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NJ Digs Deeper Hole By Paying Just $2.4B of $8.8B Retiree Costs

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Credit: Governor's Office/Tim Larsen

New Jersey will be paying just $2.4 billion of the $8.8 billion actuaries say the state should allocate for pensions and retiree health benefit costs in the revised budget Gov. Chris Christie has proposed for next year -- a policy decision that exacerbates the state’s long-term fiscal crisis and sticks future taxpayers with the bill.

While most of the focus in Christie’s first five years in office has been on the state’s pension crisis, paying for retiree health benefits poses a similarly difficult fiscal challenge. In fact, the state will be paying $1.7 billion next year to cover the healthcare benefits of retired teachers and state government workers -- who get free healthcare for life if they retire after 25 years -- compared to just $681 million toward pension costs in the wake of Christie's pension cuts.

“What people don’t realize is that retiree health benefits are a bigger long-term liability than pensions,” said David Rousseau, a former Democratic state treasurer. “The actuarial cost we should be putting away for retiree healthcare benefits is $4.7 billion, compared to only $3.9 billion for pensions,” in order to cover both current costs and amortization of the unfunded liability.

“And while we at least have a plan to phase up pension payments to the proper level (to pay down the unfunded liability), we’re not even starting to put a dent in the health benefits side because we pay for retiree health benefits on a pay-as-you-go basis,” said Rousseau, who currently serves as budget and tax analyst for New Jersey Policy Perspective.

In fact, the state government’s unfunded liability for retiree healthcare benefits stood at $51.5 billion as of last July 1, compared to $37 billion for teacher and state government pensions. And while Christie and the Democratic-controlled Legislature agreed in 2010 to a seven-year ramp-up to actuarially required funding of the pension system by FY18, there are no plans to pay down the unfunded liability for retiree healthcare benefits, which will continue to grow by several billion dollars a year.

Christie, who has been complaining since January about the soaring costs of pension and retiree health benefits, has promised to lay out a comprehensive plan to cut pension and retiree healthcare costs in mid-June, but prepaying the unfunded liability for retiree health benefits is not likely to be part of the plan -- especially not now, with prepayment of the state’s pension obligations once again put on hold.

The magnitude of the budget challenge now posed by retiree costs was underscored in April when Christie was forced to backtrack on the pension commitment that was the hallmark of his first term after a sudden drop in income tax payments by the wealthy created a $2.7 billion hole in the combined FY14/FY15 budgets.

Christie retroactively chopped the planned third-year FY14 pension payment from $1.58 billion to just $691 million and the scheduled FY15 fourth-year allocation from $2.24 billion to $681 million -- a pair of cuts that will push the state’s unfunded pension liability up over $40 billion by FY16. The New Jersey Education Association and the Communications Workers of American have vowed to challenge the cuts in court.

He also used $120 million in reserves in the State Health Benefits Plan to trim the retiree health benefit payment for FY14 to $1.44 billion, but he had no ability to cut the $1.7 billion budgeted for FY15 because New Jersey funds retiree health benefits entirely on a year-to-year, pay-as-you-go basis.

Over the past seven weeks, Standard and Poor’s, Fitch Ratings, Inc., and Moody’s Investors Service have all cited the long-term problems posed by New Jersey’s unfunded pension and retiree health benefit liabilities in downgrading New Jersey’s credit rating to single-A status – a bottom tier ranking shared by only Illinois and California.

But it is the growing cost of New Jersey’s retiree health benefit program -- not its pension system -- that makes the Garden State out-of-step with other states, according to national studies.

While New Jersey’ liability for retiree healthcare benefits is by far the largest among the 50 states, the state’s pension liability for state and local governments dropped to 11th in the nation as a percentage of its annual state budget -- far below Illinois and Connecticut -- after Christie and Senate President Stephen Sweeney (D-Gloucester) teamed up to pass the 2011 pension and health benefits overhaul.

The 2011 law saved $122 billion in pension costs over 30 years by eliminating cost-of-living increases for retirees for decades, by requiring current employees to pay 1.5 percent to 2 percent more of their salaries toward their pensions, by raising the retirement age for nonpublic safety personnel from 62 to 65, and by reducing pension payments by 3 percent per year for those who took early retirement. However, while a change in the prescription drug program for retirees cut the unfunded liability for retiree healthcare by $9.4 billion, the 2011 law’s increase in the retirement age and its requirement that current employees with less than 20 years of service contribute to their healthcare costs after retirement cut the unfunded liability just $2.5 billion more in FY12 -- and that $2.5 billion cut was eclipsed by a $3.8 billion liability increase the following year, according to a recent S&P analysis.

The $4.7 billion that the state’s audit said New Jersey should have put into paying retiree healthcare benefits and covering a portion of its unfunded liability in FY12 would have ranked first in the nation -- ahead of Indiana’s $ 4.5 billion, New York’s $3.1 billion, and North Carolina’s $2.9 billion, according to statistics compiled by Joshua H. Franzen, vice president for research of the Center for State and Local Government Excellence, and Alex Brown, research director for the National Association of State Retirement Administrators.

“It’s the benefit itself that is the biggest cost driver,” Brown said, noting that New Jersey’s law providing free healthcare to retirees with 25 years of service was “going in the opposite direction from most states.”

Overall, while 96 percent of state government entities had offered healthcare coverage to retirees under age 65 in 2005 -- before the Great Recession of 2007 to 2009 devastated state government finances nationwide -- only 69 percent continued to do so by 2011. Similarly, while 88 percent offered healthcare benefits to retirees 65 and older in 2005 -- usually supplemental Medicare Part B payments -- that percentage dropped to 61 percent by 2011.

It is the price of medical benefits for retirees who are under age 65 that is the biggest cost -- which is one of the reasons that retiree health benefits are a bigger issue for municipal governments in New Jersey than pensions: Police and firefighters who retire with 25 years of service in their late 40s can collect free family health benefits costing $25,000 a year or more before becoming eligible for Medicare at age 65, and can do so without penalty because the state has a “20 and out” law for uniformed personnel.

New Jersey teachers and state government workers – whose retiree healthcare costs are state-funded. And county and municipal government workers have seen their retirement age rise from 55 to 60 to 62 to 65 over a four-year period from 2007 to 2011, and are discouraged from retiring early by a provision in the 2011 pension law imposing a 3 percent deduction per year from their pensions for early retirement.

Unlike pensions, New Jersey has no provision to prefund retiree health benefits. However, recognizing that retiree health benefits posed a growing liability, the number of states setting aside at least some assets to prefund retiree health benefits grew from 18 states in a 2009-2011 survey conducted by Franzen and Brown to 25 states in a subsequent 2011-2012 survey.

Meanwhile, states also have been cutting benefit levels as well. According to a 2013 survey by the National Association of State Retirement Administrators, 25 percent of states increased the retirement premiums for retirees and 22 percent for their dependents, 21 percent hiked copayments for medical services, and 18 percent raised retirees’ deductible amounts. Another 8 percent increased the number of years required to vest for retiree health benefits, and 4 percent increased the age at which retirees could begin collecting medical benefits.

Christie left little doubt that he expected to seek cuts in both retiree healthcare and pension benefits when he unveils his plan to cut retiree costs. Speaking at the Peter G. Peterson Fiscal Summit 2014 in Washington, D.C., two weeks ago, Christie asserted that the only way for New Jersey to get its retiree costs under control is “to stop the insanity of a defined-benefit pension system that we cannot afford and of a healthcare system that Obamacare called a Cadillac plan.”

Renewing his warning at a Statehouse news conference last Tuesday, Christie asserted that the cost of the state’s healthcare plans for both current workers and retirees was so high that the state would “have to pay hundreds of millions of dollars in taxes to the federal government in a few years” under the Cadillac tax provision of President Obama’s Affordable Care Act that was designed to force down health insurance policy costs.

Christie also repeated his contention that the state cannot afford to pay more for the healthcare costs of retirees than it pays for active employees, but that contention is misleading: The state pays the healthcare costs of 93,600 state employees, while it pays the retiree healthcare costs not only of its 60,000 retired state workers, but also of New Jersey’s 91,700 retired teachers, whose preretirement healthcare costs were paid by the school districts that employ them, according to 2013 statistics contained in actuarial reports for the seven state pension systems submitted to the New Jersey Division of Pensions and Benefits.

With teachers excluded, the state pays $1.067 billion for the healthcare costs of active employees and $574.6 million for healthcare coverage for state government retirees.

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