League of Minnesota Cities Fiscal Futures Policy Committee August 28, 2013 Presented by: Dave DeJonge, Assistant Executive Director, PERA

2 GASB Accounting Changes  Governmental Accounting Standards Board (GASB) will dramatically alter accounting rules for pension funds and their sponsoring employers (school districts, cities, counties, state) starting in FY  GASB changes will: o Make pension costs more prominent on employers’ financial statements – each entity’s share of PERA’s unfunded liability must be shown on face of government- wide financial statements. o Make annual pension costs appear larger and volatile – giving the incorrect impression that employers are shouldering an immense debt that they must pay off immediately, when pension funding actually works much like a home mortgage.

3 Existing Pension Principles--Employers  Pension costs for employers are directly related to when those costs are funded  Pension expense = contributions paid to PERA  Pension liability recognized only if contributions paid to PERA are less than required by statute  Pension plan (PERA) discloses unfunded liability in footnotes and Required Supplemental Information

New Underlying Principles  Pensions are part of the employee/employer compact. o Pension costs are a deferred part of total compensation. o Employer incurs a pension obligation as a result of “employment exchange.” o Cost/expense should be recognized in period that services are provided.  Plan responsible for paying benefits if plan has sufficient assets.  Employer responsible if plan does not have sufficient assets.  Difference between total pension liability and plan’s net assets is the “net pension liability” allocated to employers and included in government-wide financial statements.  Pension costs developed on accounting basis, not funding or contribution basis. o Totally different from current GASB standards. o Disconnect between accounting numbers, funding numbers. o PERA will calculate annual pension costs for employers. 4

GASB Statement 68 Impact on Employer Units (FY2015)  Government-wide financial statements, not fund-level statements.  PERA’s actuary develops actuarial valuation reports every 6/30/xx. Results ready by 12/1/xx.  PERA will calculate proportionate share assigned to each employer unit (based on employer contributions).  PERA prepares pension costs, disclosure data, Required Supplementary Information for each employer in December.  Large unfunded actuarial liabilities exist ($6 billion). Result:  Many employers will experience sticker shock at their share of the net pension liability. (Remember: Liabilities are paid over decades.) 5

GASB Statement 68 Impact on Employer Units  Annual changes in Net Pension Liability will generally be reported as pension expense as they occur. o Normal Cost for active members o Changes due to plan amendments for any members. o Change in actuarial assumptions for inactives/retirees. o Experience gain/loss for inactives/retirees. o Exceptions (deferred inflows/deferred outflows): Experience gain/loss and assumption changes for actives, change in allocation amortized over average work lives of all active and retired members. (Estimated eight years.) Difference between assumed and actual rate of return on investments is recognized over a five year period.  Will create volatility in pension expense. 6

GASB 25-27GASB 67-68IMPLICATIONS For pension systems, pension expense reported by employer equals statutory contribution rate. Pension expense is change in net pension liability each year. Pension expense will be volatile, must be calculated by PERA’s actuary. Pension systems’ unfunded liability does not impact individual employer financial statements. Employer responsible for pension system unfunded liability and must show proportionate share on balance sheet. Employers who never had a pension liability on their books will now report one. Impact on bond ratings unclear. Long-term rate of return used to discount future benefits, which determines liabilities. Discount rate is long term rate of return while assets exist and municipal bond rate after that. Potential for higher liabilities if assets are projected to be depleted in the future. Actuarial cost method used by plan for funding calculations is used for ARC calculations. All plans must use Entry Age Normal actuarial cost method. No real impact for pension systems; Entry Age Normal already used for valuation. Accounting numbers linked to funding numbers. De facto standard for contributions. Decoupling of accounting and funding numbers. Two sets of numbers confusing. Boards or legislature have to set funding policy. More variance without benchmark. Unfunded liability can be amortized over maximum 30 years regardless of source of UAL (plan amendment, assumption change, gain/loss). Shorter amortization period. Plan changes, change in assumptions and gain/loss on retiree experience recognized immediately. Gain/loss on active liability recognized over average working lifetime. Higher pension expense and more volatility. Permits asset smoothing method (5 years for MSRS/PERA/TRA). Difference between assumed and actual investment return spread over 5 years. Creates more volatility. 7 How GASB 68 Affects Employers

8 How GASB Affects Employers  GASB changes will force employers to show their portion of the pension system’s unfunded liability on financial statements. Using cities as an example: NOTE: Allocation of unfunded liability is estimated. Large CityMedium CitySmall City Old GASB PERA annual contributions (Annual expense) $2.9 million$400,000$42,000 New GASB Employer portion of pension expenses for the year Employer portion of PERA unfunded liability No Idea $74 million No Idea $12 million No Idea $570,000 City’s net position (2012) $1.1 billion$63 million$10 million

9 GASB Statement No. 68 Footnote Disclosures Notes to Financial Statements for FY ended June 30, 2015  Employer’s share of pension assets, pension liabilities, deferred outflows/inflows of resources, pension expense  Public pension plan description (plan type, benefit provisions, contribution requirements)  Actuarial Assumptions (inflation, salaries, mortality tables)  Discount rate used to measure liabilities and how it was determined  Investment portfolio information (asset allocation, rates of return for each asset class)  Sensitivity analysis on the impact on NPL of a one percentage increase and decrease in the discount rate.  Other: Numerous (paragraph 80), including 2 schedules

10 GASB Statement No. 68 Required Supplementary Information Required Supplementary Information (RSI) Ten-year trend schedules  City’s proportionate share of net pension liability o City covered payroll o Net pension liability as a percent of covered payroll o Funding Ratio  Schedule of employer contributions o Statutory contributions required and % paid o Contributions as a percent of covered payroll GASB grace: Only go back retroactively if data is present.

11 Actuarial valuation measurement date Release of 6/30/15 actuarial valuation results Cities use 6/30/15 actuarial valuation results PERA publishes results June 30, 2014 June 30, 2015 Dec. 1, 2015December 31, 2015  Key point: There will be a 6 month lag in reporting of GASB 68 results. Example: Cities, in their FY 2015 reporting, will use PERA’s FY 2015 actuarial valuation results, audited by the Legislative Auditor’s Office. GASB Timeline: Measurement Date for Cities Measurement Period

What is PERA Working On in 2013? 12 Time PeriodActivity Summer 2013Meet with groups to hash out issues, determine employer / auditor needs State Auditor’s Office Legislative Auditor’s Office Employer Groups (MICA, LMC, MASBO) State of Minnesota MMB Actuary Fall 2013Develop communication plan (who, what, when, how) Education plan prior to implementation Ongoing communication plan Winter 2013Develop educational tools Sample disclosures Online videos or webinars List of services/figures PERA will provide Finance Director talking points January 2014GASB issues GASB 68 Implementation Guide

13 Future Activities Time PeriodActivity Spring 2014Finalize educational tools based on final GASB guidance June 30, 2014GASB 68 initial measurement date for employers who have a 6/30 FYE Summer 2014Work with actuary to develop reports Winter 2014Prepare allocation, schedules, suggested footnote disclosures for employers who have a 6/30 FYE June 30, 20156/30 FYE employers implement GASB 68 using 6/30/14 actuarial valuation. Initial measurement date for employers who have a 12/31 FYE. December 2015Prepare allocation, schedules, suggested footnote disclosures for all employers December 31, /31 FYE employers implement GASB 68 using 6/30/15 actuarial valuation.

14  Stay in tune with GASB – talk with your accountants, auditors, boards  If you have questions, send them to Dave DeJonge at PERA:  The statewide retirement systems will provide more information and training in 2014 and  Visit the “employer” tab on PERA’s website: Next Steps