Introduction
Updated as of January 2020.
State government is the largest employer in North Carolina, with more than 300,000 full-time-equivalent positions. State employees have been working for the state an average of 11 years. Attracting and keeping employees is a constant challenge. Benefits beyond salary have traditionally been a factor in the desirability of government jobs. State employees received benefits in 2018 worth $26,437 on top of their average $48,748 salary. The fastest-growing component of employee compensation is the state payment for pension and health benefits.
Retired state employees receive generous health insurance at no cost. A May 2017 court ruling in Lake, et al. v. State Health Plan for Teachers and State Employees could cost the state $100 million, adding to a $28.5 billion liability in the State Health Plan, against which the state has set aside almost no money. A unanimous three-judge panel reversed the decision in March 2019, but the threat of higher costs remains. North Carolina state employees who start work after Dec. 31, 2020, will not be eligible to participate in the State Health Plan after retirement.
Retirees also receive pension payments based on their length of service and their last three years of salary. The largest pension system owes current and future retired teachers and state employees $79.2 billion but has assets valued at just $69.6 billion. Investments have fallen short of the assumed rate of return, even as former state treasurers took advantage of greater latitude to invest in hedge funds and other nontraditional assets. State Treasurer Dale Folwell has saved $175 million in investment management fees since January 2017 and has pared back the assumed rate of return for pension assets from 7.25 percent to 7.0 percent.
North Carolina’s pension system guarantees a defined level of monthly payments to retired state employees for life. If there were not enough money available to cover these payments, the state either would need to raise taxes or cut spending in other areas. The risk to employees is that the liability, left unaddressed, will be so great that the state would reduce the monthly pension payments. As municipal bankruptcies around the country have demonstrated, unfunded liabilities can lead governments to raise taxes or to cut or eliminate benefits with no warning. States like Illinois, Kentucky, and New Jersey — states with huge unfunded liabilities — could face similar decisions in the next economic downturn.
To reduce the risks to both taxpayers and retirees, Michigan has switched from such traditional defined-benefit pensions to defined-contribution retirement plans, which create individual accounts for employees to manage with funds they and state government contribute during their careers. There is no guaranteed payout and no hidden risk with defined-contribution plans.
Key Facts
- Employer contributions for state pension and health benefits totaled $14,047 per employee in 2018, an increase of 92 percent from 2008. Higher cost for required benefits means less money for salaries.
- Unfunded liabilities for state pensions and retiree health benefits total $40 billion or more.
- A district court ruled in Lake, et al. v. State Health Plan for Teachers and State Employees that the state could not charge premiums for retiree health benefits. With no ability to limit current benefits, the state eliminated benefits for new employees who begin their employment after December 31, 2020.
- State pension investments have not met the assumed 7 percent rate of return over the past 20 years. Treasurer Dale Folwell has adjusted the portfolio, cut fees, and reduced the expected rate of return, but even a lower expected return would still require more appropriations to the pension system.
Recommendations
- Contribute the actuarially required amount to meet future state health plan obligations. Unfunded liabilities could harm future retirees, taxpayers, and the state’s AAA bond rating. An annual appropriation needs to be established for both the pension and health plans until they are at least 95 percent funded.
- Continue reducing investment return expectations for pensions. Setting a lower bar for investment returns will allow pension managers to stop chasing riskier investments in the hope of meeting overly ambitious targets.
- Take additional steps to reduce current health plan costs and long-term liability. There are a number of services that help people save money on health costs. Making them available to employees covered by the State Health Plan can improve the plan’s finances. Treasurer Dale Folwell is right to continue his push for clear pricing from hospitals.
- Offer pension alternatives for new employees and current employees. New teachers, corrections officers, and other state employees often do not reach the five years of service needed to vest in the pension system. They should have better choices, and those choices should be open to longer-service employees as well.
- Increase transparency of the pension plan and other employee benefit plans. Financial statements for these accounts need to be available for review in a convenient place, preferably an easily accessible website. Finances should be considered a priority when evaluating the state’s fiscal situation. State employees should be able to see the value of their benefits and the likelihood of receiving those benefits.
