From 2008 through 2012, discount rates fell every year an accumulated decline of 234 basis points before finally rising in 2013 (Figure 5). Applying financial economic theory to the measurement of pension obligations has been controversial and has produced a significant amount of debate in the actuarial profession, which has continued in the present decade. Examples of how the actuary may observe estimates inherent in market data include the following: a. comparing yields on inflation-indexed bonds to yields on equivalent non- inflation-indexed bonds as a part of estimating the markets expectation of future inflation; b. comparing yields on bonds of different credit quality to determine market credit spreads; c. observing yields on U.S. Treasury debt of various maturities to determine a yield curve free of credit risk; and. Last Revised: June 2020 The term reviewers in appendix 2 includes the Pension Committee and the ASB. However, an employer's plan may have a limit or "cap" on the dollar amount of health care coverage it promises to pay. A specific assumption or method that is selected by another party, to the extent that law, regulation, or accounting standards give the other party responsibility for selecting such an assumption or method. Notionally, that single amount, the projected benefit obligation, would equal the fair value of a portfolio of high-quality zero coupon bonds whose maturity dates and amounts would be the same as the timing and amount of the expected future benefit payments. Supporting Information Actuarial Assumptions - Washington The actuary may want to adjust estimates based on observations to reflect the various risk premiums and other factors (such as supply and demand for tradable bond or debt securities) that might be reflected in market pricing. Comparing the timing and amount of cash outflows of the bonds in the index to the defined benefit plan's expected cash outflows for benefits, and quantifying/documenting the basis for any positive or negative adjustments to the bond index yield relative to the cash flow analysis. Measurements of pension obligations do not generally include individual benefit calculations, individual benefit statement estimates, or nondiscrimination testing. 4 0 obj The 3, 5, 10, and 20-year returns are 11.00%, 11.17%, 9.19%, and 7.65% respectively. c. Collective BargainingThe collective bargaining process impacts the level and pattern of compensation changes. In nonprescribed situations, practice is still dependent upon the individual actuary. Key Characteristics Valuations measure the long term and do not directly reflect risk- The actuary should not assume that superior or inferior returns will be achieved, net of investment expenses, from an active investment management strategy compared to a passive investment management strategy unless the actuary believes, based on relevant supporting data, that such superior or inferior returns represent a reasonable expectation over the measurement period. The investment return assumption used for the Hazardous plan is 6.25 percent. Consumer Price Index. A discount rate may be a single rate or a series of rates, such as a yield curve. Warning: Each web version of an ASOP is provided as is for convenience of the user only and is not, and should not be considered to be, the official version of an ASOP. In a recently released Issue Brief, the Academy of Actuaries discusses the interplay of the rate of return assumption and the investment mix.Focusing on the long-term return rate assumption for defined benefit pension plans, a familiar idiom comes to mind: "Don't let the tail wag the dog." Colorado Springs, CO: McGraw-Hill, 2008. endobj range, which are closer to the pre-2000 average return. As a result, a range of reasonable assumptions may develop, both for an individual actuary and across actuarial practice. In addition, the actuary should refer to ASOP No. Therefore, a weighted-average or "blended" discount rate, based on individual discount rates applicable to the varying periods until the benefits are due, should be used for discounting the pension benefit obligation and related pension cost components (i.e., service cost and interest cost). For each measurement date, the actuary should reassess the individual assumptions selected by the actuary and the relationships among them, and make appropriate adjustments. The WRS' long-term return assumption for 2017 was 7.2 percent; however, the plan uses a lower discount rate of 5 percent to calculate the cost of benefits for workers once they retire. Actuaries can still set other economic assumptions, such as compensation increases, inflation, or fixed income yields. PDF Employees' Retirement System of The County of Milwaukee Minutes of The 6 0 obj In these cases, we believe there is no change in methodology because the methodology in use continues to be based on a cash flow matching approach. The service cost component of net periodic benefit cost could be volatile from year to year as a result of using current discount rates because the changes in discount rates will immediately affect the PBO and EPBO, which is the basis for determining service cost. 1 0 obj All rights reserved. 8#i) RJM0i/-I oYqOTr;9iprU=&?~UOLXRgGG1IcvL!:s(nT.uJH5X#QG jo(DJ For shorter-term financial projections (less than 10 years), financial planners may use actual rates of return on fixed-term investments held to maturity and dividend yields on equities. National Association of State Retirement Administrators. The actuary should refer to ASOP No. Whether the assumed rate of return is lowered, and the magnitude of any reduction, depends on the excess gains available and the most recent range of reasonable economic assumptions as provided byMERS' consulting actuary. Pension costs could make the MBTA 'insolvent' by 2038, document shows The PBO and APBO will also be immediately affected by discount rate changes. stream e. U.S. Social Security Administration. For this purpose, an assumption or method selected by a governmental entity for a plan that such governmental entity or a political subdivision of that entity directly or indirectly sponsors is a prescribed assumption or method set by another party. The preceding paragraph permits an employer to look to rates of return on high-quality fixed-income investments in determining assumed discount rates. The determination of the assumed discount rate is separate from the determination of the expected rate of return on plan assets whenever the actual portfolio differs from the hypothetical portfolio described in this paragraph. In addition, the actuary should consider whether an experience study should be performed; however, the actuary is not required to perform an experience study. If the actuary learns of an event occurring after the measurement date that would have changed the actuarys selection of an economic assumption, the actuary may reflect this change as of the measurement date. Notable Changes from the Second Exposure Draft. Purpose, Scope, Cross References, and Effective Date, 2.5 Prescribed Assumption or Method Set by Another Party, 2.6 Prescribed Assumption or Method Set by Law, Section 3. In December 2014, the ASB formed the Pension Task Force and charged it with reviewing these comments and other relevant reports and input to develop recommendations for ASB next steps. An upward or downward adjustment to the yield of the index when the duration of the benefit stream is either significantly longer or shorter, respectively, than the duration of the bonds in the index. Assumed rates of return on corporate bonds vary from 1 to 4 per cent . 27. The results also indicate that the adopted assumptions are influenced by asset allocations and the fiscal condition of pension plans. Once the published yield is adjusted based on the considerations listed above, it is acceptable to round to the next 25 basis point interval, if the employer's policy is to do so. NewRetirement Planner Assumptions | NewRetirement Help Center Coates, Crow: Much more to be done on state retirement system reforms The findings of the study are important in part because they draw attention to possible linkages between the quality of financial information that is reported about the financial condition of public pension funds . Certain plan benefits have components directly related to the accumulation of real or hypothetical individual account balances (for example, floor-offset arrangements and cash balance plans). For this purpose, an assumption is reasonable if it has the following characteristics: a. it is appropriate for the purpose of the measurement; b. it reflects the actuarys professional judgment; c. it takes into account current and historical data that is relevant to selecting the assumption for the measurement date, to the extent such relevant data is reasonably available; d. it reflects the actuarys estimate of future experience, the actuarys observation of the estimates inherent in market data (if any), or a combination thereof; and. The ASB voted in June 2020 to adopt this standard. For each previously selected assumption that the actuary determines is no longer reasonable, the actuary should select a reasonable new assumption. b. Defeasance or SettlementAn actuary measuring a plans present value of benefits on a defeasance or settlement basis may use a discount rate implicit in annuity prices or other defeasance or settlement options. However, in other than a zero coupon portfolio, such as a portfolio of long-term debt instruments that pay semiannual interest payments or whose maturities do not extend far enough into the future to meet expected benefit payments, the assumed discount rates (the yield to maturity) need to incorporate expected reinvestment rates available in the future. Under ASC 715, the expected return on assets is a component of the employee benefit cost. The date as of which the values of the pension obligations and, if applicable, assets are determined. In these situations, the compensation increase assumption may reflect a shortened measurement period that ends at the expected termination date. The discount rate is the most significant economic assumption used to calculate a plan's liability. <> Determining the best estimate. Interest Rate - For pension funding, this assumption is used to discount future benefits to determine plan liabilities and it should be a reasonable expectation of the future rate of return on the pension plan's assets. The average investment return rate assumption for U.S. public pension funds has fallen below 7.0%, to its lowest level in more than 40 years, according to the National Association of State Retirement Administrators. Under this approach, the percentage of total plan assets of each component of the plan asset mix is multiplied by the expected asset return for that component. Multiple investment return rates may include the following: a. Examples of multiple compensation increase assumptions include the following: a. (For this, the system will employ the 2017 rates . The actuary should take into account factors specific to each measurement in selecting a specific compensation increase assumption. The types of economic assumptions used to measure pension obligations may include inflation, investment return, discount rate, compensation increases, and other economic factors such as Social Security, cost-of-living adjustments, rate of payroll growth, growth of individual account balances, and variable conversion factors. 4, Measuring Pension Obligations and Determining Pension Plan Costs or Contributions, that relates to the selection and use of economic assumptions; c. supplements the guidance in ASOP No. Social Security Bulletin. As expected, there is a positive correlation between expected rate of return and the amount of plan assets The second exposure draft was issued in June 2019 with a comment deadline of September 15, 2019. Estimates suggest state-managed public pension systems likely added over $200 billion in additional pension debt in 2020. Discount rates dropped to historical levels in 2019. The objective in determining an appropriate discount rate using a bond-matching approach is to match cash flows of the plan to principal redemptions on zero coupon bonds. Each member firm is a separate legal entity. This relationship is especially strong for firms whose reported income is the most sensitive to pension assumptions. 4 This standard is effective for any actuarial report that meets the following criteria: (a) the actuarial report is issued on or after August 1, 2021; and (b) the measurement date in the actuarial report is on or after August 1, 2021. It may also be an important factor for a plan of any size that provides highly subsidized early retirement benefits, lump-sum benefits, or supplemental benefits triggered by corporate restructuring or financial distress. 27, Selection of Economic Assumptions for Measuring Pension Obligations, was issued in June 2019 with a comment deadline of September 15, 2019. endstream endobj 1789 0 obj <>/Metadata 110 0 R/Pages 1786 0 R/StructTreeRoot 298 0 R/Type/Catalog/ViewerPreferences 1809 0 R>> endobj 1790 0 obj <>/MediaBox[0 0 612 792]/Parent 1786 0 R/Resources<>/Font<>/ProcSet[/PDF/Text/ImageB/ImageC/ImageI]/XObject<>>>/Rotate 0/StructParents 0/Tabs/S/Type/Page>> endobj 1791 0 obj <>stream Due to the uncertain nature of the items for which assumptions are selected, the actuary may consider several different assumptions reasonable for a given measurement. Because most publicly traded bonds included in the various models bear interest at a stated coupon, it would generally be appropriate to adjust the yields in the model (most likely upward) to reflect this difference. % Annual Yearbook, market results 1926 through previous year. The actuarys report should state the source of any assumption that the actuary has not selected. For PlannerPlus users, income taxes are estimated using all currently available state and federal tax rates and tax brackets through longevity. ? Public Pensions' Assumed Rate of Return Falls Below 7% For example, the actuary may have decided not to make any assumption with regard to four different types of future events, each of which alone is immaterial. In these circumstances, the assumptions should be revised. hb```B eahd0/- n:|x)`#pF]F y! The actuarys discretion over economic assumptions has been curtailed in many situations. Two scenarios when these duration adjustments might be made are: (1) when the population of participants is comprised primarily of retirees, thus causing the plans expected benefit payment stream to have a relatively short duration, or (2) when the population of participants is comprised of very few retirees and a relatively young active workforce, thus causing the plans expected benefit payment stream to have a relatively long duration. f. Cash Flow TimingThe timing of expected contributions and benefit payments may affect the plans liquidity needs and investment opportunities. <> Committee on Retirement Systems Practice Education, and the Pension and Health Sections, Society of Actuaries. For example, some actuaries have looked to surveys of economic assumptions used by other actuaries, some have relied on detailed research by experts, some have used highly sophisticated projection techniques, and many actuaries have used a combination of these. In response to specific requests for changes in the ASOPs and other activity related to public pension plans, in July 2014 the ASB issued a Request for Comments on the topic of ASOPs and Public Pension Plan Funding and Accounting. Actuarial Standard of Practice No. All rights reserved. xT]k@|?R >vC 2019 - 2023 PwC. 4, 23, Data Quality, 25, 35, 41, and 51. The conversion factors may be variable (for example, recalculated each year based on a stated mortality table and interest rate equal to the yield on 30-year Treasury bonds). Investment Return Assumptions of Public Pension Funds C`dEV-SC"8iAvWWtt7y} 7dgR VZm8U-6'`w3LG =! For example, if a pension program reduced its . When issuing an actuarial report to which this standard applies, the actuary should refer to ASOP Nos. ` U 4, 27, and 35 were exposed for comment in March 2018 with a comment deadline of July 31, 2018. Some specific points to consider include: In recent years, some actuarial firms have proposed various approaches to change the calculation of an entitys service cost and/or interest cost by using multiple (e.g., disaggregated) discount rates or spot rates reflective of varying employee demographics and timing of benefit payments. This brief discusses how investment return assumptions are established and evaluated . Those changes are classified as actuarial gains or losses. Such factors may include the following: a. Draft revisions of ASOP Nos. The employer communicates its intent to raise the dollar-denominated amount (i.e., the cap) in the future (e.g., to keep pace with inflation), or. Principal value Total interest. The assumption used to measure the anticipated year-to-year change in compensation is referred to as the compensation increase assumption. endobj However, it may not be appropriate to assume that future contracts will provide the same level of compensation changes as the current or recent contracts. endstream endobj startxref If any amended or restated document differs materially from the originally referenced document, the actuary should consider the guidance in this standard to the extent it is applicable and appropriate. The distinction between the pension liability discount rate assumption and the investment return assumption is often blurred in practice because it is assumed that they are numerically equal. Rate of increase in pensions, both in deferment and in payment; . Section 3.13, Reviewing Assumptions Previously Selected by the Actuary, was added to provide additional guidance regarding the reviewing of assumptions that the actuary previously selected. The actuary should take into account the purpose of the measurement as a primary factor in selecting a discount rate. Over the past decade, pension funds have lowered the return assumptions that inform their investment decisions from a median of 8% in 2009 to 7.25% as of 2019. Eighteen comment letters were received and considered in making changes that were reflected in the second exposure draft. IoD The Actuarial Standards Board (ASB) sets standards for appropriate actuarial practice in the United States through the development and promulgation of Actuarial Standards of Practice (ASOPs). 41, Actuarial Communications, an assumption may be selected by the actuary or selected by another party. c. Separate Assumptions for Different Compensation ElementsDifferent compensation increases are assumed for two or more compensation elements that are expected to change at different rates (for example, x% bonus increases and y% increases in other compensation elements). <> Rates reflect all known announced rates as of November 2022. Additionally, interest rates have hit all-time lows, diminishing expectations for returns on fixed-income investments, such as bonds. e. Expected Plan Freeze or TerminationIn some situations, as stated in section 3.8.3(h), the actuary may expect the plan to be frozen or terminated at a determinable date. Such factors may include the following: a. At each measurement date, the actuary should assess the reasonableness of each economic assumption that the actuary has not selected (other than prescribed assumptions or methods set by law or assumptions disclosed in accordance with section 4.2[b]), using the guidance set forth in this standard to the extent practicable. All assumptions are reviewed with the Board of Actuaries. NASRA Selection of Economic Assumptions for Measuring Pension Obligations, TO: Members of Actuarial Organizations Governed by the Standards of Practice of the Actuarial Standards Board and Other Persons Interested in the Selection of Economic Assumptions for Measuring Pension Obligations, SUBJ: Actuarial Standard of Practice (ASOP) No. The actuary may assume select and ultimate inflation rates in lieu of a single inflation rate. The actuary should not give undue weight to recent experience. Alternatively, the cap may be defined on an individual participant basis. If the dollar-denominated caps are based on the results of collective bargaining with a labor union, there is a general presumption under. This increase in debt impacting almost every pension plan in the country is primarily a result of investment return rates failing to meet overly optimistic investment return assumptions set by pension systems. Projected value. The objective of selecting assumed discount rates using that method is to measure the single amount that, if invested at the measurement date in a portfolio of high-quality debt instruments, would provide the necessary future cash flows to pay the pension benefits when due. A specific assumption or method that is mandated or that is selected from a specified range or set of assumptions or methods that is deemed to be acceptable by applicable law (statutes, regulations, and other legally binding authority). For example, the actuary may provide advice on selecting economic assumptions under US GAAP or Governmental Accounting Standards even though another party is ultimately responsible for selecting these assumptions. The actuary should follow the general process described in section 3.3 to select these assumptions. Financial Reporting Considerations Related to Pension and Other The following list of references is a representative sample of available sources of economic data and analyses that may be useful when selecting economic assumptions. The median return for state-managed plans was 27% in 2021. The Pension Task Force provided its report to the ASB in February 2016. Effective Date: August 01, 2021 It is for your own use only - do not redistribute. In some instances, that discount rate may be approximated by market yields for a hypothetical bond portfolio whose cash flows reasonably match the pattern of benefits expected to be paid in the future. Under this policy a portion of the excess returns will continue to be smoothed over a five year period, and some of the excess return will be immediately recognized to offset the increase in contributions. All ASOPs Home Selection of Economic Assumptions for Measuring Pension Obligations, PDF Version: Download Here UksyqOiiXdQN~[n:)Kp. In that case, the facts and circumstances of each plan will need to be assessed, including past practices and cost sharing arrangements, in order to determine the substantive plan of each employee group. Notable changes made to the second exposure draft are summarized below. 35, Selection of Demographic and Other Noneconomic Assumptions for Measuring Pension Obligations. Projected returns should be reduced by any outflows associated with generating those returns. An employer is required to measure its share of costs for health care services by projecting future costs. e. Expenses Paid from Plan AssetsInvestment and other administrative expenses may be paid from plan assets. 0 The degree of such documentation should be based on the professional judgment of the actuary and may vary with the complexity and purpose of the actuarial services. After identifying the types of economic assumptions to be used for the measurement, the actuary should follow the general process set forth below for selecting each economic assumption for a specific measurement: a. identify components, if any, of the assumption; c. take into account factors specific to the measurement; d. take into account other general considerations, when applicable (section 3.5); and. 41 for guidance related to the retention of file material other than that which is to be disclosed under section 4. Despite historic 2021 returns, many public pension plans are wisely Said differently, it would not be appropriate for a reporting entity to use a bond matching approach to calculate the projected benefit obligation and a disaggregated yield curve approach to determine service and interest cost in the following period. endobj The investment return assumption used by public pension plans typically contains two components: inflation and the incremental return above the assumed rate of inflation, or the real rate of return. Estimating the projection horizons for the expected returns. For each economic assumption that has a significant effect on the measurement and that the actuary has not selected (other than prescribed assumptions or methods set by law or assumptions disclosed in accordance with section 4.2[a] or [b]), the actuary should disclose the information and analysis used to support the actuarys determination that the assumption does not significantly conflict with what, in the actuarys professional judgment, is reasonable for the purpose of the measurement. <>/Font<>/XObject<>/ProcSet[/PDF/Text/ImageB/ImageC/ImageI] >>/MediaBox[ 0 0 612 792] /Contents 4 0 R/Group<>/Tabs/S/StructParents 0>> Measurement purposes may include the following: a. The actuary should apply professional judgment in determining whether, given the purpose of the measurement, the payroll growth assumption should be based on a closed or open group and, if the latter, whether the size of that group should be expected to increase, decrease, or remain constant. 32, Social Insurance (unless ASOPs on social insurance explicitly call for application of this standard). For this purpose, an assumption or method selected by a governmental entity for a plan that such governmental entity or a political subdivision of that entity directly or indirectly sponsors is not a prescribed assumption or method set by law. The discount rate is currently equal to the expected rate of return on investment based on historic al rates. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Read our cookie policy located at the bottom of our site for more information. As you can see, changing the annual average pension growth rate . Additional changes were made to improve readability, clarity, or consistency within this ASOP and ASOP No. All assumptions should reflect consistent expectations of future economic conditions, such as future rates of inflation. Impact on FY 2023 Contributions The disclosure may reference any study performed, including the date of the study.
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pension rate of return assumptions