That the Committee recommend to the Board that the Unfunded Actuarial Accrued Liability associated with the City’s proposed Early Retirement Incentive Program (ERIP) be amortized over a time period that matches the actuarially-calculated salary savings period from the ERIP – 5 years (Method 2).
Method 2 – Match the Amortization Period to the Actuarially-calculated Average Salary Savings Periods
Description of Method: The GFOA’s Recommended Practice on “Evaluating Use of Early Retirement Incentives – 2004”, in part, states that: The incremental costs of an ERI should be amortized over a short-term payback period, such as three to five years. This payback period should match the period in which the savings are realized (emphasis added).
This is one of two proposed methods (the other being Method 3) that attempts to match the amortization period to a definable period of salary savings. Under the ERIP, the City would realize short-term salary savings associated with the decrease in the City’s active member payroll due to increased retirements. This savings period is short-term in that it only lasts until the time ERIP members would have retired anyway. Under this method, the amortization period for the ERIP costs would match this actuarially-calculated average salary savings period.
For example, a member who, according to actuarial assumption, would have retired 3 years from now takes the ERIP offer and retires immediately; the City’s salary for this member will be eliminated. However, the salary savings for this now-retired member will last for only 3 years because the member presumably would have retired in 3 years anyway, even if the ERIP did not exist.
At staff’s request, Segal calculated the average number of years of the salaries that will be eliminated and thus saved as a result of the ERIP – beginning from the early retirement date in the report through the actuarially-determined retirement date without the ERIP. The calculation indicates that the savings brought by the ERIP on salaries will last for an average of 4.3 to 5.1 years for Alternative 1 and 4.7 to 5.4 years for Alternative 2.
The emerging industry best practice points toward a short amortization period for costs of benefit enhancements resulting from early retirement incentives. One evidence of this emerging best practice is that, in its response to the Government Accounting Standard Board’s (GASB) Invitation to Comment on Pension Accounting and Financial Reporting (Attachment 11, Page 20) dated July 31, 2009, a group of public sector actuaries commented on this issue as follows: For early retirement incentives or other termination benefits which take the form of enhanced pensions, we would support amortizing the change over a substantially shorter period, possibly as short as five years. Resulting Amortization Period: 5 years.
Advantages of this Method:
• The ERIP liability is paid off during the time period that LACERS is expecting to payout a relatively high percentage of the ERIP-related benefits (Attachment 10) and is the only proposed method other than Method 1 (0-year amortization) that provides sufficient cash inflows to fully cover the expected benefit payments throughout the amortization period.
• This method is consistent with the model practices contained in the actuarial community’s comments to GASB and the recommended practice from GFOA. Disadvantage of this Method:
• This method creates larger City payments over the short-term than some of the other methods. Actuary’s Opinion on Method
Paying for the Costs of the ERIP
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The Letter of Agreement indicates the City will recoup all costs associated with the ERIP from employees. Part of this recoupment will be accomplished by increasing the retirement contribution rate for all active LACERS members beginning July 1, 2011 by 0.75% of pay for a period not to exceed 15 years. This contribution increase alone will not pay for the estimated costs of the ERIP, as shown below: Present Value of Estimated ERIP Costs |
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Alternative (Retirements)
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Estimated Costs to City*/Increase in UAAL (A)
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Estimated Member Payment of ERIP Cost (B)**
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Difference (A-B)
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1 (2,229)
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$250 million
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$157 million
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$93 million
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2 (2,763)
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$354 million
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$156 million
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$198 million
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The fact that the City agreed to terms with the Coalition for the recoupment of some of the additional contributions (including the period over which that recoupment would occur) is a separate issue from the amortization period over which the City pays for the enhanced benefits. In fact, there will be an inherent mismatch between the employee contributions, if found to be permissible, and the City’s obligation to LACERS because the amount of the employee contributions are not sufficient to cover the full, estimated cost of the ERIP under either take rate scenario.
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