Government-owned life insurance in public pensions and OPEB financing.

• Author: Link, Jim
• Position: Best Practices - Other post-employment benefit

With governments emerging from the credit crisis and the Great Recession, many finance officers are now being charged with helping solve legacy issues--of which pension and other post-employment benefit (OPEB) plan funding are generally the biggest. Creating solutions that help ensure the long-term sustainability of these plans is far from easy and any proposal that claims to offer a quick fix is probably suspect. One unfortunate product solution pitch that finance officers, government leadership, and public interest groups have been hearing is the notion of using life insurance as a singular or primary solution to the funding gap.

WHAT IT IS AND HOW IT WORKS

State and local governments are sometimes approached by firms or individuals suggesting that the government finance a portion of its pension or other OPEB costs using government-owned life insurance. Under this approach, a government would obtain life insurance policies on its employees and/ or retirees and make one or more premium payments. Part of the payment would pay the cost of insurance, and any remainder of the premium payment would be used as an investment to fund future benefits and insurance premiums. The life insurance benefit proceeds would go to the government's pension or OPEB fund or trust upon the eventual death of the insured individuals. A portion of the death benefit may also be paid to beneficiaries of the deceased, who would have opted to participate as a willing investor.

Choosing to purchase government-owned life insurance payments might seem like a simple business issue, but it often becomes a legislative issue as well, where the finance officer winds up facing pressure from legislators who are seeking solutions to serious pension funding challenges. (1) In some cases, prospective life insurance providers have suggested that the government borrow funds to finance the insurance premiums--a problematic recommendation because under current tax law, the borrowed funds would be taxable debt and could recur in a serial fashion due to employee turnover.

THE RISKS

Entering into government-owned life insurance agreements to fund retiree pension and OPEB liabilities is a bad idea for a number of reasons. (2)

Financial Risk. Purchasing policies using borrowed funds adds interest rate risk, so a higher interest-rate environment would increase the cost of borrowing for the program if multiple debt issues are required. Governments should fully understand the risks of using...