Pension plans roll with the financial punches

There is some bad news and some not-so-bad news for local and state government pension plans. The bad news is that pension funds have suffered some deep losses in the recent market turmoil. The less-bad news is that plan subscribers will have more time to prepare for an increase in required contributions to the plans because of the way the losses are accounted.

The aggregate market value of state and local government pension funds declined from $3.2 trillion in 2007 to about $2.3 trillion in October 2008, a 28 percent loss, according to an issue brief published in December by the Baton Rouge, La.-based National Association of State Retirement Administrators (NASRA). However, in the near term, only a portion of those losses will be reported because of accounting procedures, commonly called the “smoothing process,” used by most pension funds to report gains and losses over long-term investments, says NASRA Research Director Keith Brainard. “[Smoothing phases] in investment gains and losses over several years, typically five years,” he says.

While the “smoothing process” may delay the consequences of pension funds’ recent investment losses, fund participants should begin preparing for those consequences, Brainard says. Most likely, state and local governments and their employees will have to increase their contributions to the plans in the next two to three years. The amount of the increase depends on a specific pension fund’s condition before the decline and other factors.

Brainard hopes that local and state economies will recover enough over the next two years to bear the extra costs. “It’s possible that, during this time frame, markets will begin to reverse [and mitigate the losses],” he says.