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5 Ways to Reduce Your Retiree Healthcare (OPEB) Liability
Bottom Line Up Front
- As with most organizations, liability management is a top priority for towns and municipalities.
- Most municipalities are eager to manage, reduce, and even eliminate their OPEB liability, but how do they do that?
- Here are 5 potential options that can be used in combination with each other: pre-fund the plan, change eligibility, modify cost-sharing, a hybrid plan of cost-sharing & eligibility, and change plans.
Every Town and municipality offering medical benefits to retirees will report an OPEB liability on their financial statements. Most municipalities are eager to manage, reduce, or even eliminate their OPEB liability. That sounds like a great goal, but how can a Town actually reduce or eliminate this liability?
Here are 5 potential options to consider:
1. Pre-fund the Plan
One of the most obvious ways to eliminate or reduce the OPEB liability is to pre-fund the plan. Before everyone starts getting their rotten fruit to throw at us… we acknowledge this is simple in theory but also challenging in practice. We all know that if we could snap our fingers and have money materialize, we wouldn’t have liabilities, we’d have assets. While most won’t be able to flip a switch and fully prefund, over time many municipalities can make progress in eliminating their OPEB liabilities through pre-funding.
One reason we start with funding as a method to eliminate an OPEB liability is that funding works to reduce both Total OPEB Liability (TOL) and Net OPEB Liability (NOL). Under GASB 74 & 75, plans that are pre-funding can use a higher discount rate (based on your investment policy) than plans that are not pre-funding (assuming they also have an investment policy that isn’t 100% in cash). A higher discount rate decreases the TOL at the same time that assets reduce the NOL.
If you’re interested in learning more about pre-funding your OPEB plan: Here are the top 6 reasons to pre-fund your OPEB
Every way to reduce OPEB liability aside from pre-funding requires a change to the terms of the OPEB benefit. The benefit terms that can be changed to reduce or eliminate OPEB Liability are:
- Eligibility: Increase the age or year of service required for a participant to become eligible for the benefit.
- Cost-sharing: Increase the amount of the benefit that the participant pays for.
- Change the plans offered: Offering participants less expensive plans or limited network plans will reduce costs.
2. Change Eligibility
Changing eligibility can reduce OPEB liability. If participants are required to achieve more years of service or reach an older age to qualify for OPEB benefits, that will reduce the number of people taking OPEB benefits and the cost of those benefits.
*Please note that this option may not be available in every state or municipality – check with your Counsel.
Often changes to eligibility are made for new hires after a set date. This ensures that employees hired before that date, who have been promised a certain benefit, do not have the terms of that benefit changed on them. Some municipalities take this all the way to the point where it would eliminate the OPEB liability by declaring employees hired after a certain date are never eligible for the plan. Over time that will bring the OPEB liability to zero as employees and retirees who are eligible leave the plan and are replaced by employees and retirees that are not eligible for the benefit.
Another driver of the Municipality’s OPEB liability is the amount of the OPEB benefit paid by the individual versus the amount paid by the municipality. The more that the participant pays for the benefit the less the municipality pays and the lower their related OPEB Liability.
Cost-sharing alone cannot completely eliminate OPEB liability. Even if the participant pays 100% of the cost for their OPEB benefits, Actuarial Standards of Practice and GASB require that the cost of an “Implicit Subsidy” be valued as an OPEB liability.
In regards to OPEB, an implicit subsidy refers to the fact that older individuals tend to have higher medical care costs than younger individuals. Yet, in the public sector (and certain states where mandated by law), most plans will charge the same premium for all people in the same plan or coverage regardless of age. Therefore, the younger employee is paying more than they otherwise would if the retirees were not on the plan and the older person is paying less than they would if the younger person was not on the plan. This indirect transfer of cost from the older retiree to the younger employee is subsidizing the costs of the older retiree and is known as “Implicit Subsidy”.
4. A Hybrid Plan of Cost-Sharing and Eligibility
A hybrid strategy of changing cost-sharing and eligibility is to base the cost-sharing on age and/or years of service. For example:
In this scenario, someone who retired at age 60 with 10 years of service would pay 75% of the cost of their OPEB benefits while someone who retired at 66 with 30 years of service would pay 0%. This strategy can reduce OPEB liability while rewarding those who contribute more years of service to the municipality with a lower cost-benefit (similar to a pension plan where you receive a higher level of benefits based on both service and age).
5. Change Plans
The last way to reduce OPEB Liability is by changing the plans offered. Choosing plans that have restricted prescription drug benefits (plan formulary) or networks can reduce the cost of medical plans and thus decrease your OPEB liability.
A great example of this happened in Massachusetts over the last few years. Many municipalities updated the prescription drug offerings in their Medicare Supplement plan – most retirees saw no impact but some higher-cost drugs used by a more limited population saw changes in cost-sharing and/or were replaced with other more cost-effective offerings. This modest change allowed many plan sponsors to reduce their OPEB liability by 15%-35%.
It’s important to remember when thinking about an OPEB plan that claims after age 65 usually represent 70% – 85% of the OPEB liability so changes to Medicare Supplement plans will have the greatest impact on reducing liabilities.
There are several ways to reduce or even eliminate your OPEB liability. Most municipalities seeking to reduce or eliminate their OPEB liability use some combination of funding, changes to eligibility, changes to cost-sharing, and/or managing medical insurance plans. In combination, multiple strategies reduce liability in several ways at once. What strategies can you use to start reducing your OPEB liability?
If you’ve come across more ways that have helped your town or municipality, we’d love to hear from you!
More Insights From This author
Understanding Asset Allocation
Implicit Subsidy in OPEB Plans
5 Ways to Reduce Your Retiree Healthcare (OPEB) Liability
How Your OPEB Long-Term Rate of Return Is Determined
What It’s Like Being an Actuary
The Difference Between a Stabilization Fund and an OPEB Trust
What is an OPEB Obligation Bond and Should You Consider One?