Unrealistic Investment Return Assumptions Mask True Cost Of Retiring Unfunded Pension Liabilities

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Press Release: Unrealistic Investment Return Assumptions Mask True Cost Of Retiring Unfunded Pension Liabilities

More rigorous actuarial assumptions, accelerated funding of unfunded liabilities needed

Fiscal Implications of Massachusetts’ Retirement Boards’ Investment Returns

Pension boards across Massachusetts must use more rigorous actuarial assumptions about pension fund investment returns and accelerate the rate at which they pay down unfunded liabilities to meet the 2040 statutory deadline for fully funding public pensions in the Commonwealth according to a new study published by Pioneer Institute.

The Commonwealth’s 105 pension boards assume annual returns of between 7.5 and 8.5 percent. Under those assumptions, the state’s payments to retire the unfunded liability will gradually increase from just over $1 billion last year to about $3.2 billion in 2040. When all of the pension boards are included, payments are projected to reach about $3.5 billion by 2040.

“In addition to Massachusetts retirement boards being grossly underfunded, their projections are based on unrealistic investment returns,” said Pioneer Institute Executive Director Jim Stergios. “On average, they assume an annual return of more than 8 percent, while private-sector companies that still have defined-benefit plans generally assume annual returns of about 4-5 percent.”

The Massachusetts Public Employee Retirement Administration Commission has previously suggested that retirement boards reduce their assumed annual returns to between 7 and 7.75 percent.

In The Fiscal Implications of Massachusetts Retirement Boards’ Investment Returns, author Iliya Atanasov presents three scenarios for retiring the unfunded pension liability. Under the most optimistic one, which assumes annual returns of 7.5 percent, annual state pension payments would rise to an estimated $3.6 billion by 2040, about $400 million more than the current projected payment of around $3.2 billion. When all of the 105 Massachusetts boards are included, the payments would rise from $3.5 billion to more than $3.9 billion.

Under a baseline scenario that assumes 5 percent annual returns, the 2040 payment to retire unfunded state pension liabilities would increase by more than $2 billion, reaching about $5.25 billion. Across Massachusetts, payments would rise from about $3.5 billion to about $5.75 billion.

Atanasov’s worst-case scenario assumes annual returns of just 2 percent. In that case, the state government’s 2040 payment would more than double – from $3.2 billion to about $7.9 billion.

Statewide, payments would have to increase from $3.5 billion to nearly $8.7 billion.

Although the Commonwealth’s burden far outstrips that of the local boards (teachers’ retirement is funded by the state even though they are local school district employees), local boards may be most affected by the increased payments since they are under more severe budgetary constraints. The local boards account for just a small portion of overall 2040 payments, but their total contributions are higher in earlier years because many are still on a schedule to retire their unfunded liability before 2040.

Under their own return assumptions, the 105 pension boards’ reported liabilities were $92 billion at the end of 2010, almost $31 billion of which remained unfunded. The vast majority of the funds’ investments are in US, global and emerging markets stocks, which are likely to remain volatile over the short-to-medium term. The next largest portion is government bonds, which offer low yields and little upside.

The new study is authored by Iliya Atanasov, Pioneer’s Senior Fellow on Finance, who is leading the Institute’s research initiatives on public pensions, infrastructure, and municipal performance. Atanasov is a PhD Candidate in Political Science and Government and MA Candidate in Statistics as well as a former Presidential Fellow at Rice University in Houston, Texas.


Pioneer Institute is an independent, non-partisan, privately funded research organization that seeks to improve the quality of life in Massachusetts through civic discourse and intellectually rigorous, data driven public policy solutions based on free market principles, individual liberty and responsibility, and the ideal of effective, limited and accountable government.

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