Recommendations for Public Pension Funding Policies

In the public sector, each state sets its own contribution requirements, and each local governing body (e.g., county, city, district) sets its own contribution levels within whatever requirements, if any, the state may have established for local jurisdictions. An analysis issued by the American Academy of Actuaries examines factors that contribute to well-governed public-sector employee pension systems, as well as policy decisions that have led to the underfunding of many plans in recent years.

“The nature of public pension plans throughout the country—that they are unique to the jurisdictions that create them and the beneficiaries they serve—does not readily lend itself to having a national discussion on what works and what doesn’t,” says Academy President Tom Terry, based in Washington, D.C. “Underfunding typically results when sponsors do not make contributions required by a plan’s funding policy on a consistent basis or when a funding policy is out of balance—that is, overly emphasizing one objective at the expense of others.” The goal, he says, is to advance public debate on this problem by describing the objectives and principles needed for a balanced and disciplined approach.

In “Objectives and Principles for Funding Public Sector Pension Plans,” the academy suggests funding policies for public pension plans:

• Target the accumulation of sufficient assets for an employee by retirement and establish a plan to make up for any variation in actual assets within a reasonable period;
• Recognize that several competing objectives need to be balanced, including: security for the promised benefits; making contributions stable and predictable; and ensuring that the costs borne by different generations of taxpayers and employees are handled equitably;
• Communicate how the objectives have been balanced and how the costs are expected to be met;
• Provide a procedure that determines amounts to be contributed at specific points in time, along with an enforcement mechanism up to a “legally enforceable contribution demand of plan members to prefund the benefits on an actuarially determined basis;”
• Identify any risks that could make it difficult to achieve the objectives;
• Provide for clear disclosure of the effectiveness of contribution policies over time; and
• Ensure that funding results are monitored and adjustments made as needed.

The analysis was developed by the academy’s Pension Practice Council’s Public Plans Subcommittee.

The analysis is here.