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Tuesday, July 25, 2017
"Smoothing is an 'actuarial camouflage, a method to dampen on-book asset volatility'" -John Dillon
“One of the elements of the addition of a Tier III in the new law for latest hires in Illinois is a change in how state government calculates the amount of money TRS and other programs will receive from the state government in Illinois for the years going forward…
“According to one economist, smoothing is an ‘actuarial camouflage, a method to dampen on-book asset volatility.’ The practice is meant to protect the payer from the shocks of sudden changes in market returns (or volatility) in gains and losses during a single year. So, why not spread the damages or gains over five, or ten, or twenty years to artificially reduce asset volatility?
“…According to TRS, the original state contribution for TRS expected in fiscal year 2018 – $4.65 billion – will be recalculated. TRS must retroactively ‘smooth’ the fiscal effect of any changes made in the TRS assumed rate of investment return over a period of five years. The ‘smoothing’ applies to assumption changes from 2012 on.
“Up until now, the fiscal impact change in the assumed was totally absorbed at one time. For example, in 2016 TRS reduced its rate of investment return from 7.5% and the result was a $402 million increase in the fiscal year 2018 state contribution to TRS. Under this new law, that $402 million increase would be phased in over a five-year period.
“The only way it could get any more slippery or worse is if Illinois found a way to short the funding even more. They did. According to Mr. Richard Ingram, the executive director of TRS of Illinois: ‘Over the last several years state government has taken its responsibilities to TRS very seriously and has paid its legal obligation in full. Still, the legal state contribution for the last several years has been insufficient to improve the System’s long–term finances. State government’s annual contribution is set artificially by law. It is not an actuarial calculation.’
“‘As it does every year, for FY 2017 the TRS Board asked its actuaries to calculate two state contributions — the payment calculated under state law and the payment calculated under actuarial practices. Under standard actuarial practices, the state’s annual contribution for FY 2017 should be $6.07 billion.
“‘The calculations set in state law artificially lower the state’s annual funding level. For instance, state law: Requires pension costs to be calculated on a 50–year timetable instead of the standard 30 years; establishes a 90 percent funding target instead of the standard 100 percent goal; requires the debt payments on state pension bonds to be deducted from the total contribution.
“‘Illinois teachers have always paid their required share and are counting on their pensions to sustain them in retirement. The state has never paid its full share. The annual contribution is the amount of money required by state law to fund TRS pensions during the coming year, as well as a payment on the System’s unfunded liability, which currently stands at $71.4 billion.’
“The inclusion of another Tier by the General Assembly as a laurel to Republicans and Rauner does not fix the hole nearly 80 years of underfunding has excavated. It provides some relief (like SB 7 did) to borrow to pay off debts, once again on the backs of those who paid into their pensions as demanded each and every paycheck…”
from Pension Vocabulary: What Does Smoothing Mean by John Dillon