- State finances have improved dramatically over the last decade, but state employee pension and health benefit liabilities still loom large
- This is remaining residue from decades of liberal politicians making grand promises to appease state employee lobbying groups
- Unfunded pension liability exceeds $10 billion, annual taxpayer burden approaching $2 billion
- State health benefits system for retirees has built up a $31.6 billion unfunded liability, costing taxpayers more than $1 billion annually
North Carolina taxpayers are now spending more than $3 billion a year for state retirees to do nothing.
While the last decade has seen significant improvements in North Carolina state government finances and the state economy, the unfunded liabilities for the state pension fund and state retiree health benefits represents a major – and growing – burden on state taxpayers.
These obligations are the result of short-sighted liberal politicians making grand promises to state employees for decades to curry favor with deep-pocketed state employee lobbying groups.
North Carolina’s state pension for retired teachers and other state employees has an unfunded liability of $10.4 billion (calculated as of June 30, 2019).[i] This liability is up a whopping 192 percent over the $3.7 billion in 2015.
Indeed, at the end of 2008, the liability was only $391 million, just a tiny fraction of where it stands today.[ii] In 2005, the pension fund actually had a surplus of $3 billion. In short, in just 15 years the pension fund’s liability has experienced a dramatic negative swing of nearly $14 billion.
The state pension plan is a defined benefit plan, meaning that the benefits due to recipients when they retire are defined and guaranteed at the time of hiring, and contributions must be made to fulfill these obligations.
A growing liability means a growing annual burden on taxpayers to cover pension obligations. Pension benefits are paid for out of a combination of current state employee contributions, investment income from the pension fund and taxpayer dollars.
The taxpayer support portion has been growing at an alarming rate. In 2009, $472 million in taxpayer dollars were used for pension benefits. Just 10 years later, the 2019 total came to a whopping $1.9 billion, four times higher than the 2009 amount. Furthermore, the $1.9 billion marks a 51 percent increase from just four years prior.
North Carolina’s decades-long ratcheting up of the size of state government included swelling the ranks of state workers by the tens of thousands. The massive build up of state employees, combined with an increasing life expectancy, serve to expand the number of pension recipients and therefore the liability.
Making matters worse is the underperformance of the pension fund itself. State Treasurer Dale Folwell pointed out in late May that “for 22 years on average the pension plan has not achieved its assumed rate of return.” Lower pension fund returns place greater pressure on taxpayers to pick up the slack.
As pension obligations continue to chew up a growing share of the state budget, that leaves less money to devote toward teacher salaries or public safety programs. Sending more tax dollars to retirees leaves fewer dollars to pay active workers.
The best remedy for this issue would be for the state to convert to a defined contribution plan, much like a 401K plan that so many in the private sector are familiar with. Instead of benefits being guaranteed, state workers would have a set amount contributed to a fund that they manage and can access upon retirement. This empowers workers with ownership and management of their own retirement funds, while shifting the financial risk and burden off of taxpayers.
For the state’s unfunded liability for retiree health benefits, the good news is that its liability is growing much slower than the pension’s, but the bad news is that it is about three times as large.
State employees hired after Oct. 1, 2006 receive free state health plan coverage after 20 years of service. These benefits are paid for on a pay-as-you go basis, so every year taxpayers are paying the health care premiums for more than 200,000 retirees.
The unfunded liability represents the present value of the amount of estimated premium subsidies for retirees’ health insurance the state will be responsible for over the next 30 years. What this means, in short, is that as more and more state employees retire and live longer, it will be increasingly difficult for state taxpayers to cover the costs of rapidly escalating premiums.
According to the 2019 Comprehensive Annual Financial Report, the unfunded liability now stands at $31.6 billion. That’s up relatively modestly from $27.8 billion at the end of 2008.
Taxpayers paid $1.1 billion for these benefits last year alone, up from $829 million in 2009.[iii] The 33 percent increase in annual required taxpayer funds for retiree health benefits over the last decade does represent a concern. Just like pension benefit payments, every tax dollar devoted to retiree health coverage means one less dollar to pay active employees or programs.
A provision included in the 2017 state budget, however, will eliminate this problem in the long term. State workers hired after Jan. 1, 2021 will no longer be eligible for the subsidized state health insurance when they retire.
But that still leaves the next 30-50 years of retiree health obligations to contend with. And given the sheer magnitude of the liability, legislators need to act now to rein in these obligations.
Some recommendations include: requiring retirees to pay a portion of the premiums themselves, as well as offering current employees the option of an HSA (health savings account) plan that would remain in effect when they retire. The state of Indiana began to offer such an alternative to state government workers in 2006. The initiative quickly gained in popularity, and by 2010 70 percent of state workers had enrolled in the option. Moreover, the savings to taxpayers has been significant. Consulting firm Mercer calculated that the state’s total health coverage costs were reduced by 11 percent due to the introduction of the HSA option.
More than $3 billion every year – about one in every 8 state budget dollars – goes to paying retirees for doing nothing.
And this amount is rising rapidly every year. Such obligations divert scarce budget dollars from active employees and government programs – or from potential job-creating tax cuts.
Liberal politicians spent decades making generous retirement benefit promises, in no small part to gain political support of state employee associations. These promises were very short-sighted, and the bill has come due.
Conservatives have spent the last 10 years reversing decades of fiscally reckless spend and tax policies. Paying down debt, reining in spending growth, cutting taxes and setting aside a sizeable rainy day fund are all measures that have North Carolina better positioned to weather the coming economic and fiscal crisis.
But their work will not be done until policymakers tackle the state’s massive and growing unfunded liabilities to state retirees.
[i] North Carolina Office of State Controller; 2019 North Carolina Comprehensive Annual Financial Report. Available online at: https://files.nc.gov/ncosc/CAFR/2019/2019_Comprehensive_Annual_Financial_Report_bookmarks.pdf