To say this has been a busy week is an understatement! The legislative “lame duck” session is lining up to be everything you would expect, and then some! We have been involved in discussions on the many bills that are being discussed, but two that stand out concern the Michigan Public School Employee Retirement System (MPSERS) and a potential change in income tax revenues that fund the School Aid Fund. Below is the latest on these two issues.
Senate Bill 102 (S-4) MPSERS Reform – Pension Plus Hybrid System
As you may have heard, the Senate Committee on Appropriations recently reported out SB 102 (S-4), a bill that would close the MPSERS Pension Plus hybrid system that was implemented in the latest round of reforms for those that first worked for a Michigan public school between July 1, 2010, and September 3, 2012 or those who first worked for a Michigan public school on or after September 4, 2012 and did not choose the Defined Contribution plan.
The bill has been sent to the Senate Committee of the Whole for additional consideration but has not been acted upon. Details of the bill are summarized by the Senate Fiscal Agency (SFA) analysis that can be found on our website. Although the language of the bill is straight forward, the details of the financial impact of the proposal are quite complex. Please review the SFA analysis, as well as information from the Office of Retirement Services (ORS) and the House Fiscal Agency (HFA), which are posted on MSBO’s Finance page dedicated to MPSERS.
Here are some highlights of SB 102 (S-4) per the SFA analysis:
- Place all new school employees hired on or after July 1, 2017, into a 401k or 401k-style plan (i.e., a "defined contribution" plan) and eliminate the existing "hybrid" plan as an option for new employees. (Employees currently in the hybrid plan would remain in it.)
- Specify the new defined contribution plan to be one in which the employer would deposit 4% of the employee's salary into a 401k or 401k-style plan, and matches the employee's contributions up to another 3% of salary (for a maximum possible employer contribution of 7% of salary, when an employee contributed at least 3%). (This is the same structure as the DC plan in place for State employees hired since March 31, 1997.)
- Require that the existing unfunded accrued liability associated with the pension plan (and any "regular" changes to that liability due to variations in actual experience compared to actuarial assumptions) be amortized over the next 21 years, ending with fiscal year 2037- 38.
- Require that any additional unfunded accrued liability associated with any changes in the assumed rates of return on the pension portfolio's assets that occurred after the closure of the existing defined benefit component of the hybrid plan be amortized over 40 years, beginning October 1, 2017, and ending September 30, 2057.
- Require that the unfunded actuarial accrued liability rate continue to be a level percentage of payroll (and continue to be levied across all payroll, old and new).
So what does this proposal “cost” the School Aid Fund, districts and the state as a whole? Is there a benefit to be found in this plan or is it simply moving the investment risk of retirement savings from the state wide system to the individual? The debate is certainly spirited, but the proof may come in the numbers supplied by the SFA and ORS. The SFA and ORS both testified in front of the Senate Appropriations Committee on Wednesday, November 30.
It’s important to know that the old adage, “it depends” comes into play in the discussion of the financial impact. Depending on how the implementation of the best practice of accelerating funding for a closed system, which is not required by the Governmental Accounting Standards Board, is handled the total cost could be $28-33 billion over the life of the plan. This cost is broken down into two and possibly three areas depending on the decision to implement the best practice. Costs of accelerating the funding of the closed system, a normal retirement cost increase borne by districts, and reducing the assumed rate of return of investments due to a more conservative investment strategy, all have financial impacts.
Because the current assumed rate of return on investments for the Hybrid plan is 7%, any reduction of the rate would essentially be a “cost” to the system. The recommendation of the ORS actuaries and the Department of Treasury Bureau of Investments is to become more conservative in the investment strategy of the closed plan and therefore reduce the overall assumed rate of return for the plan. The cost of reducing the rate of return for the MPSERS system alone would total over $23 billion in addition to a normal cost increase which would be reflected in an increased normal retirement cost of $9 Billion. Accelerating the payments of the closed system would have a positive effect over the life of the plan by reducing the cost by nearly $5 billion.
Needless to say, there would be a hefty price tag if the bill was implemented. An immediate cost increase to districts through a higher normal cost for new employees and the potential need for additional funding to cover the costs of an increased unfunded liability. Stress on your local budget, and stress on the school aid fund.
It is interesting to note that part of the plan includes amortizing any unfunded liability created by reducing the assumed rate of return after closing the pension plus plan over 40 years. Significantly longer than the 21 years be used to amortize the current unfunded liability. Seemingly, this kicks the can down the road a bit which is contrary to the recent years push to reduce the amortization period for accrued liabilities. This extended timeframe may be an issue of affordability which could lessen the up front funding needed to implement the plan but nonetheless comes with a cost which will need to be considered as this moves forward.
Bottom Line (Local Level)
Any new hire after July 1, 2017 would be offered a 401(k) style retirement account, similar to the state employees plan. Contributions to the account would come from the employing district at 4% of salary, with an additional matching contribution of up to 3% based on the employee’s personal contribution to the plan. This would make the maximum employer portion for normal cost 7% for an employee in the new plan in contrast to the maximum of 4.16% in the current Pension Plus system. A cost increase at the local level.
Bottom Line (Long Term)
The plan would “cost” between $23-33 billion and significantly extend the amortization of liability costs for many years to come.
Thanks to the SFA, ORS and HFA for the detailed information concerning this proposal. Your work is essential to understanding the magnitude of the proposed legislation.
School Aid Fund - Income Tax Revenue
We have heard some grumbling of a proposed tax shift, moving School Aid Fund (SAF) revenue from individual income tax to the General Fund/General Purpose (GF/GP) budget. Currently the SAF receives approximately 23.8% of the gross income tax collections. For FY2016-17 it is estimated that nearly $2.8 billion individual income taxes will help support the school aid fund equal to 22% of the total SAF budget.
The focus of the current discussion is that all refunds of income tax are paid out of the GF/GP entirely with SAF revenues remaining at gross collections. Using estimates for FY2016-17, refunds are expected to be just over $1.8 billion. A change to move the calculation of SAF and GF/GP revenues to the net tax collection would result in a loss of SAF revenue of nearly $430 million annually. Equating that to a per pupil amount, that’s a loss of $288 per student without a plan to replace those funds though another revenue source.
We will follow this closely as any loss of revenues to the SAF without replacement funding results in less ability to meet the needs of our 1.4 million students. We recently received an update on the programs that were formally funded by GF/GP but were shifted to the SAF. This is good information that shows the results on reduced funding available for the classroom due to past and current policy changes, such as the one being debated.
MPSERS 3% Health Care Contribution
The latest update on the 3% Health Care Contribution doesn’t vary too much from the update we gave in our August 19, 2016 communication. Some new developments are that the Internal Revenue Service (IRS) has contacted districts that filed protective claims for prior tax periods and have now accepted the claims and proceeded to request perfected claims for the quarters in question.
Originally, we were told that districts were urged to perfect claims for refunds of taxes paid under PA 300 of 2012 for 2013, 2014 and 2015 but that 2016 in question. Today, we heard from a district that perfected claims for the first two quarters for 2016 and received refunds for taxes paid just as they did for the prior periods. It’s recommended that if your district collected FICA taxes for the periods 2013 to present and has filed protective claims but has yet to perfect claims for refunds as recommended by the IRS to contact your IRS agent for more information. It appears that 2016 may also be handled in the same manner as the prior years, however written guidance has not been received to confirm that.
Also a new development is the rejection of the Office of Retirement Services (ORS) Private Letter Ruling (PLR) request. Although ORS received a communication that their PLR was rejected by the IRS, ORS is now working directly with a local district to file a new PLR, through the district. This may be used as a statewide solution. Although the effort has only recently begun, it is anticipated that the original PLR with some additions will be used and the request will be submitted soon.
The PA 75 of 2010 3% Health Care Contributions are still being debated in the court system and for now are still being held in trust with no IRS opinion on the taxability.
We will keep you up to date as we hear new information.
December School Finance and ISD Committee meetings
The December meetings of the School Finance Committee and the ISD Committee will be COMBINED for an extended update on the lame duck session of the legislature. The combined meeting will be held at 9:30am at the MSBO on December 16, 2016. There will not be a separate meeting of the ISD Committee on December 15 as that has been cancelled! Please mark your calendar!
Upcoming Important Dates
- January 12, 2017 – Consensus Revenue Estimating Conference
- January 17-18, 2017 – MSBO Financial Strategies Conference Register TODAY!
That’s it for now, we expect that the next few weeks will continue to produce news worthy topics. Stay tuned to our communications on the listservs as well as through our eblasts!