U.S. PUBLIC FINANCE
JUNE 30, 2014
Moody’s US Public Pension Analysis Largely
Unchanged By New GASB 67/68 Standards
SPECIAL COMMENT
New Reporting Disclosure by US State and Local Governments Will Facilitate Better Liability
Adjustments With Modest Credit Impacts
Beginning with financial reporting for fiscal years 2014 and 2015, new pension accounting
standards (GASB 1 67 and 68) for US state and local governments will introduce:
Table of Contents:
OUR APPROACH TO ADJUSTING
REPORTED US STATE AND LOCAL
GOVERNMENT PENSION DATA TO
REMAIN FUNDAMENTALLY
UNCHANGED
NEW DISCLOSURES OF DISCOUNT
RATE SENSITIVITY WILL ALLOW BETTER
LIABILITY ADJUSTMENTS
DISCLOSURE-BASED ANPL CHANGES
WILL LIKELY BE CREDIT POSITIVE OR
NEGATIVE, BUT WE EXPECT MINIMAL
RATINGS IMPACT
NET REVENUE COVERAGE FOR
ENTERPRISE REVENUE RATINGS WILL
REMAIN BASED ON PENSION
CONTRIBUTIONS AND ACTUARIAL
COSTS
MOODY’S RELATED RESEARCH
APPENDIX: GASB PENSION
ACCOUNTING AND TERMINOLOGY
QUICK REFERENCE GUIDE
2
5
7
1) Various measurement and reporting changes that differ significantly from the prior
reporting regime, but have already been largely accounted for in our pension analysis;
2) Disclosures of pension liability discount rate sensitivity, which allows for the estimation of
the duration characteristics of specific plans. In turn, these duration estimates will improve
calculations of adjusted net pension liabilities (ANPLs).
This comment discusses both aspects of the changes, focusing on new duration-related
disclosure and its influence on our liability adjustments. Our key conclusions are:
»
Under the new pension accounting standards, our methodology for adjusting reported
state and local government pension data will remain unchanged. For example, we will
continue to adjust reported liabilities in their entirety using a high-grade corporate bond
index tied to the actuarial valuation date. Our adjustments will continue to produce
different liabilities than under GASB reporting.
»
Newly disclosed information regarding discount rate sensitivity of liabilities will lead to
changes in Moody’s ANPLs, which could be material in some cases. We will use new
disclosure of liability sensitivity to discount rate changes to estimate plan-specific
duration. Due to the lack of disclosure by pension plans, we currently assume a uniform
duration of 13 years to make discount rate adjustments to liabilities.
»
We do not expect the ANPL changes to affect ratings in the vast majority of cases.
ANPL changes caused by plan-specific duration estimates could be either credit positive
or negative. However, our analysis already reflects many key GASB changes, such as the
allocation of shares of multi-employer cost-sharing plans to participating employers.
»
The new standards will affect municipal utility enterprise reporting, but our assessment
of net revenue coverage for these entities will continue to consider actuarial costs of
pension funding. GASB 67 and 68 separate pension accounting expense from plan
funding, providing more standardized accounting recognition of annual costs. Our
analysis will continue to focus on debt service coverage, generally as defined in bond
covenants, in addition to costs related to plan actuarial funding that could differ from
accounting expense.
7
8
9
Analyst Contacts:
CHICAGO
+1.212.553.1653
Thomas Aaron
+1.312.706.9967
Analyst
[email protected]
NEW YORK
+1.212.553.1653
Timothy Blake
+1.212.553.0849
Managing Director - Public Finance
[email protected]
Alfred Medioli
+1.212.553.4173
Vice President - Senior Credit Officer
[email protected]
1
GASB is the Governmental Accounting Standards Board.
U.S. PUBLIC FINANCE
Our approach to adjusting reported US state and local government pension data
to remain fundamentally unchanged
Beginning with pension plan fiscal year 2014 disclosures and issuer fiscal 2015 disclosures 2, pension
accounting standards will change dramatically. However, our analytical approach to measuring
pension obligations already reflects most of the changes (see Exhibit 1).
EXHIBIT 1
Moody’s Municipal Pension Analysis Largely Unchanged By New GASB 67/68 Standards
GASB 67/68 Accounting Change
Impact to Moody's Adjustments
Shares of multi-employer cost-sharing plans will be disclosed
Minimal
Net pension liabilities will appear on government balance sheets
None
Pension plan assets reported at fair value
None for state sector, varied for local governments
Liability discount rates dependent upon future availability of assets None
Funding guidelines removed from pension plan accounting
None
Source: Moody's Investors Service
A more detailed description of the changes follows. For additional reference, the appendix provides a
guide to the major accounting terminology and definition changes associated with GASB 67 and 68.
»
Accounting change: Shares of multi-employer cost-sharing plans will be disclosed.
Employers that participate in multi-employer cost-sharing plans will report their proportionate
share of net pension liabilities. GASB 68 calls for shares of cost-sharing plans to be consistent with
proportional contributions. Previously, these participants only disclosed their contractually
required contribution to cost-sharing plans and their payment.
Impact to Moody’s pension adjustments: Minimal
We will continue to allocate shares of multi-employer cost-sharing plan assets and liabilities to
participating employers. We will rely on this new disclosure to arrive at proportionate plan shares,
unless we disagree with the rationale, instead of our current allocation based on pro-rata
contributions in a given year. At the issuer level, we also differentiate between liabilities associated
with governmental operations versus those associated with self-supporting utility enterprises, when
this information is available.
»
This publication does not announce
a credit rating action. For any credit
ratings referenced in this
publication, please see the ratings
tab on the issuer/entity page on
www.moodys.com for the most
updated credit rating action
information and rating history.
2
2
Accounting change: Net pension liabilities will appear on government balance sheets.
Net pension liabilities will appear on government balance sheets, instead of solely in the notes to
financial statements.
Impact to Moody’s pension adjustments: None
Our pension adjustments already produce a balance sheet liability concept that is similar to that
used in the private and not-for-profit sectors. We see unfunded pension liabilities as
characteristically similar, although not identical, to debt.
GASB 67 takes effect for pension plan financial statements associated with fiscal years beginning after June 15, 2013. GASB 68 takes effect for issuer financial statements
associated with fiscal years beginning after June 15, 2014.
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
Moody’s Adjustments to Pension Data
We calculate the Adjusted Net Pension Liability (ANPL) for local governments as the difference
between the actuarial value of a pension plan’s assets and its adjusted liabilities. For states, ANPL is the
difference between the market value of assets and adjusted liabilities. We adjust reported pension
liabilities of US states, public universities, GASB-reporting hospitals and local governments by
applying a bond index rate to future liabilities in order to discount the present value of these
obligations. We also distribute the liabilities of multi-employer cost-sharing plans to participating
governments based on their pro rata share of contributions. We will utilize the market value of assets
for local governments in accordance with disclosure improvements under GASB 67 and 68. Further,
we will incorporate plan specific duration estimates into our adjustments under GASB 67 and 68,
which will be derived from disclosed liability sensitivity to discount rate changes. At this time, the new
GASB standards will have no effect on our calculation of an annual 20-year, level dollar amortization
payment based on our ANPL, which is used for analytical purposes.
For greater detail on our adjustments and their application in our ratings methodology, please refer to
our report “Adjustments to US State and Local Reported Pension Data,” released in April 2013.
»
Accounting change: Pension plan assets reported at fair value 3.
Under the new standards, plans must use the fair value of assets to determine net pension
liabilities, as opposed to actuarial, or “smoothed” values.
Impact to Moody’s pension adjustments: None for state sector, varied for local governments
Unlike our adjustments for state governments, ANPL calculations for local governments to date
have relied on the reported actuarial value of assets due solely to data availability restrictions. We
will incorporate the market value of assets into all of our ANPL calculations when the new
standards become effective, including local governments. This change will affect local
governments with (or participating in) pension plans where the market value of assets greatly
deviates from the actuarial value.
»
Accounting change: Liability discount rates dependent upon future availability of assets.
The discount rate used to value the future cash flows comprising accrued liabilities can be set
equal to an assumed investment rate of return only for years in which assets are projected by plan
actuaries to be available. Liability cash flows for years after a projected depletion date, if any, must
be discounted using a high-grade municipal bond rate (see Exhibit 2).
Notably, several key assumptions that are likely to vary substantially from plan to plan will
influence future asset availability projections, including projected contributions and assumed
investment performance. Contribution projections must reflect historical government
contributions practices and/or adopted contribution policies 4, while assumed investment returns
will be influenced by the asset risk taken on by of a given plan.
3
Fair value should be measured by the market price if there is an active market for the investment. If such prices are not available, fair value should be estimated
4
Paragraph 28 of GASB Statement 68 prescribes the application of “professional judgment” related to contribution assumptions. Items for consideration include statutes
or policies related to contributions and consideration of the most recent five-year employer contribution history.
3
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
EXHIBIT 2
Plans Will Discount Accrued Liabilities After Projected Depletion Dates, if Applicable, Using a High
Grade Municipal Bond Rate
Funded Cash Flows
Cash Flows After Depletion
$8
$7
$6
Millions
$5
$4
$3
$2
$1
$0
"Total
Pension
Liability"
Time
Assumed Rate of Investment
Return
High Grade Municipal
Bond Index
Sources: Moody’s Investors Service and Milliman: “GASB 67/68: Depletion Date Projections,” March 2014.
Impact to Moody’s pension adjustments: None
We will continue to discount accrued liabilities in their entirety using a high-grade (Aa or higher)
corporate bond index rate tied to the actuarial valuation date. Our state and local government
rating methodologies will continue to incorporate a three-year average of Moody’s ANPL to
reduce the volatility that arises from our adjustments.
»
Accounting change: Funding guidelines removed from pension plan accounting.
The new GASB standards “mark a definitive separation of accounting and financial reporting
from funding.” 5 In contrast, GASB 27 set a plan funding target with defined parameters, the
annual required contribution (ARC), which also formed the basis of the accounting expense for
governments with single-employer and multi-employer agent plans. 6 Balance sheet liabilities, if
any, were derived solely from contribution deviations relative to the ARC standard. These
cumulative liabilities were called the Net Pension Obligation (NPO). Moving forward, the GASB
67 and 68 pension expense includes more standardized recognition of pension-related expenses,
which may or may not match the methods used by plan actuaries to determine funding
requirements.
Impact to Moody’s pension adjustments: None
Our analysis will continue to consider consistent adherence to a prudent actuarially determined
pension funding plan as an indicator of sound budget management practices. Conversely, the
failure to follow such a plan is an indicator of cost deferral that we view as credit negative.
Although GASB has dispensed with providing funding guidance in its new pension accounting
standards, and therefore the ARC will disappear, the concept and credit implications of adhering
to sound pension funding practices remain unchanged.
5
Governmental Accounting Standards Board: “GASB’s New Pension Standards: Setting the Record Straight.”
6
Pension expense under GASB 27 is recognized as “Annual pension cost” (APC), which is the ARC plus interest on the Net Pension Obligation minus any ARC
adjustment to prevent double-counting.
4
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
New disclosures of discount rate sensitivity will allow better liability adjustments
GASB 67 and 68 requires pension plans and issuers to disclose the sensitivity of liabilities to 100 basis
point discount rate changes. Even though pension plan duration is still not directly disclosed, this new
information allows us to estimate duration and more accurately distinguish among specific plans
because sensitivity to discount rate changes reveals information about liability duration characteristics.
For example, two pension plans with equivalent liabilities at the same discount rate but different
durations will exhibit different sensitivity to changes in the discount rate.
In the hypothetical plans examined below, the liabilities using a 7.5% discount rate are both equal to
$88.1 million. However, the liabilities for the plan with a longer duration are more sensitive to
changes in the discount rate (see Exhibit 3).
EXHIBIT 3
Total Pension Liabilities (TPLs) Are More Sensitive to Discount Rate Changes for Plans With Longer
Durations
$ in millions
TPL @ 7.5%
TPL @ 6.5%
TPL @ 8.5%
$120
$101.0
$100
$95.9
$88.1
$88.1
$81.3
$77.7
$80
$60
$40
$20
$0
Plan 1 (14 Year Duration)
Plan 2 (9 Year Duration)
Source: Moody’s Investors Service
Consistent with our previously published expectations 7, we will use this new discount rate sensitivity
information to estimate plan-specific duration. Absent other data, we previously assumed uniform plan
duration of 13 years to measure the impact of our discount rate changes on plan liabilities. Under
GASB 67 and 68, we will estimate plan-specific duration as the number of years equal to the
percentage change in Total Pension Liability (TPL) from a 100 basis point discount rate decline.
Our adjustments to two hypothetical pension plans under both GASB 27 and GASB 68 accounting
standards are provided below, showing that the use of plan-specific duration estimates can result in
either an increase or a decrease in ANPL, all else being equal (see Exhibits 4 and 5). 8
7
For reference, see page 5 of “Adjustments to US State and Local Government Reported Pension Data” (April 17, 2013), and page 27 of “US Local Government General
Obligation Debt” (January 15, 2014).
8
For the purposes of demonstration, actuarial assets have been assumed to equal the market value of assets, and the municipal bond rate used to discount GASB 68
liabilities after depletion has been assumed to equal the high-grade corporate bond index used for Moody’s adjustments.
5
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
EXHIBIT 4
Moody’s Adjusted Net Pension Liabilities (ANPLs) for Some Pension Plans Could Increase Due to
Use of Plan-Specific Duration Estimates
($ in millions)
GASB 27 Disclosure
Valuation Date
GASB 68 Disclosure
6/30/2013
Plan Discount Rate (Assumed Rate of Return)
7.50%
Measurement Date
Projected Depletion Date
Single Equivalent Discount Rate
6/30/2013
2046
6.86%
Actuarial Accrued Liability (AAL)
$88.1
Total Pension Liability (TPL)
$96.0
Actuarial Value of Assets (AVA)
$70.0
Plan Fiduciary Net Position
$70.0
Unfunded Actuarial Accrued Liability (UAAL)
$18.1
Net Pension Liability (NPL)
$26.0
NPL (-1%, to 5.86% discount rate)
$40.8
Moody's Adjustments
Discount Rate*
Moody's Adjustments
4.81%
Assumed Duration (years)
Accrued Liability
13
$122.5
% Change in TPL from 100 basis
point decrease in discount rate
15.4%
Discount Rate*
4.81%
Estimated Plan Duration (years)
Accrued Liability
15.4
$129.4
Assets
$70.0
Assets
$70.0
ANPL
$52.5
ANPL
$59.4
Source: Moody’s Investors Service
*Citigroup Pension Liability Index (via Society of Actuaries) as of the pension plan valuation/measurement date.
EXHIBIT 5
…But for Other Plans, ANPLs Could Decrease for the Same Reason
($ in millions)
GASB 27 Disclosure
Valuation Date
GASB 68 Disclosure
6/30/2013
Plan Discount Rate (Assumed Rate of Return)
7.50%
Measurement Date
Projected Depletion Date
Single Equivalent Discount Rate
Actuarial Accrued Liability (AAL)
$88.1
Actuarial Value of Assets (AVA)
Unfunded Actuarial Accrued Liability (UAAL)
$70.0
Plan Fiduciary Net Position
$70.0
$18.1
Net Pension Liability (NPL)
$18.1
NPL (-1%, to 6.5% discount rate)
$25.9
Moody's Adjustments
4.81%
Accrued Liability
7.50%
$88.1
% Change in TPL from 100 basis
point decrease in discount rate
Assumed Duration (years)
None
Total Pension Liability (TPL)
Moody's Adjustments
Discount Rate
6/30/2013
13
$122.5
Discount Rate*
Estimated Plan Duration (years)
Accrued Liability
8.9%
4.81%
8.9
$110.3
Assets
$70.0
Assets
$70.0
ANPL
$52.5
ANPL
$40.3
Source: Moody’s Investors Service
*Citigroup Pension Liability Index (via Society of Actuaries) as of the pension plan valuation/measurement date.
For additional descriptions of pension accounting terminology under GASB Statements 27 and 68, see the Appendix.
6
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
Disclosure-based ANPL changes will likely be credit positive or negative, but we
expect minimal ratings impact
The potential changes to Moody’s ANPLs resulting from use of newly disclosed information, as
demonstrated in Exhibits 3 and 4, could be either credit positive or credit negative. However, given
that our analysis already reflects many of the key changes under GASB 67 and 68, such as the
allocation of shares of multi-employer cost-sharing plans to participating government employers, we
do not expect the impact on ANPLs solely associated with duration estimates to drive rating changes in
the vast majority of cases. We do not intend to recalculate ANPLs from previous years under GASB 25
and 27 accounting using the newly disclosed discount rate sensitivity information.
Our credit analysis also weighs the budgetary burden of pension funding, both in terms of actual
contributions and actuarial costs from all plan types, in addition to our liability adjustments. While the
annual required contribution will no longer be incorporated into pension accounting under GASB 67
and 68, issuers and plans will disclose information about funding requirements in the notes to their
financial statements. The ongoing burden to issuers associated with actuarially determined
contributions (ADCs), as well as an assessment of underlying assumptions, will remain an integral part
of our state and local government credit analyses.
Net revenue coverage for enterprise revenue ratings will remain based on pension
contributions and actuarial Costs
GASB 67 and 68 will introduce new accounting rules for recognizing pension expense. Under the new
standards, some changes to net pension liabilities will be recognized as an expense immediately, while
other types of changes will be recognized incrementally over a longer period of time. For example,
pension expense must immediately reflect benefits earned in a given year 9. In contrast, actuarial losses
associated with factors such as better than assumed mortality rates will be recognized over a period of
years equal to the average remaining years of service of plan members. Assumed investment earnings
will be recognized immediately, while differences between projected and actual investment earnings
will be systematically recognized in pension expense over a period of five years.
The recognition of changes in net pension liability in pension expense under GASB 67 and 68 will
likely be larger and more volatile than under prior standards because these changes will be recognized
over a shorter period of time. The previous standards allowed for the recognition of experience
variations “in increments over selected periods of up to 30 years”. However, “[t]he average remaining
years of service of plan members is likely to be considerably shorter than 30 years and result in earlier
expense recognition.” 10 Further, participating employers in cost-sharing plans will now report their
own proportionate share of total plan pension expense, just as they will report their share of net
pension liabilities. We anticipate that the impact of these changes could be significant in some cases.
Given these changes, we expect that net revenue calculations for government water, sewer and other
utility enterprises could be impacted by the new standards. The newly defined pension expense will
provide a useful and forward-looking accounting perspective. From a financial standpoint, however,
our assessment of net revenue debt service coverage will also consider actual pension contributions and
total actuarial costs from a plan funding perspective (as opposed to solely accounting). From the
perspective of legal bond covenants, we expect issuers and their bond counsels to determine on a case
by case basis whether the new accounting standards trigger a legal pledge to bondholders related to net
revenues.
9
Commonly referred to as “Normal Cost” for funding purposes. GASB 68 defines this as “Service Cost” for accounting.
10
See “Fact Sheet on the GASB’s New Pension Standards: Governments in Cost-Sharing Multiple-Employer Defined Benefit Pension Plans.”
7
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
Moody’s Related Research
Rating Methodology:
»
US Local Government General Obligation Debt, January 2014 (162757)
Rating Methodology-Cross Sector:
»
Adjustments to US State and Local Government Reported Pension Data, April 2013 (151398)
To access any of these reports, click on the entry above. Note that these references are current as of the date of publication of
this report and that more recent reports may be available. All research may not be available to all clients.
8
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
Appendix: GASB Pension Accounting and Terminology Quick Reference Guide
GASB 27
GASB 68
Reporting Requirement for Types of Defined Benefit Plans
« Funding progress and actuarial cost information disclosed for Single
Employer and Multi-Employer Agent plans.
« Funding progress and actuarial cost information disclosed for Single Employer
and Multi-Employer Agent plans. Proportionate shares of funding progress
recognized for multi-employer cost-sharing plans.
« Contractual contribution requirements and actual contributions
disclosed by participants in multi-employer cost-sharing plans.
« Contractual contribution requirements and actual contributions disclosed by
participants in multi-employer cost-sharing plans.
Funding Progress
Assets
Actuarial Value of Assets (AVA)
Plan Fiduciary Net Position
« The value of assets used for the purposes of an actuarial valuation.
Often, the AVA incorporates "smoothing," a technique that recognizes
changes in asset values gradually over a number of years rather than
all at once.
« The plan asset position is based on fair value 11.
Liabilities
Actuarial Accrued Liability (AAL)
Total Pension Liability (TPL)
« The present value of benefits earned attributable to past period of
employee service.
« The present value of benefits earned attributable to past period of employee
service.
« GASB 27 allows for the use of six different actuarial cost methods.
Common examples include Entry Age Normal (EAN) and Projected
Unit Credit (PUC).
« GASB 68 requires use of the Entry Age Normal (EAN) cost method.
« The discount rate used to calculate the AAL is typically equal to a
plan's assumed rate of investment return.
« The discount rate for benefit cash flows projected to be covered by plan assets
are discounted using the assumed rate of investment return. Benefit cash flows
after a projected depletion date (if any), are discounted using a high-grade
municipal bond index.
Unfunded Liabilities
Unfunded Actuarial Accrued Liability (UAAL)
Net Pension Liability (NPL)
« Difference between AAL and AVA
« Difference between TPL and Plan Fiduciary Net Position
« Disclosed in the notes to financial statements only. Net Pension
Obligation (NPO), which reflects cumulative contribution shortfalls,
plus interest, relative to actuarial costs, recorded on the balance
sheet.
« Recorded on the balance sheet.
Accounting and Actuarial Costs
Normal Cost
Service Cost
« The portions of present value of projected benefit payments
attributed to the valuation (i.e. current) year.
« The portions of the present value of projected benefit payments attributed to the
valuation (i.e. current) year.
Annual Required Contribution (ARC)
Actuarially Determined Contribution (ADC)
« The sum of normal cost and the annual cost to amortize the unfunded
liability within a maximum of 30 years. Actuarial assumptions and
methods used to determine the ARC vary.
« A recommended contribution for plan funding in accordance with actuarial
standards. GASB 68 does not specify any further requirements.
Accounting Expense
Annual Pension Cost (APC)
Pension Expense
« Measure of an employer’s periodic pension cost, which includes the
ARC plus interest on the NPO, minus an ARC adjustment to offset the
amount of interest and principal (if any) from past under/overcontributions already included in the ARC.
« Standardized expense recognition in pension accounting. For example, entry agebased service cost will be recognized immediately while demographic experience
gains and losses will be recognized over the average remaining years of service of
plan members.
Sources: GASB Statements 27 and 68
11
9
Fair value should be measured by the market price if there is an active market for the investment. If such prices are not available, fair value should be estimated.
JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS
U.S. PUBLIC FINANCE
Report Number: 171874
Author
Thomas Aaron
Production Specialist
Wendy Kroeker
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JUNE 30, 2014
SPECIAL COMMENT: MOODY’S US PUBLIC PENSION ANALYSIS LARGELY UNCHANGED BY NEW GASB 67/68 STANDARDS