Teacher and State Employee Retirement Benefits At Risk

Shortsighted lawmakers, more concerned with funding pork projects and winning the next election, have put healthcare benefits for future state retirees in jeopardy. Consider that since the inception of the current system in 1978, the state has increased spending by more than 720 percent. Yet during the same period, the General Assembly refused to set aside any funds for future state retiree health benefits. The result has been an ever-mounting unfunded liability that now stands at $23.8 billion.

How Did this $24 Billion Liability Come About?

• In 1978 the state began fully financing the premium costs for current and retired state employees enrolled in the state health plan. This group includes public school teachers and public college and university employees.
• North Carolina finances retiree health premiums on a pay-as-you-go basis, which means that each year the state allocates funds sufficient only to pay the premiums for currently enrolled retirees, with no extra funds set aside for future obligations.
• From FY1978-79 to FY2007-08, state spending increased by nearly $18.2 billion dollars; yet during the same period legislators failed to save any funds to pay for retiree health insurance premium obligations.
• Until recently, state workers needed only five years of state service to be eligible for free enrollment in the state health plan upon retirement.
• Thanks to the passage of legislation in 2006 (S.L. 2006-174), future retirees are now required to accumulate 20 or more years of “retirement service credit” to be eligible for fully subsidized health insurance premiums. State employees with 10 to 20 years of service will have half of their insurance premiums covered by the state. State workers retiring with 5 to 10 years of service will still be able to enroll in the state health insurance plan, but will be fully responsible for their own premium payments. Employees with less than 5 years of service are not eligible for the state retiree health plan.

How Large is the Unfunded Liability?

• According to the Fiscal Research Division, as of December 31, 2005, the state was liable for $23.8 billion in unfunded retiree health premium benefits. This amounts to just under $11,000 per family of four in North Carolina.
• The pay contribution rate used to fund retiree benefits is roughly equal to 3.8 percent of budgeted payroll. In FY2005-06, this meant that only $477 million was dedicated to funding state retiree health premiums.
• North Carolina would have to dedicate $2.39 billion annually to fully pre-fund its retiree health benefit obligations. This amount is more than the entire Justice & Public Safety budget for 2007, and more than twice the 2007 Highway Trust Fund budget.
• The state’s total unfunded liability (as of 2005) was 113 percent of the entire General Fund budget for FY2007-08 (see chart). By comparison, the state of Texas’ liability is only 18 percent of its annual budget. 
• What’s worse is that this unfunded liability is growing every day. Since Governor Mike Easley’s (D) first year in office, the state has added 25,000 new employees – many of whom will be eligible for retiree health premium benefits.

What Are Other States Doing?

• New standards established by the Governmental Accounting Standards Board (GASB) in 2005 called for states to calculate and disclose the total costs – in today’s dollars – of financing the accrued health benefits for current and future state retirees.
• GASB is a private, nonprofit organization that sets standards for public agencies to meet Generally Accepted Accounting Principles (GAAP). States tend to comply with GASB standards, not because of any legal obligation, but because such unfunded liabilities are used by bond rating agencies to determine the credit risk of state bond obligations.
• In 2007, 12 states passed legislation establishing an account or fund in which money is to be set aside to pay for future retiree healthcare costs (as compared to North Carolina’s practice of capturing unused contributions from our pay-as-you-go system).

What Can Be Done?

• In 2007, Representative Dale Folwell (R-Forsyth) introduced legislation (HB 1987) that would have required each state agency to increase the level of payroll contributions dedicated to state retiree health benefits. Folwell’s bill died in committee.
• Many other Southeast states – South Carolina, Virginia and Tennessee – already require state retirees to pay a portion of their health insurance premiums, with contributions based on years of service.
• Once the state is forced to shift to a cost-sharing plan, the transition could be made easier by permitting retirees to use pretax income to pay for their share of retiree health benefit premiums, much as many state workers now use the NC 401(k) Plan to save for their own retirement.
• Lawmakers must prioritize spending commitments and begin to aggressively contribute to a retiree health benefit fund. In Alabama, legislators did just this – contributing $417 million to the state’s fund in 2007 alone, thus reducing Alabama’s unfunded liability from $14.6 billion to $12.5 billion.

Conclusion

In spite of four straight years of budget surpluses totaling roughly $3.5 billion, North Carolina has done virtually nothing to address the nearly $24 billion shortfall it is facing. As a growing number of state employees enter retirement, the financial burden will only escalate – bringing about a self-induced “crisis” that will lead to tax increases or a reduction in benefits or both. By aggressively saving for the future, state lawmakers can insure that they deliver on the promises they have made to our public school teachers and state employees.