GASB 75 – How is Investment Rate of Return Determined?
It’s time to develop an investment policy as you start funding your OPEB obligation.
GASB 75 – How do Discount Rates get Calculated?
Under GASB 75, the discount rate or investment rate of return will be based on three factors:
- Your funding policy – how much you will contribute each year
- Your investment policy – what asset classes are being utilized
- The Plan’s projected benefit payments
Plans operating on a “pay-as-you-go” basis or funding very modestly will be forced to value their plan using a 20-year municipal bond index rate (1.93% as of December 31, 2020) while those invested with higher equity allocations and more robust funding policies may be able to value their plan at 7.00% or higher. Given that plan liabilities move in the opposite direction of interest rates, this may change disclosed liabilities materially.
What can you do?
Under GASB 75, a written or formal funding policy will be required (contribute free cash, post-pension deferred funding, meals tax, etc.). Additionally, you will want to work with your investment advisors to develop a formal investment policy (e.g., 40% bonds, 40% US Equities, 10% Int’l Equities, 10% Cash) so that your actuary can properly determine a long-term investment return. The issue, as always, is that more equity exposure will yield a higher assumed interest rate (and lower disclosed OPEB liabilities), but it comes at a cost of higher volatility.
We encourage you to review the options with your investment advisor to determine the proper allocation for your organization & Plan.
As always, feel free to contact one of our consultants with any questions you may have.
Links to additional White Papers: