page 2 of the overview.                                                            
The Alaska  State Pension  Investment Board  governs the  investment                                                            
policy.  The  Funding  policies  are  administered   by  the  Public                                                            
Employee's  Retirement Board,  which also has  the authority  to set                                                            
the employer contribution  rate. The Teacher's Retirement  Board has                                                            
the authority  to make a recommendation  to the commissioner  of the                                                            
Department of Administration for the employer contribution rate.                                                                
                                                                                                                                
Ms. Millhorn noted  that over the past several years,  the Teacher's                                                            
Retirement Board  had actually adopted and implemented  the employer                                                            
contribution  rate. This came to the  attention of Commissioner  Ray                                                            
Matiashowski,  who then reminded the TRS Board that  it did not have                                                            
that authority and the practice has ceased.                                                                                     
                                                                                                                                
Ms. Millhorn  informed that  some funding  policies governed  by the                                                            
PERS Board, the  TRS Board and the commissioner include  "experience                                                            
studies"  conducted   on the  boards   every  four  to  five  years.                                                            
Actuarial  audits  are done  approximately  every five  years.  This                                                            
information is available on the Internet.                                                                                       
                                                                                                                                
Ms.  Millhorn stressed  that  the legislature  has  the "unfettered                                                             
right" to determine the  benefits policy for the retirement systems.                                                            
In 1978 the  State attorney general  issued an opinion finding  that                                                            
retirement benefits  could not be negotiated through  the collective                                                            
bargaining process. This decision has not been challenged.                                                                      
                                                                                                                                
Senator Dyson  clarified that the  legislature has the authority  to                                                            
determine benefit policy  for the future, but could not make changes                                                            
retroactively.                                                                                                                  
                                                                                                                                
Ms. Millhorn affirmed the  legislature could only establish new tier                                                            
levels.                                                                                                                         
                                                                                                                                
Ms. Millhorn  characterized  page 3, "Alaska  Public Employees'  and                                                            
Teachers' Retirement  System, Earnings-Actuarial  Rate-Health  Cost-                                                            
Employer Rates-Funding  Ratios" as a summary sheet. The PERS and TRS                                                            
systems  are defined  benefit plans  in that the  benefits paid  are                                                            
based  on  a formula  established  in  statute.  Members  receive  a                                                            
lifetime benefit that is  based on years of service, salary and age.                                                            
Actuarial evaluation  reports are prepared annually  on the PERS and                                                            
TRS programs  and  measure the  assets  and the  liabilities of  the                                                            
plan.  One  primary  function  of  an  actuarial  evaluation  is  to                                                            
determine  the  annual  contribution  amount  that  is  expected  to                                                            
adequate  provide for  future  benefit payouts.  There  are over  20                                                            
separate assumptions  that divided into demographic  assumptions and                                                            
economic assumptions. Two  of the major economic assumptions are the                                                            
investment   return  and  the  health   cost  trend.  An   actuarial                                                            
evaluation is  essentially a "snapshot in time" to  demonstrate what                                                            
is necessary  in  the event  all benefits  must be  paid out at  one                                                            
point  in time.  She  qualified  this  would  never occur,  but  the                                                            
information  is necessary to determine  the solvency of the  system.                                                            
                                                                                                                                
Ms. Millhorn  noted the measurement  years  of FY 01 through  FY 03,                                                            
and employer  rate years of FY 04  through FY 06, listed  on page 3.                                                            
The employer  contribution rate is  set two years ahead.  The actual                                                            
investment return  for FY 01 and FY 02 were negative  and the return                                                            
for  FY 03  was a  positive  rate of  3.69  percent.  The system  is                                                            
projected over a 25-year  period at a targeted rate of 8.25 percent.                                                            
The shortfall  over  this three-year  period is  represented on  the                                                            
summary as a percentage and as a dollar amount.                                                                                 
                                                                                                                                
Ms.  Millhorn  reported  that  historically  employer  and  employee                                                            
contributions comprise  of 25 percent of the total contributions and                                                            
that 75 percent is derived  from investment returns on the Fund. The                                                            
health care cost is another  primary economic assumption and was 7.5                                                            
percent in  FY 01. This assumption  was reset beginning in  FY 02 to                                                            
twelve  percent.  The consequence   of this  was  "that it  took  in                                                            
considerable liability  to the System by changing  that health trend                                                            
cost  upward."  However  it  more  accurately  reflects  the  actual                                                            
experience  that has occurred for  the systems over "some  period of                                                            
time."                                                                                                                          
                                                                                                                                
Ms.  Millhorn  stated that  the  total accrued  liability  from  the                                                            
"health care percent" was  30 percent for FY 01 and 40 percent in FY                                                            
03.  This is  fairly  significant  to  the PERS  systems.  The  same                                                            
liability to the TRS system is 28 percent.                                                                                      
                                                                                                                                
Ms.  Millhorn  explained   that  the  average  calculated   rate  is                                                            
determined  by the consultant,  Mercer Human  Resources Consulting,                                                             
and  presented to  the  boards with  a  recommendation  of what  the                                                            
contribution rate  must be to fund future benefits  for members. The                                                            
average calculated  rate for the PERS system was 25.63  percent. The                                                            
PERS Board  is allowed  by regulation  AAC 35.900  to adopt up  to a                                                            
five percent  increase or decrease  in a one-year period.   The PERS                                                            
Board  adopted  this  regulation  in  1991  at the  request  of  the                                                            
Municipality of Anchorage for budgetary purposes.                                                                               
                                                                                                                                
9:45:17 AM                                                                                                                      
                                                                                                                                
Ms. Millhorn reminded  that, unlike other pension  systems, the PERS                                                            
and TRS plans  pre-fund for medical  benefits. The funding  ratio of                                                            
the  plans  calculated  without  medical  costs  is  121.4  percent;                                                            
calculated with  the medical liability component,  the funding ratio                                                            
is 72.8 percent.  The states of Ohio, Michigan and  Kentucky are the                                                            
only other states that pre-fund for medical benefits.                                                                           
                                                                                                                                
Senator  Stedman  asked if  the  calculation  of the  funding  ratio                                                            
excluding  the medical  liability  included  all the  assets in  the                                                            
plan.                                                                                                                           
                                                                                                                                
Ms. Millhorn answered yes.                                                                                                      
                                                                                                                                
Senator  Stedman  noted that  a  portion  of the  contributions  are                                                            
"embedded" for health care costs.                                                                                               
                                                                                                                                
Ms. Millhorn deferred to Mercer Human Resource Consulting.                                                                      
                                                                                                                                
BOB REYNOLDS,  Senior Actuarial  Consultant,  Mercer Human  Resource                                                            
Consulting, testified via  teleconference from an offnet location to                                                            
reaffirm  that  the  121  percent  funding  ratio   for non-medical                                                             
benefits  includes  all  the assets  of  the  PERS system.  He  also                                                            
affirmed Senator Stedman's  observation that the ratio is as high as                                                            
it is because  the systems have been funding to target  both medical                                                            
and non-medical  benefits over time. Mr. Reynolds  qualified that if                                                            
the  contributions  had  only  been  targeted  to  fund non-medical                                                             
benefits, the funding ratio would be considerably lower.                                                                        
                                                                                                                                
Senator Stedman clarified  that if the systems had never been funded                                                            
to pre-fund medical  costs, contribution rates would  have been much                                                            
lower and the 121 percent funding ratio would also be lower.                                                                    
                                                                                                                                
Mr. Reynolds affirmed.                                                                                                          
                                                                                                                                
Senator  Stedman surmised  that Alaska's systems  are therefore  not                                                            
readily comparable  to the systems of other states  that do not pre-                                                            
fund for medical benefits.                                                                                                      
                                                                                                                                
Mr. Reynolds agreed; although  in terms of comparing the liabilities                                                            
and the assets of the system  this is a good comparison. The funding                                                            
ratio  is determined  by  dividing  the assets  by  the non-medical                                                             
liabilities.                                                                                                                    
                                                                                                                                
Senator Stedman  clarified that the Board-adopted  contribution rate                                                            
for FY01 was 6.77 percent  and was 16.77 percent for FY 03. He asked                                                            
if  this increase  was  "substantially  broader" compared  to  other                                                            
states.  He asked if  the contribution  rates for  other states  had                                                            
been "extremely low".                                                                                                           
                                                                                                                                
Mr. Reynolds  did not have specific  survey data on the matter,  but                                                            
estimated  Senator Stedman's  assessment was  correct. The  standard                                                            
actuarial practice  is to calculate  a contribution rate  that takes                                                            
into account  the funded status  of the system.  At a time  when the                                                            
funded status  of a system is in excess of 100 percent,  the surplus                                                            
could be drawn upon to  lower contribution rates. Many, if not most,                                                            
systems  had a perceived  surplus  during the later  1990s prior  to                                                            
market  losses and  changes in  assumptions to  reflect health  care                                                            
experience.                                                                                                                     
                                                                                                                                
Senator  Stedman  characterized   the  over-funding  of  the  Alaska                                                            
pension  systems  that occurred  in  1999 and  2000  as "slight"  at                                                            
approximately  one to five-percent,  rather than a more significant                                                             
20 percent.                                                                                                                     
                                                                                                                                
Mr. Reynolds cited the  consultant's evaluation reports finding that                                                            
the funding  statuses not  significantly in  excess of 100  percent.                                                            
One  reason is  the  use of  "smoothing  practices"  in valuing  the                                                            
assets of the system to  mitigate some of the volatility inherent in                                                            
the  investment  market.   Actual  funding  status relative  to  the                                                            
market value  of the assets would  have demonstrated a higher  over-                                                            
funding of between 115  and 120 percent. The adjusted funding status                                                            
factoring the  smoothing practices calculates the  funding status at                                                            
between 101 and 106 percent.                                                                                                    
                                                                                                                                
Senator Stedman asked for  explanation of how the smoothing practice                                                            
operates:  its benefits  as  well as  the possibility  of  "skewing"                                                            
results.                                                                                                                        
                                                                                                                                
Mr. Reynolds remarked  that smoothing is a standard  actuarial tool.                                                            
It is done in an attempt  to help the State and the boards to budget                                                            
for the contributions  to the plans.  The contribution requirements                                                             
are a function  of the funded  status of the  systems, which  is the                                                            
difference  between the liabilities  and the assets of the  systems.                                                            
The assets are  diversely invested in the marketplace  by the Alaska                                                            
State Pension Investment  Board, according to investment policy, and                                                            
include stocks,  bonds and real estate.  Those investments  measured                                                            
over short time  periods of one year can be volatile.  The theory of                                                            
smoothing methods  is to help mitigate that volatility  to allow for                                                            
"a more  orderly" funding  process. Over  longer time periods,  this                                                            
theory  is  successful.  However,  the situation  was  different  in                                                            
recent years because  of several consecutive years  of significantly                                                            
higher than expected  rates of returns followed by  three successive                                                            
years with significantly  lower rates of returns than  expectations.                                                            
                                                                                                                                
Senator Bunde  noted that the average  calculated rate for  the PERS                                                            
and TRS plans were significantly  higher than the contribution rates                                                            
adopted by the boards.                                                                                                          
                                                                                                                                
Ms.  Millhorn   defined   the  average   calculated   rate  as   the                                                            
contribution  rate recommended  by the consultant  to the boards  as                                                            
necessary to  fully fund the plans.  She explained that the  adopted                                                            
rates are lower  because the PERS board is limited  by regulation to                                                            
a five  percent annual increase  or decrease.  The TRS Board  is not                                                            
limited by  such a cap, and could  have adopted a higher  percentage                                                            
rate increase.                                                                                                                  
                                                                                                                                
Senator Bunde  understood  that the PERS  Board adopted the  maximum                                                            
increase  allowed, and  the TRS Board  could have  adopted a  higher                                                            
rate increase, but chose not to.                                                                                                
                                                                                                                                
Ms. Millhorn affirmed.                                                                                                          
                                                                                                                                
Senator Bunde commented to this action of "not facing reality".                                                                 
                                                                                                                                
Ms. Millhorn indicated this would be discussed.                                                                                 
                                                                                                                                
Ms. Millhorn  spoke of the consequences  of the boards' adoption  of                                                            
rates  lower than  the  recommended  average calculated  rates.  The                                                            
systems  incur additional  liability  for the  next 25-year  period.                                                            
This represents an additional  liability of 1.4 percent for PERS and                                                            
1.1 percent to the employer contribution rate.                                                                                  
                                                                                                                                
Senator Bunde  was interested in why the boards failed  to adopt the                                                            
recommended  rate. He  surmised this  "makes the  problem worse  not                                                            
better."                                                                                                                        
                                                                                                                                
Ms.  Millhorn agreed.  She  acknowledged the  "flip  side" from  the                                                            
employers' perspective  of the amount of increases an employer could                                                            
budget for in any one year.                                                                                                     
                                                                                                                                
Ms. Millhorn continued  with her presentation noting the information                                                            
listed for the PERS plan  is also listed for the TRS plan on page 3.                                                            
The situation  of TRS is  similar to that  for PERS.  The  projected                                                            
investment return is 8.25  percent, although the actual returns were                                                            
3.68 percent for FY 03,  compared to 3.67 percent for the PERS plan.                                                            
The cumulative shortfall  for TRS during the three-year period of FY                                                            
01 through  FY 03 is 34  percent and represents  a shortfall  to the                                                            
system of $2.1 billion.                                                                                                         
                                                                                                                                
Ms. Millhorn  noted  the cumulative  health care  trend was  changed                                                            
during  this  time  period and  represents  28  percent  in  accrued                                                            
liabilities  to the TRS plan  and 40 percent  to the PERS plan.  The                                                            
benefit is higher for TRS  members at approximately $2,500 per month                                                            
per member compared  to the average benefit of approximately  $1,500                                                            
for PERS members.                                                                                                               
                                                                                                                                
Ms. Millhorn reported that  the TRS system is funded at 89.5 percent                                                            
excluding the  medical liability.  Including the medical  component,                                                            
the system is funded at 64.3 percent.                                                                                           
                                                                                                                                
Senator  Stedman requested  further information  be provided  to him                                                            
regarding  the  funding  ratio,  specifically   the  impact  of  the                                                            
smoothing practices.                                                                                                            
                                                                                                                                
Ms. Millhorn would provide this information.                                                                                    
                                                                                                                                
Co-Chair  Wilken noted the  funding ratio is  calculated as  a total                                                            
and with the medical benefits  excluded. He assumed that the medical                                                            
benefits and non-medical  benefits funding ratios would calculate to                                                            
the  total. He  asked  the funding  ratio  of the  medical  benefits                                                            
excluding the non-medical benefits.                                                                                             
                                                                                                                                
Ms. Millhorn deferred to Mr. Reynolds.                                                                                          
                                                                                                                                
Mr. Reynolds  replied that because  all assets have been  applied to                                                            
the calculation of non-medical  benefits, the medical benefits would                                                            
have zero assets.                                                                                                               
                                                                                                                                
Senator Stedman commented  that the data could be calculated to show                                                            
all  the assets  for either  medical  or non-medical  benefits,  and                                                            
therefore  the  analysis  is  meaningless  because  the  assets  are                                                            
"double-counted".                                                                                                               
                                                                                                                                
Ms. Millhorn  next directed  attention  to page  4, a press  release                                                            
from Gallagher  Benefit Services,  Inc. titled, "New GASB  Rules for                                                            
Public  Sector Plans  Finalized".  This announces  that in  November                                                            
2004, the Government  Accounting Standards  Board (GASB)  released a                                                            
Technical  Bulletin  mandating  that  by the  year  2007,  employers                                                            
subject  to  GASB  rules account  for  retiree  health  benefits  in                                                            
defined benefit  pension plans. Most pension systems  currently make                                                            
annual appropriations for  medical benefits expenses. This will have                                                            
no affect on  the Alaska systems because  they already pre-fund  for                                                            
medical  benefits.  It  will  have a  significant  impact  on  other                                                            
pension systems.                                                                                                                
                                                                                                                                
Senator  Stedman emphasized  that the position  of Alaska's  pension                                                            
plan is  different than  that of  the state of  California or  other                                                            
states that  currently do  not pre-fund  medical benefits.  Alaska's                                                            
unfunded liability  is considerably  "smaller and easier  to handle"                                                            
than other states.                                                                                                              
                                                                                                                                
Ms.  Millhorn agreed  that  because the  Alaskan  plan accounts  for                                                            
liabilities on pension  and medical benefits on an accrual basis, it                                                            
is better prepared than  other systems.  In 2007 those other systems                                                            
would  be required  to  account  for medical  liabilities.  This  is                                                            
significant  and could  affect the  bond ratings  for those  states.                                                            
Officials  are attempting  to  "cut those  costs any  way that  they                                                            
can."                                                                                                                           
                                                                                                                                
Mr.  Reynolds had  only  anecdotal data  on  the size  of the  other                                                            
states' pension  plan medical liabilities. The new  GASB rules would                                                            
not require those systems  to pre-fund for medical benefits, only to                                                            
account for the liability.  However the discount rate on the assumed                                                            
rate  of return  that  governmental  entities utilize  to  calculate                                                            
liabilities is supposed  to be based on the assets held toward those                                                            
liabilities.  The PERS and TRS systems  utilize a return  assumption                                                            
of 8.25 percent,  based on the investment policy of  the ASPIB board                                                            
for pre-funding  medical benefits.  According to the new  GASB rule,                                                            
states  that  do not  pre-fund  for  liabilities  must  utilize  the                                                            
internal  rate of return,  essentially a cash  rate, to value  those                                                            
liabilities.  This could  be approximately  three-percent. Not  only                                                            
would these  plans "be booking a liability  for the first  time" but                                                            
would also  be required to  state a liability  that is considerably                                                             
higher than  if the medical  benefits had  been pre-funded.  This is                                                            
because  a  "very  low"  discount   rate  is  used  to  value  those                                                            
liabilities.                                                                                                                    
                                                                                                                                
Mr.  Reynolds  next addressed  pages  5 through  7,  which  indicate                                                            
investment  returns and funded  status for  the PERS and TRS  plans.                                                            
This information  "deals with question:  'How did we get  here?'" in                                                            
listing data  for the previous  years and  analyzing changes  in the                                                            
funded status of the systems  categorized by source. He outlined the                                                            
information  on the  graphs  of pages  5 and  6. He  noted that  the                                                            
funding  status  increased  in some  years  and decreased  in  other                                                            
years.                                                                                                                          
                                                                                                                                
Mr.  Reynolds   explained   the  sources   as  follows:   Non-Health                                                            
Assumption  Changes, includes mortality  improvements or  changes in                                                            
retirement  rates   based  on  the  consultant's  analysis   of  the                                                            
experience  of the system;  Health Assumption  Changes, the  primary                                                            
instance  being  the  expectation   in which   medical  costs  would                                                            
increase  in  the  future;  Demographic  Experience,  determined  by                                                            
analyzing   how  the  population   has  changed   relative   to  the                                                            
assumptions  used; Plan Changes, as  improvements in plan  benefits;                                                            
Medical Experience,  how the medical  costs changed relative  to the                                                            
expectations  regarding increases;  and Investment  Experience,  how                                                            
investments performed relative  to the 8.25 percent assumptions. The                                                            
charts  demonstrate  the  magnitude  of  the  different  sources  on                                                            
increases and decreases for various years.                                                                                      
                                                                                                                                
Senator  Bunde referenced  the inset  listing  "Declines in  funding                                                            
status were  caused by  (in descending order  of magnitude)"  noting                                                            
that demographic  experience is the  sixth-most contributing  factor                                                            
for PERS and the  second most contributing factor  for TRS. He asked                                                            
the reason for the discrepancy.                                                                                                 
                                                                                                                                
Mr.  Reynolds  explained   the  demographic  experience   represents                                                            
changes in  the population  that differ from  the assumptions.  This                                                            
includes  the rate  and ages in  which members  retire, termination                                                             
rates  from active  membership prior  to retirement  age,  mortality                                                            
experience and  salary increases. Ordinarily demographic  experience                                                            
is  a relatively  minor  factor  because  the system  experience  is                                                            
specifically analyzed  in setting assumptions. The  assumptions tend                                                            
to be good predictors of  actual occurrences. Demographic experience                                                            
is a larger contributor  for changes to the TRS plan  as a result of                                                            
a  computer  system  change  in  the  method  of  reporting  teacher                                                            
membership. The  evaluation date for the systems is  June 30 or July                                                            
1. The prior  systems reported members  as terminated at  the end of                                                            
the school  year in  the spring then  re-hired in  the fall  for the                                                            
following school year.  These members were therefore not included in                                                            
the  data submitted  to  the  consultant.  Those members  were  then                                                            
included  in  the  data  after  the  computer  system  change.  This                                                            
resulted in a loss to the TRS' funding status.                                                                                  
                                                                                                                                
Co-Chair Green asked the year of this computer system change.                                                                   
                                                                                                                                
Mr. Reynolds replied the year was 2001.                                                                                         
                                                                                                                                
Senator Stedman  also noted that health assumptions  was the second-                                                            
most  contributing  factor to  the PERS  system and  the  fifth-most                                                            
contributing  factor  to  the  TRS system  and  asked  if  different                                                            
assumptions were used to  calculate funding status for PERS and TRS.                                                            
                                                                                                                                
Mr. Reynolds  responded that  health experience  is not necessarily                                                             
different between the two  systems. The health assumptions are based                                                            
on the rate that health  care costs are expected to increase and are                                                            
affected  by  "more  national-type  concerns".  Therefore  the  same                                                            
assumptions  are used for both plans.  The health assumptions  are a                                                            
larger factor  in the PERS funding  status than the TRS because  the                                                            
non-medical benefits are  lower for PERS members than TRS members on                                                            
average.  As  a  result   the  medical  liabilities   are  a  larger                                                            
contributor to  the unfunded liability portion of  the PERS plan and                                                            
changes to the  health assumptions make a greater  difference to its                                                            
funding status.                                                                                                                 
                                                                                                                                
Senator  Stedman  asked for  an  explanation  of the  unbalance  and                                                            
whether  it relates  to the previous  funding ratio  and the  weight                                                            
given to the health assumptions.                                                                                                
                                                                                                                                
Mr. Reynolds  replied  that the  unbalance  had nothing  to do  with                                                            
funding, rather  the legislated benefit  levels of the two  systems.                                                            
The TRS system  has somewhat higher non-medical benefit  levels than                                                            
the PERS system.  As a result, a larger  portion of the benefits  is                                                            
medical for PERS members.                                                                                                       
                                                                                                                                
Senator  Stedman   then  pointed   out  that  currently   investment                                                            
performance  is calculated  utilizing  fair  market  value. In  some                                                            
years,  many plans held  assets at  cost or "book  value". He  asked                                                            
when,  if ever, the  Alaskan  plan held  assets at  cost, or if  the                                                            
assets have always been held at fair market value.                                                                              
                                                                                                                                
Mr. Reynolds  responded  that the  assets of the  system are  always                                                            
accounted at  fair market value when  reported to the consultant  on                                                            
June 30 of  each year. He qualified  that assets may have  been held                                                            
at cost, but if  so, it was many years prior. A smoothing  method is                                                            
used; however, cost is not a factor in that method.                                                                             
                                                                                                                                
Senator  Stedman clarified  that  the analysis  of  all the  assets,                                                            
including  bond packages,  during the last  decade have been  market                                                            
value and not cost.                                                                                                             
                                                                                                                                
Mr. Reynolds understood  this to be so. The data submitted to Mercer                                                            
Consulting lists the market  value of the portfolio as of June 30 of                                                            
each year and  reflects the amount  the portfolio could be  sold for                                                            
at that date.                                                                                                                   
                                                                                                                                
Senator  Stedman  requested  the June  30  information  provided  to                                                            
Mercer for the past ten years.                                                                                                  
                                                                                                                                
10:27:30                                                                                                                        
                                                                                                                                
Senator Stedman informed  that he served on a municipal assembly and                                                            
that  ten years  ago he  recalled learning  of an  unfunded  pension                                                            
liability at that time.  He wanted to assure that was an anomaly and                                                            
not embedded in the analysis.                                                                                                   
                                                                                                                                
Senator  Bunde  expressed  confusion  about  the  previous  computer                                                            
system  that did  not include  all teachers  in the  TRS system.  He                                                            
questioned  the practice  of reporting  members  as terminated  then                                                            
rehired  for  each school  year.  He asked  how  the plan  could  be                                                            
managed without proper  accounting of the members. He asked how this                                                            
could have  been allowed to occur,  as it involved 90 to  95 percent                                                            
of the membership.                                                                                                              
                                                                                                                                
Mr. Reynolds clarified  that only approximately five  percent of the                                                            
members were reported  in this manner. The consultants  do not audit                                                            
the  accuracy  of the  data  provided to  it  from the  Division  of                                                            
Retirement  and Benefits,  although the information  is reviewed  to                                                            
"reasonableness".   Because  of  the   minimal  number  of   members                                                            
affected,  the discrepancies  were not apparent.  The conversion  to                                                            
the new computer  system identified the discrepancy,  which resulted                                                            
in additional liability.                                                                                                        
                                                                                                                                
Senator Bunde  was assured the amount  was five-percent rather  than                                                            
95 percent.                                                                                                                     
                                                                                                                                
Mr. Reynolds overviewed  the information contained on pages 7 and 8,                                                            
which  is a  letter  dated  January 3,  2005,  from himself  to  Ms.                                                            
Millhorn, that  details changes in  the funded percentages  for PERS                                                            
and TRS from  July 1, 1992 through  June 30, 2003. This information                                                             
is based  solely  at fair  market value  of assets  and involves  no                                                            
smoothing methods. The  data could be different if smoothing methods                                                            
were  employed.  The  most  significant  factors  affecting  funding                                                            
status for  the past three to four  years are investment  experience                                                            
and  health  care  costs.  However,   over  a  longer  time  period,                                                            
investment losses are a  small contributor to funding status because                                                            
the increases  in market performance from the 1990s  is factored in.                                                            
                                                                                                                                
Mr. Reynolds  pointed  out that losses  due to  liabilities of  18.5                                                            
percent for PERS  and 26.6 percent for TRS are significantly  higher                                                            
than losses  due to assets of 3.8  percent for PERS and 2.7  percent                                                            
for TRS.  During  the analyzed  time period,  investments  performed                                                            
below the 8.25 percent  anticipated rate, although "not dramatically                                                            
less".  The majority  of the  changes are  caused  by the  liability                                                            
"side".                                                                                                                         
                                                                                                                                
Mr. Reynolds  reiterated the breakdown  of the liabilities  for both                                                            
plans  as:  health  experience,  health  assumption   changes,  plan                                                            
changes, demographic experience,  and non-health assumption changes.                                                            
The aforementioned  letter contains  a chart listing the  percentage                                                            
impact on  funded status  of each factor in  addition to the  dollar                                                            
impact on  the unfunded liability  of each  factor over the  11-year                                                            
time period.                                                                                                                    
                                                                                                                                
Ms. Millhorn continued  the presentation with page  9, a spreadsheet                                                            
titled, "Public  Employees'/Teachers' Retirement System  Information                                                            
Briefing".  This delineates PERS and  TRS members in the  categories                                                            
of active,  deferred vested, deferred  and retired, and into  tiers.                                                            
The total  PERS  population is  71,554  members, and  the TRS  total                                                            
population  is 22,098 members.  The spreadsheet  also describes  the                                                            
medical  plans  of  the  different   tiers.  As  of  December  2004,                                                            
approximately   27,000  members  received  medical  benefits.   This                                                            
combined with  members' dependent coverage amounts  to 52,000 people                                                            
with medical  benefits. This number  is expected to increase  in the                                                            
future.                                                                                                                         
                                                                                                                                
Ms. Millhorn  referenced  page 10,  "Retiree  Medical Insurance",  a                                                            
table listing  the monthly premium  per retiree for health  coverage                                                            
for each year  between 1977 and 2003, the annual percentage  change,                                                            
and  the average  compounded  annual  increases.  The  health  trend                                                            
calculation  was reassessed  to 12 percent  for approximately  three                                                            
years  beginning  in  2002,  then  decreases   by one-half   percent                                                            
thereafter. She  demonstrated the volatility of the  actual rates by                                                            
pointing  out that in  1993, the  rate decreased  by seven  percent,                                                            
then increased  by 37 percent  in 1994 and  in 1995, increased  nine                                                            
percent.  Because  of this  volatility,  it  is difficult  to  trend                                                            
increases  in health  care  costs. Data  for  the year  2005 is  not                                                            
included  in  the  spreadsheet,   although  the  actuarial   benefit                                                            
consultant has  indicated the premium increase would  be $850, a 5.5                                                            
percent increase.  The primary factor for this increase  is "that it                                                            
represents  less than the projected  claims costs" and fewer  claims                                                            
were submitted.  This is beneficial for the year 2005;  however, the                                                            
impacts for 2006 are unknown.                                                                                                   
                                                                                                                                
Senator Stedman  requested additional  information on the  structure                                                            
of the medical  insurance benefit.  He asked if the State  of Alaska                                                            
is "stand alone"  with the premiums  set by the experiences  of just                                                            
the State,  similar to  a self-insured plan,  or whether  experience                                                            
models from outside the State system are utilized.                                                                              
                                                                                                                                
Ms. Millhorn  replied that  the actuarial  benefit consultant  makes                                                            
recommendations  for  premium increases  to  the Division  based  on                                                            
experiences  of the State  as well  as national  trends.  She  would                                                            
provide additional detailed information on this matter.                                                                         
                                                                                                                                
Ms. Millhorn  informed  of actions  of the Division  to address  the                                                            
increasing  medical  costs  given  the restraints  of  the  benefits                                                            
plans. These  include positive enrollment  requirements for  retiree                                                            
and active  populations. This is an  industry standard and  involves                                                            
members  providing proof  that claimed dependants  are qualified  as                                                            
such  through  marriage  licenses,  birth  certificates,  etc.  This                                                            
practice would begin in the current year.                                                                                       
                                                                                                                                
Ms.  Millhorn  told of  another  other efforts  to  utilize  generic                                                            
prescription  drugs in  place of  brand name  drugs where  possible.                                                            
Membership use of generic  drugs has increased from 37 percent to 42                                                            
percent in  the few years this has  been facilitated. For  each one-                                                            
percent change  from brand name to generic drugs,  the plan saves $1                                                            
million.  There is misunderstanding  regarding  differences  between                                                            
generic  and  brand  name  drugs  and  the  Division   is  providing                                                            
education to the membership to clarify the matter.                                                                              
                                                                                                                                
Ms.  Millhorn  expressed that  to  the Division's  "dismay"  it  was                                                            
discovered the plan was  not in compliance in verifying coverage for                                                            
dependants between  the ages of 18 and 23. The plan  did not include                                                            
a requirement that these  dependants provide verification of college                                                            
attendance. This  omission had occurred for approximately  20 years.                                                            
The Division has  taken immediate action to remedy  the situation in                                                            
mailing letters  to all members claiming  such dependents  notifying                                                            
them of  the new requirement  to submit  school transcripts  proving                                                            
full-time attendance.  Of the 2,600  letters sent, the Division  has                                                            
received  1,300 replies. As  a result the  1,300 dependents  who did                                                            
not respond have been un-enrolled in the system.                                                                                
                                                                                                                                
Ms. Millhorn also spoke  of the annual renegotiations of third party                                                            
administrative  contract with  Aetna. At the  latest session,  after                                                            
Aetna had submitted a contract  for increased fees, the Division was                                                            
successful in negotiating  a reduced fee schedule. This has resulted                                                            
in an immediate savings  of $350,000. The Division also negotiated a                                                            
"network guarantee"  savings of approximately  $26 million  in which                                                            
the fee  schedule for  active and  retiree members  would be  "flat"                                                            
with no  increase in fees  "until and unless  they can guarantee  to                                                            
the State of Alaska  through a reconciliation process,  that we will                                                            
have  a realized  savings of  $30 million."  If  this occurs,  Aetna                                                            
would be able to recover some of the fees, up to $470,000.                                                                      
                                                                                                                                
Ms.  Millhorn continued  to  page 11  a spreadsheet  titled  "Public                                                            
Employees'  Retirement System,  System Membership  by Status"  and a                                                            
bar  graph titled  "Public  Employees'  Retirement  System,  10-Year                                                            
Comparison  of Active  and  Retired  Members." This  information  is                                                            
garnered directly  from the comprehensive  annual financial  report.                                                            
She noted that  in 1993, the system had approximately  9,100 members                                                            
compared to 18,400  members in 2003, representing  almost double the                                                            
number of  members in a ten-year  time period.  The year 2004  had a                                                            
record retirement of 20,25  members. This has not occurred since the                                                            
previous Retirement Incentive Plan (RIP) of 1995.                                                                               
                                                                                                                                
Ms. Millhorn  noted page  12 provides information  on a spreadsheet                                                             
titled,  "Public  Employees'  Retirement  System, Expenses  by  Type                                                            
(000's  omitted)"   and  a  bar  graph  titled  "Public   Employees'                                                            
Retirement  System,  10-Year Comparison  of  Expenses  by Type".  In                                                            
1995,   health  care   benefits  cost   $40   million  compared   to                                                            
$167,360,000 in the year 2004.                                                                                                  
                                                                                                                                
Ms. Millhorn  noted identical spreadsheets  and bar graphs  on pages                                                            
13 and  14 utilizing  data for  the TRS  plan. Again  the amount  of                                                            
retirees has almost doubled in ten years.                                                                                       
                                                                                                                                
Senator Stedman  surmised from  the trend that  in a few years,  the                                                            
number of retirees  would be greater than the number  of workers. He                                                            
asked if this is the forecast.                                                                                                  
                                                                                                                                
Ms. Millhorn  responded that after  reviewing workforce demographic                                                             
information  she  concluded   that  a larger   population  would  be                                                            
eligible  for retirement.  She has  not undertaken  any analysis  of                                                            
this, but offered to calculate  the percentages of members who would                                                            
become eligible for retirement in different years.                                                                              
                                                                                                                                
Senator Bunde  informed that the Department  of Labor and  Workforce                                                            
Development has demographic  information indicating that the largest                                                            
segment of  the population in Alaska  is currently between  the ages                                                            
of 30  and 50.  In ten  years, this  age group  would represent  the                                                            
smallest  percentage of  the population  with  the largest  segments                                                            
being senior citizens and children under the age of five.                                                                       
                                                                                                                                
Ms.  Millhorn  commented on  the  increase  of health  care  benefit                                                            
expenses for  TRS from $18,264,000  in 1995 to $75,601,000  in 2004.                                                            
                                                                                                                                
Ms. Millhorn continued  that page 15 is a spreadsheet titled "Alaska                                                            
Public  Employees'  and  Teacher's  Retirement  System,   Investment                                                            
Return/Medical  Costs - Assumption  v. Actual & Mortality,  Employer                                                            
Actuarial Computed Rates  and Board Adopted Rates, Rate Year FY 90 -                                                            
FY 06".   This  summarizes the  investment return  assumptions,  the                                                            
recommendations of Mercer  Human Resources Consulting and the actual                                                            
adopted rates of the PERS and TRS boards.                                                                                       
                                                                                                                                
Senator Bunde  requested future explanation of why  the PERS plan is                                                            
governed  by a  regulation  limiting  annual increases  in  employer                                                            
contributions  to  five  percent  and  the  TRS  plan  has  no  such                                                            
regulation.  He asked the  Division to provide  a recommendation  of                                                            
whether the regulation should be changed.                                                                                       
                                                                                                                                
Ms. Millhorn would provide this information.                                                                                    
                                                                                                                                
Ms.  Millhorn  pointed  out  that  the information   on page  16,  a                                                            
spreadsheet  titled "Alaska  Public Employees'  Retirement System  -                                                            
Teachers'  Retirement  System,  Composite  Employer  Contribution  -                                                            
Increase Amount  and Total Contributions, FY 06 -  07 - 08 - 09" was                                                            
also provided to the Committee the previous legislation.                                                                        
                                                                                                                                
Ms. Millhorn  stated that  the spreadsheet  on pages 17 through  20,                                                            
titled  "Public  Employees'  Retirement  System (PERS)  &  Teachers'                                                            
Retirement  System (TRS),  Composite  Employer  Contribution Rate  -                                                            
Active  Employers,  Estimated  FY 06  - 07  - 08  - 09  - Change  in                                                            
Employer  Contribution" provides  a detailed  outline of  individual                                                            
employers. These  calculations are based on five-percent  increases.                                                            
                                                                                                                                
Mr. Reynolds  proceeded with  pages 21 through  24, noting  that the                                                            
information   demonstrates  for  each   of  the  systems,   Mercer's                                                            
expectations of  future actuarial calculated rates  would be for the                                                            
next 25  years under various  assumptions.  Most of the assumptions                                                             
are cataloged in the valuation  reports, although a few are shown in                                                            
more  detail  on  page  21  for  PERS  and  page  23  for  TRS.  The                                                            
assumptions for the two systems are similar.                                                                                    
                                                                                                                                
10:49:55                                                                                                                        
                                                                                                                                
Mr. Reynolds  directed attention to  page 21, a spreadsheet  titled,                                                            
"1.5(c) Actuarial Projections  - Effect of Economic Scenarios". This                                                            
lists  future  calculated  contribution   rates  assuming  that  the                                                            
population of the active  membership grows at a rate of one percent.                                                            
This rate is reflective  of the analysis of population growth of the                                                            
past  five years.  He qualified  this  "appears reasonable"  to  the                                                            
consultant,  but is "not our opinion  based on your demographics  as                                                            
to how  your population  will actually  change in  the future."  The                                                            
data on the spreadsheet  assumes that the PERS and  TRS boards would                                                            
adopt the  actuarial rate  in each year.  However, the five-percent                                                             
annual  increase limitation  of the  PERS board  and the  likelihood                                                            
that  the  TRS board  would  practice  similar  restraint  has  been                                                            
factored. Future investment  returns have also been factored showing                                                            
the 8.25  percent  assumptions  as well  as a growth  or  optimistic                                                            
scenario of higher  investment returns over the next  few years, and                                                            
a pessimistic scenario  of a prolonged recession in which investment                                                            
returns  are  "poor" for  the  next three  years  then  revert to  a                                                            
somewhat higher level but still less than 8.25 percent.                                                                         
                                                                                                                                
Mr.  Reynolds noted  that  the chart  on  page 22  demonstrates  the                                                            
information listed on the  spreadsheet on the previous page with the                                                            
three investment return  scenarios. Page 23 and 24 contain a similar                                                            
spreadsheet  and graph for the TRS  system. The expectation  is that                                                            
the PERS  rates would increase  five percent  per year for  the next                                                            
several years until the  contribution rate reaches 27 to 28 percent.                                                            
The rates are  then expected to continue to gradually  increase over                                                            
the next 20  years until they reach  slightly more than 30  percent.                                                            
At that  point,  the intention  of the  funding method  is that  the                                                            
unfunded  liability would  be eliminated  and rates  would begin  to                                                            
decline.  The rates  would vary in  the event  of higher  investment                                                            
performance or lower investment performance.                                                                                    
                                                                                                                                
Mr. Reynolds listed  the contribution rates for the  TRS plan. Rates                                                            
are expected  to continue to increase  by five percent per  year for                                                            
the next  several  years until  rates reach  45  percent or  higher.                                                            
Rates would continue  to more gradually increase to  a level between                                                            
50 and  55  percent for  the longer  term.  The rates  would not  be                                                            
expected to decline  until after a 25-year period  of paying off the                                                            
unfunded liability.                                                                                                             
                                                                                                                                
Mr.  Reynolds  pointed   out  that  for  each  scenario   the  known                                                            
investment  returns of 15.08 percent  for FY 04 have been  factored.                                                            
                                                                                                                                
Senator Stedman asked about asset allocation.                                                                                   
                                                                                                                                
Ms. Millhorn indicated  this subject would be addressed  at the next                                                            
meeting.                                                                                                                        
                                                                                                                                
Senator  Stedman noted  the  targeted rate  of 8.25  percent,  which                                                            
"varies your  allocation, in  other words you  set your target  rate                                                            
and you've got  to set your allocation to attain it  or visa versa."                                                            
He expressed curiosity on the probability of attaining that target                                                              
rate. He also asked the impact of a lower rate or loss. These                                                                   
issues would be discussed at the next hearing.                                                                                  
                                                                                                                                
Ms. Millhorn stated that the timelines for the PERS plan on page 25                                                             
and the TRS plan on page 26 show the impact of significant                                                                      
legislation to systems.                                                                                                         
                                                                                                                                
Senator Bunde requested future discussion on the impact of                                                                      
Retirement Incentive Programs (RIP) on the systems.                                                                             
                                                                                                                                
Co-Chair Green announced that the discussion would continue at the                                                              
following meeting.                                                                                                              
                                                                                                                                
ADJOURNMENT                                                                                                                 
                                                                                                                                
Co-Chair Green adjourned the meeting at 10:57 AM                                                                                

Document Name Date/Time Subjects