GASB 43 and 45:

1
GASB 43 and 45

• Using the Actuarial Report
• October 13, 2005
• Geoffrey L. Kischuk, FSA, FCA, MAAA
• Total Compensation Systems, Inc.

2
Presentation Outline

• Implementation Schedule
• Broad Implications
• Actuarial Methodology
• Funding Example
• Consequences

3
Implementation Schedule

• GASB 45
• July 1, 2007 for GASB 34 Phase I
• July 1, 2008 for GASB 34 Phase II
• July 1, 2009 for GASB 34 Phase III
• GASB 43 (if applicable) Plan year prior to above
• Early implementation encouraged

4
Broad Implications

• GASB 43 establishes uniform financial reporting
  standards for plans
• GASB 45 establishes uniform financial reporting
  standards for employers
• Both standards
• Provide instructions for calculating expenses and
  liabilities
• Require supplementary info schedules (e.g.
  funding progress)

5
Broad Implications - Applicability

• OPEB - Other than pensions (e.g. medical, dental,
  vision, life, etc.)
• All retirees including early retirees
• May include retiree-pay-all
• Sick leave conversion - GASB 16 or 43/45
  depending on facts and circumstances
• Requirements different for cost sharing multiple
  employer plan
• Very simple for defined contribution plans

6
Broad Implications - Schedule

• Frequency of valuations
• Every 2 years for 200 participants
• Every 3 years for lt200 participants
• Valuation required if significant changes in
• Benefit provisions
• Size or composition
• Major actuarial assumptions

7
Basic Calculation - ARC

• Expenses liabilities based on Annual Required
  Contribution (ARC)
• ARC Normal Cost amortization of unfunded
  actuarial accrued liability (UAAL)
• UAAL Actuarial accrued liability (AAL) -
  Actuarial value of plan assets

8
Basic Calculation - Expenses and Liabilities

• Annual OPEB Cost (AOC) ARC interest on Net
  OPEB Obligation (NOO) - NOO amortization adj.
• NOOcumulative difference between AOC and
  contribs to plan

9
Establishing a GASB Plan

• Trust or similar arrangement
• Irrevocable Transfer of Assets to Plan
• Assets Free From Creditors
• Assets Held Exclusively to provide OPEB

10
Actuarial Model

• Substantive Plan (SFAS 106)
• Actuarial Cost Method (ASOP 6)
• Economic Assumptions (ASOP 27)
• Non-economic Assumptions (ASOP 35)
• Employer Elections (GASB 43/45)

11
Actuarial Model - Substantive Plan

• Plan as understood by employees and employers
• Includes written documents
• Collective bargaining agreements
• Board Policies
• Summary Plan Descriptions
• Includes historical practices
• Future change only included if already approved
  and communicated to employees

12
Actuarial Model - Substantive Plan

• Example practice of periodically increasing caps
  results in increases assumed as part of
  substantive plan
• RecommendationEstablish a separate,
  comprehensive written plan and stick to it.

13
Actuarial Model - Actuarial Cost Method

• Formulas to allocate the value of retiree
  benefits to years of employment
• GASB 43/45 allows choice between 6
• 3 (frozen entry age, frozen attained age and
  aggregate) higher expense, less flexibility
• Aggregate requires double work - i.e. RSI must be
  done using entry age

14
Actuarial Model - Actuarial Cost Method

• Entry age normal
• can result in stable expenses
• easy to explain
• default approach for RSI under aggregate

15
Actuarial Model - Actuarial Cost Method

• Entry age normal allocates over attribution
  period
• Level or level of payroll
• Attribution period avg. retirement age minus
  avg. hire age
• Avg retirement and hire ages based on employer
  data whenever possible

16
Actuarial Model - Economic Assumptions

• Inflation, investment return/discount rate,
  health trend, payroll increase
• Must be based on long-term expectations
• Must be reasonable in relation to inflation rate
  (should be disclosed)
• May include select and ultimate rates
• Can dramatically affect results (double or more)

17
Actuarial Model - Inflation Assumption

• For some plans, inflation not crucial as long as
  other assumptions are reasonable in relation
• For other plans, may have impact
• Fears of deflation generally provide some
  significant amount of inflation
• We recommend 2.5 to 3.5
• Insist on disclosure!

18
Actuarial Model - Interest Assumption

• Cash Flow method vs. Building Block
• If no plan assets, must reflect surplus funds
  rules (CGC Sections 53601 et seq)
• Should be reasonable in relation to inflation
  rate
• Keep in mind asset smoothing

19
Actuarial Model - Trend Assumption

• Health care trend is cyclical
• GASB 43/45 allows no smoothing
• Often expressed as select and ultimate
• initial rate
• intermediate rates increasing or decreasing from
  initial rate
• ultimate rate

20
Actuarial Model - Initial Trend Assumption

• Initial rate applies to renewal 3 to 19 months in
  future
• Should reflect underlying claims, not premiums
• Should reflect state of trend cycle

21
Actuarial Model - Intermediate Trend Assumption

• Should reflect reasonable trend cycle
• 5 to 8 years in duration
• Trough should be near inflation rate
• Step down/up no more than 3 years
• Annual change 2 to 4 depending on expected peak
  to trough

22
Actuarial Model - Ultimate Trend Assumption

• Limited by economic/political
• Health Care 15.3 GDP in 2003
• About 45 million uninsured
• Many millions underinsured
• Real unemployment 7 or so
• Trend gt GDP per capita growth results in
  uninsured/under insured
• Trend gt inflation causes unemployment

23
Actuarial Model - Ultimate Trend Assumption

• Avg trend for retiree benefits 20-40 yrs (average
  age to average term age)
• Trend _at_ growth 2, from 15.3 to 22.5 of GDP in
  20 years
• Trend _at_ growth 1, from 15.3 to 18.6 of GDP in
  20 years
• Will soon reach tipping point -- both employers
  and voters

24
Actuarial Model - Ultimate Trend Assumption

• No one has crystal ball
• Valuations done every 2 or 3 years
• Likely to continue to be plan adjustments, though
  not allowable under substantive plan rules
• We favor low end of reasonable range 3.5 to 4.0

25
Actuarial Model - Payroll Increase Assumption

• Not salary scale. Should not reflect step and
  column
• Cannot include anticipated staff increases
• Must include staff decreases if a closed plan
• Could be affected by political issues (e.g. Prop
  76)
• We recommend inflation rate

26
Actuarial Model - Noneconomic Assumptions

• Include retirement, mortality, employment term,
  disability, election rates, dep content, dep ages
• To the extent actual info available, eliminates
  systematic errors
• Mortality not employer-specific
• Disability varies by employer but rarely enough
  info to set

27
Actuarial Model - Noneconomic Assumptions

• Retirement rates Should match avg retirement age
  and retired at 65
• Termination rates Should reasonably reflect
  terms by employee class
• Participation Should track participation to
  assure reasonable rate
• CalPERS/CalSTRS not necessarily best
• Systemwide vs. Employer-specific
• Experience can vary significantly between
  employers

28
Employer Elections

• Actuarial Cost Method
• Asset valuation method
• Market based
• Smoothing formula (recommend 4 or 6 yrs)
• Normal Cost (NC) allocation (flat vs. of p/r)
• Unfunded Actuarial Accrued Liability (UAAL)
  Amortization

29
Employer Elections- UAAL Amortization Options

• Flat payments or of payroll
• Separate or combined
• Open or closed
• Amortization period

30
Funding Options

• GASB does not require funding, but does require
  accruing expenses and liabilities
• An agency may choose to fund (i.e. set aside
  assets) or not to fund
• An agency that funds may do so revocably or
  irrevocably

31
Funding Example
32
Funding Example (continued)
For unfunded program, there are no investment
earnings for non-trust funding, assume 2.5
interest earned through County Treasurer for
trust funding, if investment income from
diversified investments falls short of 7 assumed
rate, the difference is an actuarial loss which
can be amortized over as many as 30 years.
33
Funding Example Liability
34
Funding Example - Long-Term
35
Non-Compliance Consequences

• Audit
• Credit Rating Impact (Moody, SPs and Fitch)
• State oversight
• Accreditation (CCDs)
• Publicity

36
Compliance Implications

• Higher Expense for most agencies
• Expense level depends on funding decisions
• Investment education if funded
• Fiduciary issues if Plan established
• Data collection needs