Conn. Treasurer Says No Way to 'Earn' out of Underfunding

Discussing the preliminary results of an analysis of Governor Dannel Malloy’s proposals for funding Connecticut’s largest pension plans, State Treasurer Denise L. Nappier supported reform that would phase in a reduction of the investment return assumption, from 8% to 7%, in order to conform more realistically to expectations for how capital markets will perform going forward.

Speaking at a meeting of the state’s independent Investment Advisory Council (IAC), Nappier said this transition approach will ease budgetary pressure, given that the state’s annual pension contributions will grow when the return assumption is lowered, and have the added benefit of being a “credit positive,” according to Moody’s Investors Service.

However, Nappier made clear that whatever investment return assumption is used, there is “no investment strategy that would, in and of itself, allow us to earn our way out from under these unfunded liabilities. The state needs to pay off the unfunded liabilities one way or another.”

She stressed that certain principles were sacrosanct: Connecticut must “maintain a disciplined approach to funding the state’s long-term obligations, protect the state’s creditworthiness by adhering to this discipline, minimize the burden on taxpayers and future generations, and preserve and enhance long-term investment performance.”

Nappier added: “We are mindful of the state’s history of underfunding its pension systems and we don’t want to be doomed to repeat it.”

Nappier also supports reforms that would:

• Change the method for calculating contributions to the State Employees’ Retirement Fund (SERF), from level percent of payroll to level dollar, which will improve the funded status more quickly by employing a more aggressive plan for paying down the unfunded pension liability;
• Convert to a rolling amortization period when the funded status of SERF reaches an adequate level at 75%, which would delay full funding, but place less pressure on financing the unfunded liabilities by smoothing annual pension contributions and avoiding a balloon payment when compared to the current closed 2032 amortization schedule; and
• Avoid “gimmicks” such as retirement incentive programs.

Nappier reiterated her concern over the proposal to create a pay-as-you-go plan for Tier 1 retirees, separate and apart from a fund for remaining active employees. She stated that such a move “is a material departure from the hard-fought disciplined funding approach to the state’s pension liabilities” and “raises many serious legal and implementation questions. If this is an option that is ratified by the governor and general assembly, then there must be an iron-clad commitment to paying the monthly benefit payroll as well as the annual required contribution for the remaining actuarial plan for active employees.”

Concerning the Teachers Retirement Fund (TRF), Nappier said she concurs with the advice of the treasury's bond counsel that it is unlikely that changes can be made to either the method of calculating the state’s contribution (funding method) or amortization period to bring about full funding of the plan—currently expected to be fully-funded in 2032. Either change, in counsel’s view, would likely violate a covenant adopted in conjunction with the issuance of pension obligation bonds in 2008.

Nappier left open two possibilities: adjusting the state’s contribution into the plan once the funding of the TRF hits 75%—in compliance with the bond covenant—which is expected in 2028; and considering the smoothing of actuarial losses over a longer horizon than the current four years.