In a defined benefit pension plan, unfunded accrued liability (UAL) is the difference between the estimated cost of future benefits and the assets that have been set aside to pay for those benefits.
Municipalities can find their pension funded level and unfunded liability in their Annual Actuarial Valuation, a report provided to them each year. To learn more view the valuation resource page. In addition to using current membership and financial data, the valuation requires the use of a series of assumptions regarding uncertain future events. The actuarial assumptions and methods used in the valuation are those adopted by the MERS Retirement Board, after extensive analysis and recommendation by our actuarial firm, Gabriel Roeder Smith & Company
Plans can address UAL by increasing their assets and by reducing or eliminating liability moving forward.
As an invested account, adding more assets to the plan not only reduces UAL, but the power of compounding rewards pre-funding through the potential for more investment earnings. Funding strategies include:
- Cost sharing with employees
- More than 2/3 of MERS plans require employee contributions
- May not make a large impact to UAL for retiree-heavy divisions
- Making additional voluntary contributions that employers can choose to use to
- Pay down UAL using surplus divisions
- Reduce future contributions
- Some employers may be able bond for all or a portion of UAL
- There is no guarantee that future unfunded liabilities will not occur
Plan Design Strategies
Plan design strategies can reduce future liability, but won’t eliminate the funding gap. Because the obligation to pay for benefits earned in the past will remain, the only way to eliminate UAL is to pay it off. Plan design strategies that can reduce or eliminate liability going forward include:
- Reducing future liability for new hires by offering a different plan
- Reducing future liability for existing employees by “bridging” their benefits
- Lower the multiplier going forward (with or without freezing final average compensation)
- Eliminate the cost-of-living adjustment (COLA) for future service
- Eliminating accrual of future liability by freezing the plan and offering a Defined Contribution Plan
- Offering participants who are both terminated and vested the option to accept a lump sum payment in lieu of future monthly pension payments
For more information, click on the managing UAL publication (pdf).