Funding OPEB liabilities: what are your options?

• Author: Young, Parry
• Position: Other Postemployment Benefits - Cover Story

The fulfillment of retiree pension and other benefit obligations has become a major concern globally in both the government and private sectors, driven in part by the demographic phenomenon of people living longer. In addition, life style choices have tended to lower the actual retirement age. These two factors have expanded the period during which pension benefits must be paid, resulting in burgeoning liabilities for employers. Adding to the problem has been the rapid increases in costs related to retiree health care. While state and local governments have been struggling to maintain adequate funding for pensions, buffeted not only by demographics but also by investment losses and recent benefit increases, a new challenge has appeared on the horizon in the form of changes in the financial reporting for and funding of other retiree benefit costs.

Last year, the Governmental Accounting Standards Board issued Statement No. 45, Accounting and Financial Reporting by Employers for Postemployment Benefits Other Than Pensions. These other postemployment benefits, known as OPEB, include health care, as well as all other retiree benefits that are not a part of a pension plan. Retiree health care is always considered OPEB. This class of postemployment benefit may also include a variety of options such as life insurance or other non-pension benefits. In essence, the new GASB requirements for OPEB tend to follow the reporting requirements for pension benefits because the benefits are similar in nature and both are a form of deferred compensation.

While OPEB costs have traditionally been accounted for and financed on a pay-as-you-go (PAYGO) basis, they will now be treated for accounting purposes on an accrual basis like pensions. Once a government determines its OPEB liability under the new standard, it will then have to decide how to manage it. Should the employer advance fund its OPEB liability under GASB 45 or continue to use the PAYGO method? If the advance funding choice is made, how will the resultant higher contributions affect the budget? Is the current benefit structure sustainable given the new approach? This article will present an overview of the new OPEB reporting requirements; the implications for employers, including some of the options that may be available for managing this liability; the effects of advance funding the liability; and certain managerial considerations that employers may have to face during the process of measuring their OPEB costs and obligations, and preparing for implementation of GASB 45.

THE NEW OPEB ACCOUNTING RULES

In its introduction to Statement No. 45, the GASB said that OPEB "are part of an exchange of salaries and benefits for employee services rendered." Further, from "an accrual accounting perspective, the cost of OPEB, like the cost of pension benefits, generally should be associated with the periods in which the exchange occurs, rather than with the periods (often many years later) when benefits are paid or provided." GASB believes that the reporting for the current PAYGO financing practice fails to:

* Recognize the cost of benefits in periods when the related services are received by the employer

* Provide information about the actuarial accrued liabilities for promised benefits associated with past services and whether and to what extent those benefits have been funded

* Provide information useful in assessing potential demands on the employer's future cash flows.

The intention of GASB 45 is to overcome these deficiencies and provide more relevant and useful reporting. In addition, by requiring the financial reporting of OPEB expense as services are provided, issues related to intergenerational inequities will be addressed.

A simple example of the practical application of the new reporting standard can be found in looking at the OPEB cost structure of a fictitious, new city with a relatively young fire department. The city has promised lifetime health care benefits to the department's members in its labor negotiations. Currently, this retiree benefit costs the city nothing on the PAYGO basis, since there are no retirees. However, as the firefighters age and actually retire and collect...