As the town meeting approaches, all the usual budget conflict resurfaces. Taxes are rising, some voters wonder where the money is going and others want to know why their favorite cause isn’t fully funded (school, town yard, youth center, etc. etc.). Unfortunately, no one seems to be questioning a glaring problem with the budget, which is that none of the reported financials reflect economic reality, only GASB accounting.
What’s GASB? GASB, the Government Accounting Standards Board, defines the rules controlling how government entities like Andover report their finances. These rules help hide a significant part of the town’s finances. Non-government entities like corporations must use the stricter FASB (Financial Accounting Standards Board) accounting rules that are far less tolerant of the accounting shenanigans used by Andover (and just about every other municipality in Massachusetts).
This problem is so huge that most people simply cannot believe the numbers. In July, Andover reported that its pension plan was only 49.7 percent funded, almost $97 million short of its cost. The accounting treatment valued the plan’s stocks and bonds at $96 million even though the market value is only $87 million (45 percent), hiding $9 million of underfunding. The plan’s liabilities are estimated at $193 million, but here the problem is much worse. This assumes the plan assets earn 7.75 percent every year, although over the past five years, the plan only earned 2.8 percent per year. If the town’s liabilities were valued using the same rate that the town uses for funding projects, the unfunded component of pension and OPEB (other non-pension benefits for retirees) liabilities would be more than $700 million — more than four times the annual town budget. Joshua Rauh from Northwestern University has been trying to blow the whistle on this for years, as it affects municipalities throughout the U.S.
To understand the problem, suppose your plan assumed you had $100 earning 7.75 percent ($7.75). With only $45 of actual investments, the return on investments would need to be over 17 percent to meet targets. This explains why the funding status has worsened in recent years despite good investment performance. Underfunding has passed the tipping point, where underfunding accelerates without significantly increasing contributions.
OPEB is even worse. Currently listed as a $215 million liability, the town last year changed its return assumption, thereby erasing $43 million of the liability reported the previous year. When last reported in June 2011, only $0.7 million of this liability was funded. Last year, the town added $0.3 million and the Finance Committee recommended increasing this to $0.325 million for next year. Since the annual cost is over $15 million, Andover increases this liability by about $15 million a year.
A private company in the same financial condition as Andover would be subject to involuntary plan termination by the Pension Benefit Guaranty Corporation. Companies in the private sector can default on their obligations by going bankrupt, so the 1974 ERISA laws created PBGC to protect pension plans. Municipalities don’t have a regulator since bankruptcy is rare and difficult; everyone assumes taxpayers ultimately guarantee municipal obligations.
These hidden liabilities act like a hidden accruing tax, since taxpayers cannot escape from these liabilities other than by moving out. How big is this tax? The pension obligations were 78 percent funded in 2004, with reported underfunding of $23 million. Over the past nine years, underfunding has increased by $73 million in the pension plan, with an additional $214 million for OPEB. From 2004 to 2013, the town budget has risen from $108 million to this year’s proposed $157 million. Even using the town’s accounting methods, the town manager has managed to hide almost a quarter of the true cost of the budget. The economic cost is probably double that.
I would love to see the town run in a businesslike fashion. I could settle for transparent reporting of the financials. However, I see no evidence that anyone in the town wants to face economic reality, and everyone seems happy to hide behind GASB. I don’t think that will be tenable for long.
66 County Road