New Jersey has one of the worst funded pension systems in the country. It is currently only 37.8% funded and, including other post-employment benefits, its unfunded liability stands at $95 billion. Adding insult to injury, last month the Garden State’s credit rating was downgraded for the 10th time during Governor Christie’s administration due to concerns about pension underfunding (in fairness to the Governor, this crisis was mostly inherited).
Seeking to better manage the state’s pension debt, the legislature unanimously passed a bill requiring pension contributions to be made on a quarterly basis.
Quarterly contributions would bring New Jersey’s pension system more in line with regulations imposed on private sector defined benefit plans. IRS rules require defined benefit plans with funding shortfalls to make quarterly contributions. While it won’t save New Jersey’s pension system, it could nonetheless help one of the worst funded systems in the country.
The legislature attempted to pass a similar policy through a constitutional amendment requiring the state to make the full actuarially determined contribution (also called the ADEC) earlier this year, but that effort stalled. The proposal failed to get on the ballot because it required full payment of the ADEC, a non-starter before the legislature could pay for the Transportation Trust Fund. Governor Christie criticized the proposal last January because other state programs and services “would be subject to elimination to pay for the pensions of 800,000 current and former public employees.”
The law passed by the legislature last month does not mandate a specific level of funding—preserving some budget flexibility when making contributions—and any funds borrowed from the treasury to make the quarterly contributions would be reimbursed.
The main benefit of this policy lies in the potential to marginally increase investment returns. Contributions made on a quarterly basis—as they are in North Carolina, Indiana, California, and Pennsylvania—allow earlier payments to accumulate interest.
Using figures from the 2015 pension trust report, we can estimate the investment gains from these quarterly contributions. In FYE 2015, the ADEC was $5.6 billion, but the State contributed only $2.6 billion.
During this period, the pension trust experienced returns of 4.05% (1.01% on a quarterly basis). If the actual payments were made on a quarterly basis, they would have produced approximately $145 million in additional investment returns. This figure increases to $179 million had the state been making contributions sufficient to cover the full ADEC.
While quarterly payments generate additional investment returns in good times, this funding method is a dual-edge sword. In 2016, the system experienced a negative 0.87% return on investment. Quarterly payments would have increased those investment losses — though given the impossibility of timing the market such a concern is not a valid reason to avoid quarterly payments. Variance in investment losses already exist for plans that make contributions at the beginning, middle, or end of the year and there is no way to know which is going to be better in any given year.
Ultimately, anything that pushes New Jersey towards making more contributions will be better for the plan in the long run. But this doesn’t come close to a substantive reform. For perspective, the suspension of COLA payments in 2011—recently upheld by the New Jersey Supreme Court — saved the state an estimated $13.5 billion in future payments; barely a drop in the bucket.
Changing to a quarterly contribution basis will likely be the pension health equivalent of chicken soup for someone facing a terminal illness: it won’t hurt, but won’t help all that much either.
Update: Governor Christie signed the bill into law on Thursday, December 15th.