Changes in governmental accounting standards rarely garner much attention – let alone awareness – beyond those who have direct contact with governmental financial statements. But because public pensions are a hot topic in today’s municipal headlines, recent Exposure Drafts released by the Governmental Accounting Standards Board (GASB) relating to the accounting and financial reporting of public pensions have caught the interest of those who work in or with the public sector, as well as the municipal bond community.
The Governmental Accounting Standards Board (GASB), created in 1984, is an independent, non-profit organization that establishes and improves accounting standards for U.S. state and local governments through open and thorough due process.
The proposed changes are designed to increase the transparency of public pension liabilities, and to bring greater consistency to the way in which they are reported, according to Dean Michael Mead, GASB Research Manager.
In the interview that follows, Mead explains the process by which standards are adopted, and highlights the importance of the current proposed changes.
MuniNet: Public pension funds have received increased scrutiny over the recent past; did all the buzz about the funding of public pensions lead the Board to consider these changes?
Mead: The release of the Exposure Drafts is coincidental, bordering on serendipitous. GASB first established a set of standards for reporting of public pensions back in 1994. As a matter of routine, after standards have been in effect for a while, the Board reexamines them to ensure that they are accomplishing the goals that they were intended to achieve. GASB actually began its evaluation of public pension reporting standards in 2006 – two years prior to the financial meltdown.
GASB determined that there was room for improvement in the current pension standards for several reasons, including the adoption of accrual-based accounting standards for state and local governments since the original standards were issued, and the acknowledgement of an increasing need among the users of government financial reports for consistency in the reporting of pension data.
After two years of research, the Board started deliberating changes to these standards, extending an invitation for comments in 2009. In 2010, GASB issued its preliminary views, containing the Board’s initial ideas for change. Based on comment letters for both documents, the GASB revised its preliminary views, resulting in the recently released Exposure Drafts.
MuniNet: What do these Exposure Drafts contain?
Mead: An Exposure Drafts looks very much like the final Statement of Governmental Accounting Standards it will become. The difference is that Exposure Drafts present proposed changes, which are used for public comment. GASB recently released two Exposure Drafts: the first covers reporting standards for state and local governments that provide pension benefits, and the second relates to financial reporting by public pension systems.
MuniNet: What specific changes are being proposed to the ways in which state and local governments report pension benefits?
Mead: One of the most significant changes is that the unfunded portion of their pension obligations would be treated like other liabilities on the financial statements. Using verbiage from the plain language document, “a government (the employer) that provides pension benefits to its employees is responsible for the net obligation and would report it as a liability in its financial statements. This liability would be called the net pension liability.” Governments in cost-sharing pension plans will recognize a liability equal to their proportionate share of the liability for the plan as a whole.
“The release of the Exposure Drafts is coincidental, bordering on serendipitous”
Second, governments would continue to discount projected pension payments to their actuarial present value using the long-term expected rate of return on plan assets, but only as long as plan assets are projected to be sufficient to cover those payments; otherwise, they will discount using a 30-year AA-or-higher tax-exempt municipal bond index rate.
Third, there would be more consistency and comparability across governments by requiring a single cost-allocation method, entry age normal on a level percentage of payroll, rather than the current choice among six methods and between level percentage and level dollar amount.
Fourth, components of pension expense that currently are amortized over 30 years, such as retroactive benefit increases, would be recognized as expense immediately or over a significantly shorter period.
Lastly, we are proposing to significant enhance note disclosures and supporting schedules related to pensions.
MuniNet: Once the new standards take effect, are total liability numbers expected to rise sharply?
Mead: That answer depends on the funded status of the plan. There may not be much change at all in the liability of a plan that is well funded and on course to continue to be well funded in the future. On the other hand, all other things being equal, a less well funded plan may have to discount some projected benefit payments using the municipal bond index rate, rather than their long-term expected rate of return, and under present rates that would result in a larger present value of projected benefit payments and, therefore, a larger liability.
MuniNet: Would that affect perceptions of fiscal health, or simply paint a more accurate picture?
Mead: Analysts are already aware of the existence of these obligations. Therefore, if the liabilities increase, it is a matter of more accurate measurement of the liabilities and the actual economic standing of governments, not a revelation that governments are worse off than previously thought.
“One of the most significant changes is that the unfunded portion of their pension obligations would be treated like other liabilities on the financial statements.”
MuniNet: The current Exposure Drafts have been released for public comment. What type of feedback has GASB received in response to the Exposure Drafts? Are you receiving more feedback on one Exposure Draft versus the other?
Mead: It is too early in the process to have received meaningful feedback. We are receiving a lot of questions regarding the provisions of the Exposure Drafts, which is a very valuable part of due process because it helps us to identify provisions that may be difficult to understand. We have just launched a field test with two dozen volunteer governments and pension plans, in which they will go through the exercise of “implementing” the proposals. The intention of the field test is to tease out technical issues related to the proposals and to gather information about the cost and effort required to implement the proposals.
I expect that the Exposure Draft relating to reporting by state and local governments to receive the most response, because the Exposure Draft on reporting by pension plans enhances disclosure but maintains the same basic financial reporting framework.
MuniNet: Do you believe that the current proposed changes to accounting for public pensions will have as significant an effect on governmental accounting as Statement 34?
Mead: GASB Statement 34 has probably been the most wide-ranging and revolutionary ruling because it introduced accrual-based accounting for state and local governments as a whole. The current proposed rulings are not of the same scope as Statement 34, but they do address what is among the largest government obligations. Currently, this obligation doesn’t show up on the face of the financial statements.
MuniNet: What needs to happen before these Exposure Drafts become adopted as Statements of Governmental Accounting?
Mead: The deadline for submitting comments to the Exposure Drafts is September 30. The month following this deadline, GASB will hold public hearings and forums for financial statement users in New York, Chicago, and San Francisco to solicit additional input.
About the Expert:
Dean Mead is Research Manager at the Governmental Accounting Standards Board. Dean is lead methodologist for the GASB, responsible for overseeing project managers in the planning, design, and administration of the GASB’s research agenda, managing external research, and interfacing with the academic community. Dean also coordinates the GASB’s constituent outreach and communication efforts and is staff liaison to the Governmental Accounting Standards Advisory Council.
Dean is a lecturer in the governmental accounting masters program at Rutgers Business School, Rutgers University. Prior to joining the GASB, Dean was the Deputy Research Director at the Citizens Budget Commission (CBC) in New York City. At that time he was a member of the adjunct faculty in the public finance program at the Robert F. Wagner Graduate School of Public Service, New York University, where he pursued his doctoral studies in public finance, public policy, and management. He holds an undergraduate degree in public policy from Cornell University.