Pension Funding Risks & Possible Method Changes

1. Pension Funding Risks & Possible Method Changes Alan Milligan Chief Actuary

2. Agenda • What’s happening? • Discussion of funding risks • Possible changes to funding methods • Impact on contribution rates

3. What’s Happening?

4. Accounting Changes • GASB Statement No. 67 • Applies to plans (CalPERS) • Replaces GASB Statements No. 25 • GASB Statement No. 68 • Applies to employers • Replaces GASB Statements No. 27

5. Highlights of GASB 68 • Accounting ≠ Funding • Have to Report Unfunded Liability on Balance Sheet • Using market (fair) value of assets • Pension expenses no longer the ARC • Based on shorter amortization periods • Very volatile • Pooled Employers will have to report their share of the pool’s UAL and pension expense

6. Will CalPERS Provide the Information? • Planning on it • Will require extensive changes • Cannot use trust fund money • Will have to charge employers asking for the information • Will be going to CalPERS Board this spring for approval to proceed and charge employer • GASB valuations will be done on request • Not mandatory

7. Potential GASB Implementation Issues • Need actuarial computer system re-write • Ability to hire staff • Need to be ready by spring of 2015 • Most employers will need the information for June 30, 2015 CAFR

8. Pension Reform • Its here! • Best source of up to date info is CalPERS website • FAQ, circular letters, member publications • PEPRA rate letters were sent in December • New PEPRA employer rate for pooled plans • Blended rate for non-pooled plans

9. Pension Reform – Clean Up • CalPERS is pursuing regulations • Clean up Legislation (SB 13) • Issues • Special compensation • Contribution and benefit offsets

10. Pension Reform – Employer Inquiries • MOU impairment • Working after retirement • Member rate, EPMC • Compensation cap • Will be stopping contribution above cap • System changes needed • Expected to be in place by end of June at the latest

11. Pension Reform – Risk Pool Impact • CalPERS Board created two new risk pools • Miscellaneous 2% at 62 • Safety 2.7% at 57, 2.5% at 57 and 2% at 57 • Existing Pools are closed to new entrants • Need to address amortization of side funds and pool unfunded liability • Looking at various solutions

12. Total Normal CostMiscellaneous Plans

13. Total Normal CostSafety Plans

14. Asset Allocation and Discount Rate • Board reviews asset allocation every 3 years • Asset liability workshop scheduled for November 2013 • Final asset allocation will be adopted in December 2013 • Implications are potential changes to discount rate assumption • Would be adopted in February 2014 • Would impact 2013 valuation setting 2015-2016 rates

15. Experience Study • Review of demographic assumptions • Once every 4 years • Will work on new one in 2013. • Expect to present result in early 2014. • Future mortality improvement (i.e people living longer) will be looked at • Expected to result in higher contribution requirements

16. Funding Risk

17. Risk • Funding Risk report in March • New risk analysis section in reports • Discount Rate Sensitivity Analysis • Employer rate under different discount rate • 6.5% and 8.5% discount rate • Investment Return Sensitivity analysis • Projection of employer rate up to 2017-2018 • 5 scenarios

18. Termination Liability • CalPERS Board approved new asset allocation for terminated plans in December • Liabilities have been immunized using a fixed income portfolio • What does it mean in today’s low interest rate environment? • Discount rate is much lower • Termination liabilities much higher than funding liabilities • Hypothetical termination liability was included in most recent actuarial valuation report

19. Example • Plan with an asset to payroll ratio (volatility index) of 6 • Assume AVA = 120% of MVA

20. Need some graphics

21. Possible Changes

22. Employer Contributions • Exploring new ways to set contribution requirements • Ideas • Status quo • Separate contribution rate per benefit formula • Set a rate for normal cost and bill $ for any payment toward an unfunded liability (and side fund) • Set a $ amount each year

23. Review of Smoothing and Amortization Methods • CalPERS actuarial staff performing a review of existing methods • 15 year asset smoothing • 30 year rolling amortization • Results of review will be presented in March • Potential for a recommendation to shorten asset smoothing period and/or amortization period

24. Issues with the Current Methods

25. The Concept • No corridor • Shorter (fixed) smoothing period • Fixed amortization periods • Smoothing the rate directly

26. Directly Smoothing the Rate?

27. Graph of Contribution Rate • UAL pmt, single asset loss/ current versus new concept

28. Impact on Employer Contributions

29. Accounting Changes • No impact on employer contributions • Will impact pension expense on your financial statements

30. Pension Reform • No impact at start • Gradual phase in of lower normal cost • As you hire new employees • Member contribution rate increases • Direct offset if/when implemented • Consult your actuary as to timing

31. New Assumptions • Expect to recommend changes in early 2014 • May be effective for 2015-16 or 2016-17 • Mortality projection • Impact of a 1% change is shown in your valuation report • Discount rate • Impact is 2% to 4% of payroll

32. New Smoothing Methods • Timing • Impact

33. Timeline of Pension Changes • No impact on rates • Applies to Fiscal years beginning after June 15, 2014 for most Employers • Information needed Fall 2015 Approval • Impacts rates of new Employees when hired (or shorty thereafter) Approval Impact on Rates* • Impacts FY 2015-16 rates • Impacts discount rate in Valuations • Impacts mortality projections in the presentation Impact on Rates* • Impacts FY 2015-16 rates Impact on Rates* • 2012 • 2013 • 2014 • 2015 • 2016 • 2017 *For illustrative purposes only

34. QUESTIONS?