1996 Reform Serves as Blueprint for Improvements
Just over a quarter century ago state-wide policy for the cost-of-living adjustment (COLA) had run into a dead end of sorts, with the cost of implementing the annual benefit outpacing the state’s ability to fund the increases. As we chronicled in the July 2023 edition of The Voice, from 1981 through 1997 the Commonwealth both approved and paid for the COLA for all retired public employees.
The policy that saved municipal retirees from the austerity resulting from the passage of Proposition 2 ½ in 1980 had grown to become exceedingly expensive over the ensuing 16 years. When the legislature assumed the responsibility for the municipal COLA, the Commonwealth and all local retirement systems were still operating on a pay-as-you-go basis which did not require proper funding of future benefit costs.
While the 1988 pension reform and establishment of funding schedules was sound public policy and ensured the future stability of our public pension systems, it did not come without a cost – a financial cost, as well as a cost to future retirees. It should also be pointed out that Massachusetts was the 49th state to implement pension funding, second only to Mississippi!
The financial and legal structure of a properly funded public retirement system requires that both current and future costs (liabilities) to the system are paid for. This not only applies to a retiree’s base pension, but also any COLA benefits that a retiree is granted or is scheduled to receive.
One of the major benefits of Massachusetts COLA policy is that the COLA is cumulative, meaning it becomes a permanent part of the retiree’s pension and cannot be taken away. This means that the 3% COLA paid in 2023 continues to be paid going forward, in addition to the COLA paid in future years. Due to the pension system funding requirements, the ongoing cost of the COLA must be funded in perpetuity.
Back in 1996, the combination of pension funding schedule requirements and the Commonwealth’s growing annual appropriation resulted in the creation of a Special Commission on COLA Reform – on which our Association served. The goal of the Commission was twofold: increase the COLA base, as well as craft a sustainable plan to return responsibility for the future COLAs paid to municipal retirees to the 102 local retirement systems.
Less than a year later, the landmark COLA reform law (Chapter 17, Acts of 1997) was signed into law by then Governor Bill Weld. While proven to be a great success, particularly at the local level where the COLA base has continued to grow, the structure of how to fund improvements to COLA base is now a significant hurdle for the State and Teachers’ Retirement Systems.
2036 FUNDING DEADLINE
As it now stands, both the State and Teachers’ Retirement Systems are scheduled to become fully funded in 2036 – less than 13 years from now. To stay on course in achieving this goal, the state continues to aggressively fund its share of the cost of the systems. For FY24, the Commonwealth’s appropriation is more than $4.1 billion and is on track to increase at nearly 9% a year.
The original State and Teachers’ funding schedules established in 1988 were 30-year schedules, meaning that the liability was planned to be paid off by 2028. In conjunction with the passage of Chapter 17, the original schedule was shortened by 10-years to 2018. This was due, at least in part, to the success of the pension fund investment policies in the 1990s.
Following the losses to both the Commonwealth’s PRIT Fund and across all local retirement systems during the financial crisis in 2008, the law was amended to extend the legal requirement for full funding to 2040. However, a more aggressive path was set to fully fund the State and Teachers’ Systems by 2036.
In addition to the change in funding dates, the Commonwealth has also made a series of changes to the underlying investment and actuarial assumptions that determine how the funding schedule operates. These
assumption changes have been conservative in nature. Examples include revised mortality tables that represent an overall increase in life expectancy, as well as a significant change in the assumed rate of investment return.
Prior to the financial crisis the longstanding assumed rate of return used by the Commonwealth’s PRIT Fund was 8.25%. Following the advice of economists and funding experts concerned with an overall slowdown in future economic growth, the assumed rate of return has gradually become more conservative and currently sits at an assumed rate of 7% for the State and Teachers’ Retirement Systems.
Each 0.10% change in the assumption results in massive changes in the system’s funded ratio, unfunded liability, and annual budget appropriation. This decade-long move of assumption changes from 8.25% to 7% result in more than $11 billion in new unfunded liability and has increased annual budget cost to the Commonwealth.
Combined with a funding deadline that is now just slightly more than a decade away, these changes have compressed the time available to spread out new costs and gradually pay off pension debts over a longer period.
As we have reported in the past, each $1,000 increase in the State and Teacher COLA base represents some $500 million in new unfunded liability and roughly $50 million added the state’s annual budget appropriation. In other words, a $16,000 COLA base would create $1.5 billion in new unfunded liability and potentially add $150 million a year to the budget appropriation.
COLA REFORM 2.0: SPECIAL COMMISSION
“We appear to be in a very similar place as 1996, when the cost of implementing new COLA benefits had become a difficult hurdle to overcome. The answer back then was to create a special commission, designed to bring together all the key players with the goal of finding a solution to the problem. Twenty-seven years later, we believe it is time to do so again,” said Association President Frank Valeri. “Thankfully, the Healey Administration and Legislative Leadership want to find a way to improve the COLA for the members of the State and Teachers’ Retirement Systems, as do the retirement boards governing both systems.”
Association officials have approached the governor and legislative leaders with a proposal to create a new COLA Commission, on which Mass Retirees would serve. The proposed Commission would also be comprised of Administration officials, legislative leaders, and key retirement policy leaders.
“While we don’t believe the whole COLA policy needs to be changed, it is important that decision makers come together around a general plan to both improve and fund future COLA benefits. This should include improvements to the State and Teacher COLA base, as well as taking steps to create a new enhanced or senior COLA benefit for all long-term public retirees,” said Mass Retirees CEO Shawn Duhamel, who served as the Association’s legislative liaison during COLA reform in 1996-97. “The COLA Reform Commission was successful because it brought the key decision makers together with retirement policy experts to craft a workable plan to fix the benefit going forward. A quarter of a century later we find ourselves in a similar place.
“As we have said in the past, the challenge is not convincing state leaders of the need for improved COLA benefits. The challenge strictly falls on the funding side, which should not be an insurmountable challenge. What is important is getting this work done, developing a workable plan, and moving things forward without too much delay. Retirees need help and need it now!”
Members should look to the January 2024 edition of The Voice, as well as to our weekly news reports for updates