(June 19, 2012) — State pension funds across the United States were woefully underfunded and together faced a $1.38 trillion funding shortfall in fiscal 2010, an increase of $120 billion from the year before, the Pew Center on the States reported in a study this week.
The study shows 34 states had pensions funded below the 80% level that is widely seen as adequate in the US. Some states, however, were in much worse shape than others. The pension plans of Connecticut, Kentucky, and Rhode Island did not even achieve a 55% funded level, and Illinois’ plans reached an average funding level of barely 45%.
The study breaks down the $1.38 trillion figure between unfunded pension and healthcare obligations for retirees. From a purely pension standpoint, the deficit grew to $757 billion in fiscal 2010–a 9% increase on the year before. Unfunded healthcare obligations made up the remaining $627 billion. Healthcare funds face significant funding issues, with only 5 cents set aside for every $1 in expected healthcare obligations.
Although the study is a good indicator of the massive funding challenges faced by public pension plans in the US, most industry experts say it underestimates their liabilities. Unlike corporate pension plans, which are federally required to use a low discount rate when calculating pension liabilities, the Governmental Accounting Standards Board permits public pension plans to base their liability assumptions on an estimated future rate of return. Plans typically predict a rate of return of around 8%, in line with historical averages but this figure is well above the returns most plans have seen in the past decade.
In May 2011, the Congressional Budget Office issued a report recommending that public pensions in the US adjust the way they calculate their liabilities so that accounting no longer papers over underfunding problems, aiCIO reported. It suggested that public pensions employ a fair-value method that uses the lower discount rate in line with that utilized by corporate pension plans.