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Study: States Must Fill $1 Trillion Pension Gap

Map: U.S. State Pension Funding Levels

These are tough times for state governments, many of which are contending with huge budget deficits.

Many states are likely to face an especially daunting challenge in the years ahead, according to a report issued Thursday. The states have promised big pension and retirement benefits to their employees without putting aside money to pay for them.

The report was prepared by the Pew Center on the States, and it portrays a state pension system that's headed for a crisis — if it's not already there.


"The 50 states have racked up more than $3.3 trillion in long-term liabilities in pensions, health care and other retirement benefits that they promised to their current employees and retirees," says Susan Urahn, the center's managing director. "But they have not got any money to set aside to pay $1 trillion, which is almost a third of this bill."

Urahn says states often try to compensate for relatively low salaries by offering their employees generous retirement benefits — and they can be very generous.

Connecticut has a series of early retirement programs that allow employees with 10 years of service to retire at age 52. Politicians can get away this, because the bill won't come due until after they've left office.

"It's an easy omission," says Orin Kramer, head of the New Jersey State Investment Council. "If you underfund, you're passing costs on to future generations of taxpayers, but that isn't going to be obvious for a long time."

The report says almost all state pension plans are underfunded. Two states — Illinois and Kansas — have set aside less than 60 percent of the money they'll need to pay benefits. Six others are underfunded by a third or more.


Urahn says the problem has been exacerbated by the recession, which has cut into the value of state investment funds. But she adds that states have underfunded their plans even in good times.

"This matters tremendously, because how well states manage their retirement costs affects how much money they have to spend on other priorities. And, in fact, these costs are already adding significant pressure to already stressed state budgets."

Urahn says states that underfund their pension plans have to make up for it later. She compares what happened to two neighboring states: New York and New Jersey.

Until 2002, both states kept their pension plans adequately funded. But then New Jersey stopped making regular payments, much like someone who keeps using a credit card while paying only the minimum each month. New Jersey has seen its liabilities soar.

"Fast-forward up to 2008," Urahn says. "Now New Jersey's annual bill is $1 billion more than New York's — even though its total pension liability is $15 billion less. So that's the impact of simply kicking the can down the road."

And she says many states may be in worse shape than they appear because they use an accounting technique called smoothing. They average out the value of their investments over five years or so, which tends to obscure the depth of their losses in times when the financial markets have taken a hit, like they have in recent years.

The report also says it's not too late for states to get their houses in order. Simple changes made now, like raising the retirement age by just a year, could make a big difference over time.

But that will require some tough choices by state officials, and that's something many of them have shied away from.

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