Results in Brief
The Budget Act of 1993 (budget act) requires the Bureau of State Audits to conduct an evaluation of the procedures used by the Public Employees' Retirement System (PERS) and the State Teachers' Retirement System (STRS) to determine the State's contributions to those systems. The evaluation was to consist of an analysis of economic and noneconomic assumptions, actuarial methodology, and any other procedures the systems used to develop state retirement contribution rates, including an assessment of the impact of operating standards and administrative costs on the unfunded liabilities of the systems. The budget act also requires us to compare the systems' ratedetermining procedures with those of other retirement systems. Additionally, the budget act requires us to include a determination of the nature and size of any state unfunded liability in the systems and the annual state contribution necessary to fully fund the State's normal costs and unfunded liabilities within the systems over their respective amortization periods.
We contracted with a consulting firm that provides actuarial services, Buck Consultants, to assist us in reviewing each system's most recent actuarial valuation: the June 30, 1992, valuation for the PERS and the June 30, 1991, valuation for the STRS.
During our review, we noted the following conditions:
The most recent actuarial valuations conducted by the STRS and the PERS provided reasonable estimates of the costs and funding needed for the systems. Generally, the methods used to determine the costs and funding for both the STRS and the PERS are common among public retirement systems throughout the United States. However, amortization periods as long as those used by the STRS and the PERS are not common. According to our consultants, the assumptions and methods that the systems used were reasonable and in accordance with generally accepted actuarial practice. However, our consultants concluded that the PERS' implementation of a 40-year funding period and the use of a special 5-year period to recognize actuarial gains for one year were not in accordance with generally accepted actuarial practice. Nevertheless, these actions reflect policy decisions made by the State that were put into statute. Overall, our consultants concluded that the systems' estimates regarding unfunded liabilities were reasonable and in accordance with generally accepted actuarial practice. Additionally, they concluded that the systems' computations of the annual contribution needed to fund the normal costs and the unfunded liabilities were accurate following statutory policies.
The State's contributions to the STRS have increased in recent years and will continue to increase as the salaries and number of teachers increase. Generally, the State's contributions to the PERS as a percentage of payroll have significantly decreased over the last five years; however, because of payroll growth, the decrease in the State's total contributions has not been as significant. In addition to changes caused by increases in payroll, the State's contributions have changed because of legislative action taken by the State. The State's contributions to the STRS have increased because of the State's decision to implement a new funding mechanism and a program to help retirement benefits keep pace with inflation. Because the State's contribution for both of these is now based on a percentage of payroll, the State's contribution will increase as the salaries and number of teachers increase in the future.
Although payroll increased in four of the five years we reviewed, the amount that the State has contributed to the PERS as a percentage of payroll has generally decreased. Legislation enacted to address the State's fiscal problems caused some of these reductions and made certain changes in how the State paid the contributions it owed the PERS. However, certain actions taken as a result of the legislation have long-term costs and others provide only short-term relief. For example, one action reduced the State's annual contribution by lengthening the amortization period for the unfunded liability. Although this action reduced the State's annual contribution, the PERS estimates that the State's total contributions over the amortization period will increase by $10.7 billion. Another action decreased the State's annual contribution for a five-year period. However, after this five-year period ends in fiscal year 1994-95, the State's contribution for certain employee groups will increase by 2.285 percentage points. Further, in exchange for these reductions, the State provided certain benefits for state employees. One of these benefits, the change to one-year final compensation, is expected to cost the State at least $108.2 million each year until the year 2029.
Finally, we determined that the PERS made an error in implementing one of the contribution reduction measures. Correction of this error will provide an additional $1.4 million to be used to offset the State's General Fund contribution.
The administrative costs of both the PERS and the STRS have increased in recent years. An increase in the systems' administrative costs has a dollar-for-dollar effect on the systems' unfunded liabilities or, in the case of certain PERS state groups, on the surpluses. Increases to unfunded liabilities and reductions to surpluses at the PERS both directly affect the State's contribution. The State's contribution to the STRS would not be directly affected by an increase in administrative costs because the contribution rate is mandated by statute. However, if administrative costs were to increase significantly, it could affect whether the statutory rate was considered sufficient to provide an adequate level of funding for the system.
Additionally, because the PERS serves employers other than the State, the PERS, in effect, allocates to each employer a portion of the total administrative costs. However, the PERS does not have a specific cost allocation system that distributes administrative costs to the various employers based on the cost incurred on behalf of that employer. Instead, it allocates administrative costs based on each employer's relative share of assets. We could not determine whether the current methodology resulted in an equitable distribution of costs to the State because of the manner in which the PERS conducts its operations.
The PERS generally concurs with the report; however, the PERS disagrees with our conclusion that it made an error in implementing one of the contribution reduction measures. Our comments follow the response from the PERS. The STRS generally concurs with the report. The State and Consumer Services Agency acknowledged receipt of the report.