What business needs in order to meet its OPEB obligations.

• Author: Nehrling, A. Herbert
• Position: Other post-employment benefits

What business needs in order to meet its OPEB obligations

Corporations are not expected to make drastic cut-backs in retiree health care benefits because of the proposed FASB standard. But to meet their funding obligations, they need legislation passed that will enable them, first, to use excess pension fund assets and, second, to prefund retiree medical benefits on a pre-tax basis. The proposed FASB standard on accounting for OPEB obligations has created a major issue for corporations because of the magnitude of the expense and liability numbers which will appear on financial statements. These numbers are so large because corporations have promised to pay the bulk of the health care costs incurred by their retirees--over and above the portion picked up by Medicare. In other words, there is an open-ended promise to cover a cost--health care--that is out of control. And projecting these costs at historic rates discounted to present value produces an enormous expense and liability.

How will U.S. corporations react to the severe and adverse financial impact of accruing these retiree health care costs? The impact will be both on their balance sheets (producing increased liabilities and a corresponding reduction in stockholder equity) and on their income statements (producing higher expenses and lower earnings).

Preliminary calculations indicate that income statement charges for providing retiree health care will range from three to six times greater when using accrual accounting than under the current pay-as-you-go method. A General Accounting Office study estimates aggregate accrual costs to be 3-1/2 times the pay-as-you-go cost--which is $34 billion, or one-eight of total pretax company profits.

Moreover, the balance sheet liability for retiree health care will be so large that, for many companies, existing loan covenants will be violated and/or the ability to obtain additional financing will be curtailed or severely reduced. At certain companies, the balance sheet retiree health care liability may exceed net worth.

The initial corporate reaction was that many employers would substitute a defined contribution approach to both retiree and active health care in place of the current "open-ended promise" approach. Thus, as health care costs continued to escalate, employers under a defined contribution approach would be able to control and clearly define the impact of future costs on their financial statements. It was also believed that many other employers would eliminate the retiree health care benefit entirely.

However, further reflection has resulted in a modification of either the drastically-reduce or eliminate-the-benefit approach. First, a series of court decisions seem to say that persons already retired have contractual, or even...