Unfunded Retiree Healthcare: The Hidden Threat To Local Governments By Robert C. Pozen

I. Defining OPEBs Other Post-Employment Benefits Primarily Retiree Health Care Government premium subsidies to Retirees –Received until eligible for Medicare –Occasionally last for lifetime of Retiree 2

I. OPEB Accounting Rules of GASB (Gov. Accounting Standards Board) Prior to 2006 not disclosed in Financial Statements Required in Financial Statement Footnotes as of 2006 Currently Not Included as Liabilities on Balance Sheets No requirement for advance funding 3

I. Accounting Principle Proposals Standardize the discount rates used to calculate OPEB liabilities by equating them to the interest rates on AA rated municipal bonds Include OPEB as Liabilities on Balance Sheet –May impact credit ratings –promote political accountability 4

II. Scope of the Problem in States Source: Standards & Poor’s Rating Services “U.S. State OPEB Liabilities Decline Slightly, But Continue To Vary Widely”5 3,3977,2062,1272, Unfunded OPEB per capita

II Actual vs. Required Contributions to OPEBs Note: Level Payments Assume 30 year term and 6% return Source: JP Morgan – Eye on the Market The Ark and the Covenants 6 Note: These are percentages of current state tax revenues (income tax, sales tax, and other revenue items)

II Scope of the Problem – Cities* 30 Largest Cities have over $100 Billion in Unfunded Retiree Health Care and other OPEBs Cities with Largest LiabilitiesUnfunded Liability (bil. $) Unfunded Liability per household Funding Level 1New York, New York70.57$22,8574% 2Boston, Massachusetts4.55$18,9620% 3Atlanta, Georgia1.08$5,2440% * Excludes Detroit because of bankruptcySource: The Pew Charitable Trusts : American Cities7 Cities with Smallest Liabilities(mil. $) 1Denver, Colorado87.11$34651% 2Minneapolis, Minnesota75.90$4660% 3Tampa, Florida86.199$6130%

III. OPEBs vs. Pensions Pensions require advance funding in separate trusts Minimal prefunding of OPEBS generally; –Usually financed from current tax revenues Pensions often protected by statute or constitution OPEBs are legally easier to change, but still subject to collective bargaining 8

III. OPEB Growth in Massachusetts – Relative to Property Taxes MunicipalityRetiree HC Current Cost 2009 Retiree HC Current Cost 2013 Difference, Retiree HC ’13 Total Property Tax Levy ‘09 Total Property Tax Levy ‘13 Difference, Property Tax Levy ‘09 -’13 Retiree HC Cost Growth as a % of Property Tax Growth Amherst$2,139,934$3,075,000$935,066$34,871,426$41,799,726$6,928,30013% Holyoke7,439,5779,077,9231,638,34644,639,08551,281,0906,642,00525% New Bedford12,537,24115,806,0163,268,77588,797,30995,218,5026,421,19351% Springfield25,004,39631,172,2026,167,806163,078,974167,403,3374,324,363143% Source: Massachusetts Taxpayers Foundation9

III. FY 2014 Impact of OPEBs – Newton, MA $21 million was spent on total retiree health care = $747 of each household’s annual property tax bill City proposed an override of proposition 2.5; Approved by voters for $8.4 million –$8.1 million went to pay Retiree Health Care $8.1 million translates to 79 additional teachers; an 8% increase over the number of current teachers Source: Massachusetts Taxpayers Foundation10

IV. Modifying Benefits & Premium Subsidies Increase future deductibles and copayments Reduce healthcare promises to new or recent municipal or state employees Reduce the scope of Healthcare provided –Require retirees to pay the full cost of dental and eye care 11

IV. Revising Eligibility Standards In Massachusetts, initial qualification only requires 10 years of part time work In many municipalities, spouses and/or children are also covered by Retiree Health Care States or cities could end subsidies when retirees become eligible for Medicare at 65 12

IV. Supreme Court Guidance (Feb. 2015) A.Collective bargaining agreement –language on full healthcare benefits –but agreement ended after 3 years B.Unanimous court said if contract not clear, need to present evidence of actual intent C.Court articulated two presumptive principles: –lifetime benefits need express language –benefits not extend beyond end of contract 13

Federal premium subsidies for healthcare policies bought through a state connector –$945 out of $1,319 monthly premium –For gold plan, family of four at $50,000 Most OPEBs are done outside of state connectors and through high cost plans A few states now require OPEBs to utilize connectors to obtain federal subsidies to reduce local subsidies IV. Utilizing the Affordable Care Act 14

Conclusion Unfunded OPEBs are rising quickly and quietly, often faster than unfunded pension liabilities But the new accounting rules will require unfunded OPEBs to be included on state and municipal balance sheets. OPEBs have much less legal protection than pension promises, though they can still be subject to collective bargaining So the public debate should focus on how OPEBs can be reasonably revised, for whom and when 15