America's State Pension Funding Shortfall

A recent brief by Pew Charitable Trusts gives us a clear picture of the disarray in state pensions.  Despite the fact that we are six years into the post-Great Recession recovery, this analysis shows us that funding issues still loom.

Let's open with this graphic that shows the funding gap in the state pension system:

In 2013, total state pension liabilities were $3.434 trillion and, on average, the pension funding ratio was 72 percent.  In 2013, the gap between pension benefits that governments have promised to their workers and the funding that is available to meet those obligations reached $968 billion, a $54 billion increase from 2012.  This amount increases to more than $1 trillion when local pension plan funding shortfalls are included.  State pension contributions in 2013 totalled $74 billion, $18 billion less than what was needed to meet the actuarial required contribution (ARC), a minimum standard that is set by government's own accounting rules.  Only 24 states set aside 95 percent or more of the ARC that they determined for their own pension plans.

Here is a graphic that shows the level of state pension underfunding as a percentage of GDP:

Here are some examples that give us a sense of how pension plan funding levels have changed over the past decade (between 2003 and 2013):

1.) Arizona - 2003 - 99 percent funded   2013 - 72 percent funded

2.) Tennessee - 2003 - 99 percent funded  2013 - 94 percent funded

3.) Alabama - 2003 - 93 percent funded   2013 - 66 percent funded

4.) West Virginia - 2003 - 40 percent funded   2013 - 67 percent funded

Changes to pension plan funding ratios are a result of several different factors including contribution levels, readjustments to benefits, modified cost of living adjustments and returns on plan investment portfolios.  In the case of West Virginia which saw its pension plan funding improve markedly over the decade, its gains can be attributed to strong contribution levels which have allowed it to make up for investment portfolio losses that took place during the Great Recession.

Now, let's look at the best and worst funding levels starting with the top five states with the best funding levels:

Here are the five states with the largest funding shortfalls:

On top of these, there are three states with only 58% funding; Louisiana, Mississippi, and Rhode Island.  In total, 26 states have funding levels of 70 percent or less.  What is of particular concern is the funding level for the nation's largest pension plans, particularly Illinois (the nation's fourth largest pension liability) which is only 39 percent funded and California which has the distinction of having the nation's largest state pension liability ($610.304 billion) with a funding level of only 72 percent (and dropping).

It is also interesting to see how the percentage of ARC paid in 2013 varied widely, from a low of 47 percent in New Jersey to a high of 103 percent in North Carolina and averaging only 80 percent for all states.  With contributions falling below what is required under ARC, the state pension plan system will have a hard time catching up to its growing shortfall.  

As we can see, despite the fact that the economy is "booming" and has been performing reasonably well over the past five years, the state pension plan system is far from healthy.  The level of underfunding is concerning, particularly since the bond and stock markets are more than likely to correct over the coming years, pushing down the value of assets held in these poorly funded pension plans just as baby boomers are thinking of their retirement.