A single number can saddle Kansas taxpayers with millions in future payments to the state’s public pension system depending on whether it goes up or down.
Kansas officials are moving closer to changing it.
The Kansas Public Employees Retirement System, or KPERS, is expected to decide in the coming months on whether to downgrade its estimate of how much it expects its investments to earn. The decision will affect the state budget for years to come.
A reduction would ultimately require the Legislature to provide additional state funding for pensions – likely millions a year – to make up the shortfall from anticipated lower investment returns. The increased spending would eat into the money available for the priorities of Gov. Laura Kelly and lawmakers, such as tax reform and improved funding for state agencies.
But on the flip side, if pension leaders maintain the current expected rate of return and investments underperform, the bad gamble could mean higher costs to KPERS for decades.
The KPERS Board of Trustees will set the rate. Its chairman, Kelly Arnold, called it “one of the most important decisions the board makes.”
KPERS manages the retirement plans of more than 311,000 current and former public employees. It paid out $1.7 billion in retirement benefits in fiscal year 2018. While the assumed investment rate of return doesn’t affect benefits to current retirees, it impacts the system’s long-term health.
The current assumed rate is 7.75 percent, making it one of the highest among public pension systems in the United States.
KPERS last cut the rate in 2016, reducing it from 8 percent to its current level. It was the first rate cut in decades.
In response, KPERS’ unfunded liability – the amount of money it needs to fully cover retirement costs – increased by more than $500 million. Another rate cut would probably have a similar effect.
But at the same time, the more pessimistic outlook would leave KPERS less likely to be dramatically affected by changes in the economy.
“As you lower your rate of return, you lower your exposure to risk,” said Pete Constant, CEO of the Retirement Security Initiative and a fellow at the libertarian-leaning Reason Foundation. “So while your short-term costs might be slightly higher, your long-term costs are generally lower because of the lower risk.”
The choice confronting the KPERS board comes after Kelly fought early this year to refinance the pension system to lower the amount the state owes each year. Lawmakers defeated the idea, contending it would ultimately cost Kansas billions more over several decades.
Kansas contributes more than $500 million a year to pensions, but that could rise to $900 million by 2035 – a level Kelly’s administration called unsustainable. But critics of the plan said that over 30 years Kansas would end up paying $7.4 billion more.
It’s unclear whether Kelly will again attempt to pursue refinancing. Lauren Fitzgerald, a spokeswoman for the governor, said Monday “we’re keeping our options open as we start the budget review process for next session.”
Over the past decade, Kansas has been working to improve its pension system. Beginning in 2012, lawmakers put the state on a payment plan that has KPERS on track to pay off its liability by the mid-2030s.
KPERS funded ratio rose from 59 percent in 2012 to 68 percent in 2018. In short, the system has enough assets to cover 68 percent of all of its future obligations to retirees.
Rep. Steven Johnson, an Assaria Republican often focused on pension issues, said he would discourage KPERS from setting the assumed investment rate of return lower than 7.25 percent. But he isn’t overly concerned with a smaller reduction.
“The good news is it’s not as big a deal as it has been,” Johnson said. “We’re at the point where we’re getting roughly the right amount of money into KPERS.”
Only 15 percent of public pension systems surveyed by the National Association of State Retirement Administrators, or NASRA, have investment return assumptions above 7.5 percent.
For comparison, Missouri’s state employees plan assumes a return of 7.1 percent; Colorado’s state plan assumes 7.25 percent; Oklahoma assumes 7 percent and Nebraska’s schools plan assumes 7.5 percent.
Keith Brainard, NASRA’s research director, said Kansas is on “the high end” but he cautioned he isn’t judging the system. Each plan is unique, with different its own demographics and its own “risk profile.”
“Some funds invest more aggressively and feel that over time that they can make a higher return that other funds” while others are more conservative, Brainard said.
KPERS’ investments have performed well over the long term. Over the past 25 years, its investments have produced an 8.1 percent return. In the past 10 years, the return has been 9.8 percent.
KPERS has exceeded its assumed rate of return 11 of the past 20 years.
In a briefing last week, Georgia-based Cavanaugh Macdonald Consulting provided the KPERS board with statistics showing how dozens of pension plans had reduced their investment return assumptions in the past few years. Patrice Beckham, a consultant with the company, advocated against an overly aggressive or conservative strategy.
“We’re trying to kind of shoot for middle ground when we’re looking at a range,” Beckham said.
KPERS director Alan Conroy said if there is a rate change, the decision will not affect how much Kansas needs to put into pensions in the coming fiscal year. The effects would come in the years after that.
The KPERS board is expected to develop a recommendation during its monthly meetings this fall.
“It’s still very early in our process here,” Conroy said.