The Impact of Governmental Accounting Standards on Public-Sector Pension Funding

• In Event: Government Financial Reporting Issues

Abstract

The funding policy for defined benefit pension plans covering government employees represents an important decision for government entities sponsoring plans. In recent years, a number of state and local governments have experienced extreme funding shortfalls (e.g., New Jersey, Illinois, and Detroit), raising concerns about whether government entities are contributing enough to their pensions. Governmental Accounting Standards Board Statement Number 67/68 (hereafter, “GASB 67/68”) mandates changes to the financial reporting of pension liabilities, but does not mandate changes to pension funding (i.e., how much to contribute). Although GASB 67/68 specifically acknowledges that funding decisions are outside the GASB’s regulatory scope, we find, for a sample of 170 large state and local plans, that employers and/or sponsors increase pension contributions upon applying GASB 67/68, which mandates changes to: (1) measurement – under GASB 67/68, government entities whose plan assets are insufficient to cover forecasted benefit payments are required to apply a lower discount rate to compute the present value of the pension liabilities, resulting in higher measurements of pension liabilities; and (2) recognition – under GASB 67/68, any net funding deficit must be recognized as a liability on the financial statements of governmental employers and sponsors for the first time (as opposed to only being disclosed in the footnotes). The increased funding response is concentrated within plans expecting a large jump in measured liabilities upon applying GASB 67/68, and for sponsors expecting more adverse economic or political consequences from financial statement recognition. These responses suggest that governmental entities are willing to take actions with cash flow consequences in order to avoid recognizing large liabilities on-balance sheet; purely accounting changes, therefore, can have “real” effects on governmental pension policy.

Authors

• Divya Anantharaman, Rutgers University - Newark

• Elizabeth Chuk, University of California at Irvine