georgia government finance officers association october 1, 2013 how to read an actuarial valuation...
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Georgia Government Georgia Government Finance Officers Finance Officers
AssociationAssociationOctober 1, 2013October 1, 2013
How to Read an Actuarial How to Read an Actuarial Valuation Report:Valuation Report:
““It’s Not Just a Sleep Aid”It’s Not Just a Sleep Aid”
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SpeakerSpeaker
Alisa Bennett, Principal and Alisa Bennett, Principal and Consulting Actuary, Cavanaugh Consulting Actuary, Cavanaugh Macdonald Consulting, LLC.Macdonald Consulting, LLC.Kennesaw, GAKennesaw, GA Over 20 years of Public Sector Actuarial Over 20 years of Public Sector Actuarial
ExperienceExperience Consult with many GA PlansConsult with many GA Plans
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Table of ContentsTable of Contents
Actuarial JargonActuarial Jargon Main Purposes of the Valuation Main Purposes of the Valuation
ReportReport Funding RequirementsFunding Requirements AssetsAssets Gain/LossGain/Loss GASB AccountingGASB Accounting AssumptionsAssumptions
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Actuarial JargonActuarial Jargon
PVFBPVFB EANEAN PUCPUC AALAAL NCNC UAALUAAL
MVAMVA AVAAVA ARCARC NPONPO GASBGASB OPEBOPEB
Actuarial Communication – Actuarial Standards of Practice (ASOPs)
Main Purposes of Valuation Main Purposes of Valuation ReportReport
Provide a summary of the funded Provide a summary of the funded status of the Pension or OPEB Plan.status of the Pension or OPEB Plan.
Recommend rates of contribution.Recommend rates of contribution. Provide accounting information Provide accounting information
under GASB 25 and 27 (soon to be under GASB 25 and 27 (soon to be 67 and 68) and/or 43 and 45 for 67 and 68) and/or 43 and 45 for OPEB for Plan’s Comprehensive OPEB for Plan’s Comprehensive Annual Financial Reports (CAFR).Annual Financial Reports (CAFR).
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Main Purposes of Valuation Main Purposes of Valuation ReportReport
Provide summary of participant Provide summary of participant data as of snapshot valuation data as of snapshot valuation date.date.
List all Assumptions and Methods List all Assumptions and Methods that went into developing that went into developing liabilities.liabilities.
Provide summary of Plan Provide summary of Plan Provisions.Provisions.
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Funding Valuation Funding Valuation ProcessProcess
Present Value of Future Benefits(PVFB)
Actuarial Accrued Liability
(AAL)
Future Normal Costs(NC)
Assets(AVA, MVA)
Unfunded Accrued
Liability (UAL)
Member Portion
Employer Portion
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Present ValuePresent Value
The present value of an amount of The present value of an amount of money payable in the future is the money payable in the future is the amount of money that, if we had it amount of money that, if we had it today, would accumulate to the today, would accumulate to the amount that will be payable amount that will be payable considering:considering:
Investment ReturnInvestment Return Probability that money will be paidProbability that money will be paid
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Present ValuePresent Value
Example 1: You owe $1,000 to a financial Example 1: You owe $1,000 to a financial institution payable one year from now. You institution payable one year from now. You estimate you can invest money for a 7% estimate you can invest money for a 7% return. What is the present value of the return. What is the present value of the debt?debt?
$1,000 / 1.07 = $934.58$1,000 / 1.07 = $934.58
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Present ValuePresent ValueExample 2: You owe $1,000 to a person payable Example 2: You owe $1,000 to a person payable one year from now. The person is 70 years old and one year from now. The person is 70 years old and has no heirs. You estimate you can invest money has no heirs. You estimate you can invest money for a 7% return. You estimate that the chance the for a 7% return. You estimate that the chance the person is still alive one year from now is 98%. person is still alive one year from now is 98%. What is the present value of the debt?What is the present value of the debt?
$1,000 / 1.07 x 98% = $915.89$1,000 / 1.07 x 98% = $915.89
Observation: If the person dies, you will have Observation: If the person dies, you will have money left over. If the person lives, you won’t have money left over. If the person lives, you won’t have enough money to pay the debt.enough money to pay the debt.
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Normal CostNormal Cost
Contribution For DescriptionFuture Normal Costs Value of all future expected
benefit accruals
Normal Cost Rate Value of this next year’s expected benefit accruals as a
percent of payroll
Total Normal Cost Rate 12.00%
Employee Rate (8.00)%
Employer Normal Cost Rate
4.00%
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Actuarial Accrued Actuarial Accrued LiabilityLiability
The portion of the present value of The portion of the present value of pension plan benefits not provided for pension plan benefits not provided for by future normal costs.by future normal costs.
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Asset Valuation MethodsAsset Valuation Methods
Market Value of Assets (MVA)Market Value of Assets (MVA) Smoothed Market – Actuarial Value Smoothed Market – Actuarial Value
of Assets (AVA)of Assets (AVA)
Smoothing MethodsSmoothing Methods
Recognize some portion of market return Recognize some portion of market return each yeareach year
Can be straight line or weightedCan be straight line or weighted Most commonly used is straight line, 5-Most commonly used is straight line, 5-
year smoothingyear smoothing Can be with or without corridor, i.e., Can be with or without corridor, i.e.,
actuarial value cannot be less than x% or actuarial value cannot be less than x% or more than x% of market valuemore than x% of market value
Most common corridor is 80%-120% of Most common corridor is 80%-120% of market valuemarket value
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Actuarial Value vs. Actuarial Value vs. Market ValueMarket Value
Actuarial Value of Assets is expected to be:• Higher than Market Value when market is doing poorly• Lower than Market Value when market is doing well
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Unfunded Accrued Unfunded Accrued Liability Contribution Liability Contribution
RateRateContribution For DescriptionUnfunded Accrued Liability (UAL)
Actuarial Accrued Liability – Actuarial Value of Assets
“Unfunded Accrued Liabilities” are a natural part of retirement system funding comparable to a mortgage on a home. A plan which is 100% funded is required to contribute only the normal cost.
Funding Ratio (or Funded Status) of the Plan is the ratio of Actuarial Value of Assets divided by the Actuarial Accrued Liability. If the Plan has a 100% Funding Ratio, there is no Unfunded Accrued Liability.
Unfunded Accrued Unfunded Accrued Liability AmortizationLiability Amortization
Level $Level $ Level % of payrollLevel % of payroll Closed periodClosed period Open or rolling periodOpen or rolling period Maximum 30 years (GASB Maximum 30 years (GASB
requirement)requirement)
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Level $ AmortizationLevel $ Amortization
Same as paying a home mortgage on Same as paying a home mortgage on a fixed interest rate.a fixed interest rate.
Payments remain constant in dollar Payments remain constant in dollar amount over the amortization amount over the amortization period, but decline as a percent of a, period, but decline as a percent of a, presumably, growing payroll.presumably, growing payroll.
UAL declines in nominal (total UAL declines in nominal (total dollar) value every year.dollar) value every year.
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Level $ AmortizationLevel $ Amortization
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Level % AmortizationLevel % Amortization
Developed to help better achieve the goal of Developed to help better achieve the goal of level contributions as a percent of payroll.level contributions as a percent of payroll.
Requires an assumption regarding annual Requires an assumption regarding annual totaltotal payroll growth.payroll growth.
GASB permits this method as long as growth in GASB permits this method as long as growth in the active membership is not reflected in the the active membership is not reflected in the payroll growth assumption. However expected payroll growth assumption. However expected declines in membership (e.g., closed plans) declines in membership (e.g., closed plans) should be reflected.should be reflected.
This results in the use of the wage inflation This results in the use of the wage inflation assumption for ongoing plans.assumption for ongoing plans.
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Level % AmortizationLevel % Amortization
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Closed vs. Open PeriodsClosed vs. Open Periods
Closed period means a one year drop in Closed period means a one year drop in the amortization period each year until the amortization period each year until you reach zero.you reach zero.
Open period means the amortization Open period means the amortization period fluctuates up or down, or stays period fluctuates up or down, or stays the same from year to year.the same from year to year.
Open period with level % amortization Open period with level % amortization can result in never paying off the UAL, can result in never paying off the UAL, although it does decline as a percent of although it does decline as a percent of payroll.payroll.
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Open PeriodOpen PeriodUAL Dollar AmountUAL Dollar Amount
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Open PeriodOpen PeriodUAL as % of PayrollUAL as % of Payroll
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Funding Ratio Funding Ratio ComparisonComparison
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Annual Required Annual Required Contributions (ARC)Contributions (ARC)
Contribution For Employer RateTotal Normal Cost Rate 12.00%
Employee Rate (8.00%)
Employer Normal Cost Rate
4.00%
Unfunded Accrued Liability Rate(amortized over 30 year period)
6.00%
Annual Required Contribution Rate
10.00%
Causes of Unfunded Causes of Unfunded Accrued LiabilitiesAccrued Liabilities
Granting initial benefits or granting Granting initial benefits or granting benefit increases for service already benefit increases for service already rendered.rendered.
Actual experience which is less Actual experience which is less favorable than assumed. Examples favorable than assumed. Examples follow:follow:a.a. Higher salary increasesHigher salary increasesb.b. Earlier retirement date(s)Earlier retirement date(s)c.c. Lower death ratesLower death ratesd.d. Lower rates of investment earningsLower rates of investment earningse.e. Lower rates of non-death terminationsLower rates of non-death terminations
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Changes in Major AssumptionsChanges in Major AssumptionsEffect on Liabilities and Effect on Liabilities and
ContributionsContributions
Assumption Action Usual Effect on UAL
Long Term Investment Rate
Increase Decrease
Retirement Rates Retire Younger Increase
Turnover Rates More Terminations Decrease
Salary Increases Higher than Normal Increase
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GASB Accounting GASB Accounting InformationInformation
Disclosure for GASB 25 and 27 (soon to be Disclosure for GASB 25 and 27 (soon to be 67 and 68) and/or 43 and 45 for OPEB 67 and 68) and/or 43 and 45 for OPEB ValuationsValuations Distribution of Number of Employees by Type Distribution of Number of Employees by Type
of Membershipof Membership Schedule of Funding ProgressSchedule of Funding Progress Schedule of Employer ContributionsSchedule of Employer Contributions Calculation of Net Pension Obligation (soon to Calculation of Net Pension Obligation (soon to
be Net Pension Liability (NPL) and/or Net be Net Pension Liability (NPL) and/or Net OPEB ObligationOPEB Obligation
Solvency TestSolvency Test
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Schedule of Funding Schedule of Funding ProgressProgress
Six Year History of the following:Six Year History of the following: Actuarial Value of AssetsActuarial Value of Assets Actuarial Accrued LiabilityActuarial Accrued Liability Unfunded Accrued Liability (UAL)Unfunded Accrued Liability (UAL) Funded RatioFunded Ratio Covered PayrollCovered Payroll UAL as a Percent of Covered PayrollUAL as a Percent of Covered Payroll
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Schedule of Schedule of Employer ContributionsEmployer Contributions
Six Year History of the following:Six Year History of the following: Annual Required Contributions (ARC)Annual Required Contributions (ARC) Percent of ARC ContributedPercent of ARC Contributed
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Net Pension Obligations Net Pension Obligations (NPO)(NPO)
Net OPEB Obligations Net OPEB Obligations (NOO)(NOO) If the ARC is not contributed each If the ARC is not contributed each
year by the Employer, the Plan must year by the Employer, the Plan must disclose a liability on the financial disclose a liability on the financial statements to recognize this statements to recognize this obligation.obligation.
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Solvency TestSolvency Test
Displays the Portion of the Accrued Displays the Portion of the Accrued Liabilities that are covered by the Liabilities that are covered by the Assets in Percentage FormAssets in Percentage Form
Liabilities broken down into 3 Liabilities broken down into 3 components:components:1)1) Active Member ContributionsActive Member Contributions
2)2) Retirees, Survivors and Inactive LiabilitiesRetirees, Survivors and Inactive Liabilities
3)3) Active Members (Employer Provided Active Members (Employer Provided Benefits)Benefits)
Selecting AssumptionsSelecting Assumptions
DemographicDemographic EconomicEconomic Specific to OPEBSpecific to OPEB
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DemographicDemographic
WithdrawalWithdrawal Death in active serviceDeath in active service DisabilityDisability RetirementRetirement Death after retirementDeath after retirement Special Terminations (e.g. Special Terminations (e.g.
Shutdowns)Shutdowns) Spouse AssumptionsSpouse Assumptions
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Demographic Demographic AdjustmentsAdjustments
Experience InvestigationsExperience Investigations Compares actual plan experience with Compares actual plan experience with
actuarial assumptions used in the valuationactuarial assumptions used in the valuation Performed every 3-5 yearsPerformed every 3-5 years
Follow experienceFollow experience Watch trends (e.g. Improving Mortality)Watch trends (e.g. Improving Mortality) Factor in special events (e.g. re-Factor in special events (e.g. re-
employment legislation)employment legislation)
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Economic AssumptionsEconomic Assumptions
Inflation should be consistently Inflation should be consistently appliedapplied Asset returnAsset return Salary increasesSalary increases COLAsCOLAs
Real returns should reflect asset mixReal returns should reflect asset mix
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Interest Rate- Inflation Rate
= Real Rate of Return
Interest rate determines how much money we think we'll have.
Inflation rate tells us what we think it will buy.
UnderstandingUnderstandingEconomic AssumptionsEconomic Assumptions
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Other Economic Other Economic AssumptionsAssumptions
Salary increasesSalary increases Current & anticipated practiceCurrent & anticipated practice Collective bargaining agreementsCollective bargaining agreements Single rateSingle rate Age and/or service relatedAge and/or service related
Cost of Living Adjustments (COLAs)Cost of Living Adjustments (COLAs) Inflation relatedInflation related Percent determined by planPercent determined by plan
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Assumptions Specific to Assumptions Specific to OPEBOPEB
Healthcare TrendHealthcare Trend Applied annually to the plan’s assumed Applied annually to the plan’s assumed
per member claims cost.per member claims cost. Considers such things as Considers such things as price inflation, price inflation, leverage (the effect of fixed co-leverage (the effect of fixed co-
payments and deductibles), payments and deductibles), future utilization and cost shifting, future utilization and cost shifting, legislative and technological changes.legislative and technological changes.
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Assumptions Specific to Assumptions Specific to OPEBOPEB
Healthcare Trend (continued)Healthcare Trend (continued) Recent experience indicates very high medical inflation Recent experience indicates very high medical inflation
rates outstripping both salary and general inflation rates outstripping both salary and general inflation rates, but these are generally expected to level off.rates, but these are generally expected to level off.
Affordable Care Act (ACA) Affordable Care Act (ACA) Excise tax on high-value health insurance plans Excise tax on high-value health insurance plans
beginning in 2018 (if applicable), beginning in 2018 (if applicable), Mandated benefits and Mandated benefits and Participation changes due to the individual Participation changes due to the individual
mandate/exchangesmandate/exchanges Overall future plan costs and the resulting liabilities Overall future plan costs and the resulting liabilities
are driven by amounts employers and retirees can are driven by amounts employers and retirees can afford (i.e., trend). afford (i.e., trend).
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Assumptions Specific to Assumptions Specific to OPEBOPEB
ParticipationParticipation Most post-employment health plans require Most post-employment health plans require
retirees to pay part of the premium. What retirees to pay part of the premium. What percent will pay the premium and participate – percent will pay the premium and participate – what percent will waive coverage?what percent will waive coverage?
Depends on the premium the retiree is required Depends on the premium the retiree is required to pay. May depend on age and/or service at to pay. May depend on age and/or service at retirement.retirement.
Affordable Care Act (ACA) Affordable Care Act (ACA) ExchangesExchanges Participation changes due to the individual Participation changes due to the individual
mandatemandate
