States face $1.26 trillion in retiree benefit shortfalls

Pew report suggests the funding gap is climbing year-to-year.

State funds that pay pension and health care benefits to public workers faced a $1.26 trillion shortfall at the end of the 2009 fiscal year, according to a Tuesday report from the Pew Center on the States. The funding gap increased 26 percent over the previous year, a surge caused by a combination of inadequate state contributions, an aging population and recession-driven market losses.

States faced a $660 billion pension funding gap and a $604 billion health-care liability gap in FY2009, according to the report, which drew from state financial reports. The gap reflects the failure of a number of state policy choices, including a failure to make annual payments for pensions systems at the levels recommended by their own actuaries and the expansion of benefits and cost-of-living payments at an unsustainable level.

Perhaps most troubling is the fact that states' larger fiscal prospects are dim for the near future; declining property values have shrunken revenues, and the recession has driven up the need for benefits among the poor and unemployed.

"States' ability to meet their annual payments may not improve anytime soon; most government finance experts expect state tax revenues to continue recovering slowly in the years ahead," the Pew report notes, later warning that "a state's failure to pay the annual bill for retirement benefits can mean it will have to pay more in the future."

The report found that states had only saved about $31 billion, or 5 percent, for retiree health care benefits. State pensions plans were 78 percent funded, down from 84 percent the year before. A piddling five states made full contributions for retiree health benefits in 2009, and just 22 paid their annual pension bill.

To calculate the funding gap, Pew used states' assumptions for what their pension funds would earn in annual investment returns - typically 8 percent. That's a return states have met in recent decades, but if states were to calculate investment returns the same way private firms are required to for their pensions, the gap would grow to $1.8 trillion, according to the report. If they were to peg returns to 30-year Treasury bonds, it would go up to $2.4 trillion.