What Detroit's finances mean for us

7:03 AM, Aug 7, 2013   |    comments
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GOLDEN VALLEY, Minn. - Cities and states across the U-S are watching Detroit closely after the largest-ever municipal bankruptcy filing.

That's because it's bringing to light a problem that "may" lie ahead for many other governments.

Financial analyst, Dan Ament with Morgan Stanley, visited KARE 11 Sunrise to help us focus on our finances.

Detroit renews focus on pension plan viability: The largest to date municipal bankruptcy filing by the city of Detroit has elevated concerns on the state of public pensions across the country. With a stated $18.5 billion in total debts, its $3.5 billion in underfunded pension liability is 20% of its total debts. The underfunding of 109 of the nation's state pension plans, which guarantee retirement for millions of public workers such as police, firefighters, and teachers, rose to $834 billion in 2012, according to a report by Wilshire Consulting. The results of Detroit's bankruptcy process on pensions will be a viewed as a precedent for other cities that may follow.

States and Municipalities face finite resources: Consider the following points from a recent Washington Post article. "Swelling pensions: Not only are they increasing as baby boomers retire, but they're vastly underfunded. In 2012, promised benefits for state and local pensions exceeded fund assets by $1?trillion, estimates Boston College's Center for Retirement Research. This estimate may be too low, because it assumes an average 8 percent annual return on pension assets. A 6 percent return, closer to recent experience, would double the unfunded liability to $2 trillion. Costlier Medicaid: States cover about 40 percent of the expenses of this health insurance for the poor, and spending could increase by 87 percent from 2012 to 2021, projects the Centers for Medicare and Medicaid Services (CMS). An aging population and expanded eligibility under the Affordable Care Act (Obamacare) are big drivers. Medicaid already consumes 20 percent of states' general funds, the highest share for any program except K-12 education. Weakening tax bases: Since 1980, state and local tax revenues have increased an average of 6 percent annually, says economist Mark Zandi of Moody's Analytics. But he expects this to drop to 4.5 percent in the next decade, mainly reflecting lower economic growth and inflation. Eroding federal grants: States receive 34 percent of their funds from the national government, including Medicaid's federal share. Deficit reduction imperils grants for both states and localities."

Stakeholders: There are many stakeholders who have reason to be concerned with underfunded status of pensions. Some of these including retirees receiving pension benefits now, current workers hoping to receive benefits in the future, tax payers who rely on services from their states / municipalities and who may risk paying higher taxes in the future to support pension liabilities and bond holders who have lent money to states and municipalities.

No easy fix: There is no simple solution to the dilemma facing pension plans that are underfunded. One thing that all sides should agree on is that the topic needs to be addressed sooner rather than later, to hopefully avoid the situation Detroit is facing today. Included among the repair list could be adjusting benefit amounts or cost of living adjustments, freezing current plans converting to defined contribution plans vs defined benefit plans for younger workers, increasing taxes in States / municipalities that have the economic ability to raise revenue to better fund pension liabilities and in the case of bankruptcies; default risk to bond holders.

What about the PBGC? The Pension Benefit Guaranty Corporation or PBGC is a federal agency created by the Employee Retirement Income Security Act of 1974 (ERISA). The PBGC covers private sector pension plans, NOT public pension plans. It protects pension benefits in private-sector defined benefit plans. PBGC's insurance program will pay the benefit provided by your pension plan up to the limits set by law. Financing comes from insurance premiums paid by companies whose plans we protect, from our investments, from the assets of pension plans that they take over as trustee, and from recoveries from the companies formerly responsible for the plans, but not from taxes.

(Copyright 2013 by KARE. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.)

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