LEGISLATIVE BUDGET BOARD
Austin, Texas
 
ACTUARIAL IMPACT STATEMENT
 
82ND LEGISLATIVE REGULAR SESSION
 
May 2, 2011

TO:
Honorable Vicki Truitt, Chair, House Committee on Pensions, Investments & Financial Services
 
FROM:
John S O'Brien, Director, Legislative Budget Board
 
IN RE:
HB3542 by Gonzales, Larry (Relating to a supplemental payment for retirees of the Teacher Retirement System of Texas and the unfunded actuarial liabilities allowed under that system.), Committee Report 1st House, Substituted

The bill would make a one-time supplemental payment or "13th check" to certain retirees of the Teacher Retirement System based on "preserving the ability of the retirement system to meet at least 80 percent of the system's pension obligations." It furthermore stipulates that for this payment to be made, it would have to come out of investment earnings in excess of 8 percent. The bill does not specify whether to use the market value of assets, or the smoothed actuarial value of assets. The actuary used the smoothed value of assets, and assumed the bill refers to the funded ratio.

 

The actuarial analysis suggests that the cost of the proposed supplemental payment would be about $387 million, which would increase the unfunded liability of the system by that amount, carried forward with 8 percent interest. Under proposed General Accounting Standards Board guidelines, this liability would have to be amortized or fully recognized as a liability by the state in just one year, while only 20% of excess investment earnings in the year could be recognized. The TRS actuary expressed concern about using excess investment earnings to fund annuity increases, demonstrating that in the long run they would have to lower their investment assumption if this strategy were used more than once. The following analysis was prepared by the TRS actuary, assuming the supplemental payments proposed in this bill would continue to be approved by future legislatures.

 

Based on the February 28, 2011 Actuarial Update

Teacher Retirement System of Texas   

Current

Proposed

Difference

State Contribution

Employee Contribution

Total Contribution

6.64 %

6.40 %

13.04 %

6.64 %

6.40 %

13.04 %

0.0%

      0.0%

0.0%

31-year Funding Contribution Required for the State*

14.56%

15.65%

1.09%

Normal Cost (% of payroll)

10.42 %

11.02%

0.60%

Unfunded Actuarial Accrued Liability (billions)

$25.717

$29.537

$3.820

Funded Ratio – Actuarial Value of Assets

81.3%

79.1%

-2.2%

Amortization Period (years)

Infinite

Infinite

NA

* The current total contribution rate of 13.04 is insufficient to amortize the unfunded liabilities in less than 31-year period. Currently, the total contribution rate necessary to maintain a 31-year funding period is 14.56% of payroll. Under the proposal, the required 31-year amortization rate would increase by 1.06% of payroll to 15.65%. If the provisions of this bill are enacted, it is anticipated that state’s contributions for TRS will need to increase by 2.61% of payroll for fiscal year 2011 to achieve a 31-year funding for TRS under the requirements of Section 821.006 of Texas Government Code.

 

A Glossary of Actuarial Terms is provided at the end of this impact statement.

 

ACTUARIAL EFFECTS:

 

CSHB 3542 would increase the normal cost of the plan by 0.60% of payroll, from 10.42% to 11.02%. CSHB 3542 would also increase the unfunded actuarial accrued liability (UAAL) by $3.82 billion, an increase from $25.717 billion to $29.537 billion and would increase the actuarially sound contribution rate from 14.56% of payroll to 15.65% of payroll, an increase of 1.09% of payroll.

 

The actuarial analysis notes that the proposal would attempt to use earnings in excess of the 8% investment return assumption as a funding source for the supplemental payment. The assumed rate of return on investments represents an expected rate of return over a long-term period, not the rate is to be realized in any given year. The TRS actuary states “over the past ten years, the 8% target has been exceeded in 6 out of 10 years, meaning a supplemental payment would have been made under CSHB 3542. However, the average return over that same period of time was just 3%”. The use of excess future earnings to provide moneys for supplemental payments would mean that future earnings available to meet current obligations would be decreased and thus the investment return assumption used by TRS would need to be decreased, from 8.0% to 7.75%.

 

 

SYNOPSIS OF PROVISIONS:

 

CSHB 3542, to be effective September 1, 2011, would provide the following changes:

 

·         Provide a supplemental payment to eligible annuitants in an amount equal to the lower of their monthly benefit or $2,400. The one-time supplemental payment may be allowed during the period beginning September 1, 2011 and ending December 31, 2013, only if, the investment earnings of the fund exceed 8.0% during the preceding fiscal year by an amount large enough to pay the supplemental payment.

·         Includes the provision that the one-time supplemental payment can occur even if the amortization period for the UAAL exceeds 30 years, only if the board of trustees determines that at the time of the supplemental payment the retirement system preserves an 80% funded ratio.

·         Provides that the provisions of the bill expire on January 1, 2014.

 

FINDINGS AND CONCLUSIONS:

 

CSHB 3542 provides for a supplemental payment to eligible annuitants in an amount equal to the lower of their monthly benefit or $2,400. The one-time supplemental payment may be allowed during the period beginning September 1, 2011 and ending December 31, 2013, only if, the investment earnings of the fund exceed 8.0% during the preceding fiscal year by an amount large enough to pay the supplemental payment. The bill includes a provision that the supplemental payment can occur even if the amortization period for the UAAL exceeds 30 years as long as the retirement system preserves an 80% funded ratio. The provisions of the bill would expire on January 1, 2014.

 

According to the actuarial analysis, current projections, including the State continuing to contribute less than the actuarially determined contributions rate, the TRS is not expected to be 80% funded as of August 31, 2011. The cost of the supplemental payment as described by CSHB 3542 would be $387 million. For the TRS to pay the supplemental payment and continue to be 80% funded, the fiscal year 2011 market rate of return must exceed 21%.

 

 

 

METHODOLOGY AND STANDARDS:

 

The analysis and calculations are based on the member data of TRS as of August 31, 2010, the actuarial value of assets as of February 28, 2011, and the actuarial assumptions and methods in use as of August 31, 2010 for valuing the actuarial condition of TRS. Note that the analysis does not reflect the deferred asset losses of $4 billion that have yet to be recognized in the actuarial value of assets as of February 28, 2011. The analysis assumes no further changes are made to TRS and cautions that the combined economic impact of several proposals can exceed the effect of each proposal considered individually. According to the PRB actuary, the actuarial assumptions, methods and procedures appear to be reasonable.  All actuarial projections have a degree of uncertainty because they are based on the probability of occurrence of future contingent events.  Accordingly, actual results will be different from the results contained in the analysis to the extent actual future experience varies from the experience implied by the assumptions.

 

SOURCES:  

 

Actuarial Analysis by , Lewis Ward, Consultant, and Joseph P. Newton, F.S.A., Gabriel Roeder Smith & Company, March 23, 2011.

Actuarial Review by Mr. Dan P. Moore, Staff Actuary, Pension Review Board, April, 15, 2011.

 

GLOSSARY OF ACTUARIAL TERMS:

 

Normal Cost-- the current cost as a percentage of payroll that is necessary to pre-fund pension benefits adequately during the course of an employee's career.

 

Unfunded Liability-- the amount of total liabilities that are not covered by the total assets of a retirement system.  Both liabilities and assets are measured on an actuarial basis using certain assumptions including average annual salary increases, the investment return of the retirement fund, and the demographics of retirement system members.

 

Amortization Period-- the number of years required to pay-off the unfunded liability.  Public retirement systems have found that amortization periods ranging from 20 to 40 years are acceptable.  State law prohibits changes in TRS, ERS, or JRS II benefits or state contribution rates if the result is an amortization period exceeding 30.9 years.

 



Source Agencies:
338 Pension Review Board
LBB Staff:
JOB, WM