S&P views retiree medical benefits as a credit risk for states
S&P Global Ratings has identified state underfunding of retiree medical benefits as a key credit risk for states.
States continued to severely underfund their OPEB plans and unfunded liabilities increased in fiscal 2020, S&P analysts reported in their annual survey released on Monday.
During the economic expansion leading up to the pandemic, few states pursued and implemented reforms aimed at reducing the growing unfunded liabilities of the OPEC, according to the report.
“In the 48 states that report a liability for retiree medical benefits, the overall proportional share of the OPEC’s net liability increased 5.2% to $ 557 billion,” S&P analysts wrote. “Of the states with funding ratios below 40%, 29 were funded at less than 10%, and 13 states had no pre-funding at all.”
OPEB attracts more attention; in August, analysts at Moody’s Investors Service released a report indicating that the OPEC had overtaken both pensions and debt as an issue for 1 in 10 state and local governments.
Although states are currently at a higher risk of OPEB liability than pensions, as most fund the OPEB on a pay-as-you-go basis as opposed to pre-financing, they have more flexibility to process the OPEB and then pensions due to the regulatory restrictions on pensions, said Todd Kanaster, a director of S&P specializing in public pensions, and Jillian Legnos, credit analyst for states, who co-wrote the report with four other analysts.
Some states, including Georgia, Texas and North Carolina, have even decided to cut benefits for some employees, Kanaster and Legnos said.
There hadn’t been a big effort to pre-fund the OPEC even before the pandemic, Legnos said.
“Some had started talking about it,” she said. “But with COVID-19, it’s just been put on the back burner.”
In general, she said, there just hasn’t been a broad push across states to reform the OPEB.
“For many states, the cost is only a small part of their budget, they just take care of other health costs,” Legnos said. “Then when it’s a little liability on their books, they don’t prioritize it. In states where it’s a bigger liability, you see more action.”
Medical benefits for retirees are more complicated than pensions and the reporting standards are newer, Kanaster said.
In Illinois, the state Supreme Court said the state must pay for retirees’ medical benefits, but they’re still figuring out what the ruling means, Kanaster said. And in some states, benefits have no protection, he said.
“This is a growing problem, so at some point states will have to solve it and look at all the solutions,” he said.
One of these solutions could be to issue OPEB bond bonds, which are similar to pension bond bonds.
“We saw a couple,” Kanaster said. “POBs and OPEB bonds are an option. We don’t view all POBs as negative or positive, it really depends on the issuer.”