Retirement insights from a Colorado PERA perspective

A distant view shows a mountainous landscape with sloping peaks, green trees in the foreground, and a cloudy sky above.

This year, as part of its regular review process, the Colorado PERA Board of Trustees will enlist an outside firm to conduct an audit of the methods and assumptions PERA’s actuaries use in their calculations.



But what is an actuary and what do they do?



Actuaries are highly skilled mathematicians who help pension plans, insurance companies, and other financial organizations plan for the future based on historical and anticipated demographic, trend, and financial data. In short, actuaries aim to predict the future as accurately as possible.



<h4 class="wp-block-heading">What does an actuary do for a retirement system like PERA?</h4>


<div class="wp-block-image">
<figure class="alignright size-large is-resized"><img decoding="async" loading="lazy" src="https://content.copera.org/explaining-the-role-of-actuaries-in-retirement-plans-like-pera/" alt="" class="wp-image-5035" width="205" height="256"/><figcaption class="wp-element-caption">PERA Senior Actuary Koren Holden</figcaption></figure></div>


A retirement system could not function without actuaries. At Colorado PERA, Senior Actuary Koren Holden works with third party actuaries to make sure the Board and PERA leadership have an accurate understanding of PERA’s financial health.



“I act as a liaison between the PERA Board and Executive Team and the Board’s external actuarial service provider,” Holden said. “I am responsible for completion and timely delivery of all the requested actuarial work (i.e., actuarial valuations, special calculations, periodic actuarial studies, etc.) and also responsible for the initial review of all actuarial work to ensure completeness and reasonability.”



In order to pay benefits to retirees for decades to come, retirement plans like PERA need to make predictions about various factors that will determine how much money the plan needs to have on hand to pay those benefits. Actuaries develop those predictions — called actuarial assumptions — and calculate the effects they may have on the plan’s finances.



<h5 class="wp-block-heading">Actuarial assumptions</h5>



Pension plan assumptions fall into two categories: demographic and economic assumptions. Demographic assumptions attempt to accurately anticipate events that occur over the lifetime of plan participants, which can influence the amount and timing of benefits. They include:



<ul>
<li>Life expectancy (how long will plan participants live?)</li>



<li>Rates of retirement (when will plan participants retire?)</li>



<li>Mortality trends (how many participants will die before/after receiving a benefit?)</li>



<li>Salary growth (how quickly and by how much will salaries change for different groups of employees?)</li>
</ul>



Economic assumptions attempt to anticipate financial factors that can impact the cost of future benefits and the rate at which they are funded, such as:



<ul>
<li>Inflation (what will be the rate of consumer inflation in the future?)</li>



<li>Investment rate of return (how much investment income will the fund earn?)</li>
</ul>



Per Colorado statute, all actuarial assumptions recommended by the actuary are subject to approval by the PERA Board. Actuaries make recommendations to the Board, and the Board adopts them or requests further analysis and revised recommendations to be considered later.



<h5 class="wp-block-heading">Annual actuarial valuations</h5>



Actuaries conduct comprehensive studies known as annual actuarial valuations to evaluate funding progress and the impact of year-to-year changes on a pension plan’s finances. A valuation provides a summary of the plan’s funded status, funding period and recommended contribution rates, and often includes accounting information as required under the Governmental Accounting Standards Board (GASB) statements for public pension plans. In order to perform the valuation and provide this information, the actuary takes into consideration contributions, investment returns, demographic changes, retirements, withdrawals, economic factors, deaths, hires, and other system data.



The annual actuarial valuation is the backbone of the Annual Comprehensive Financial Report, a pension plan’s required public report of financial health.



<a href="https://www.copera.org/financial-reports-and-studies" target="_blank" rel="noreferrer noopener">Click here</a> to read the latest Colorado PERA actuarial valuation and Annual Comprehensive Financial Report.



<h5 class="wp-block-heading">Experience analysis</h5>



An experience study compares the actual experience of the plan to the predictions made by the actuarial assumptions, including rates of death, retirement, separation from service, disability and salary increases. The comparison of actual results to predicted results demonstrates to actuaries which assumptions need to be revised to more accurately reflect true demographic and economic conditions. The experience analysis is the foundation for the annual actuarial valuation in that it determines the appropriate assumptions to be applied within the annual actuarial valuation.



PERA <a href="https://peraontheissues.com/2020-experience-study-preparing-for-a-secure-future/" target="_blank" rel="noreferrer noopener">last conducted an experience study</a> in 2020, and the Board adopted several new assumptions as a result. This process will take place again in 2024.



<h5 class="wp-block-heading">Other analyses</h5>



In addition to the pension plan’s annual actuarial valuation and periodic experience analyses, an actuary also performs special studies as needed and/or required by law. For instance, if <a href="https://peraontheissues.com/2022-proposed-legislation-status/" target="_blank" rel="noreferrer noopener">proposed state legislation</a> will be making changes to benefit provisions, an actuarial analysis of the proposed change would be necessary to determine the financial effect of the change.



Actuaries provide invaluable expertise to retirement systems like Colorado PERA, ensuring the Board and stakeholders have an accurate picture of the organization’s financial health and the road ahead.



“I love numbers, but my main passion for the work I perform here at PERA is being part of a dedicated team that serves my community as well as the entire state of Colorado,” Holden said. “I like the feeling that all of us at PERA are helping ensure a stable and dignified retirement for the teachers and many other public servants by promoting, promulgating, and defending a strong defined benefit retirement program (not to mention health care access), as the best means to deliver this vision.”

Explaining the Role of Actuaries in Retirement Plans like PERA

In 2012, the Governmental Accounting Standards Board (<a href="https://www.copera.org/pera-on-the-issues/pera-staff-comment-on-proposed-actuarial-standard-changes">GASB</a>) introduced revised requirements for public pension plans (<a href="https://content.copera.org/despite-changes-in-accounting-standards-pera-remains-on-track/">GASB 67</a>) and employers affiliated with those public pension plans (<a href="https://www.copera.org/despite-changes-in-accounting-standards-pera-remains-on-track" class="broken_link">GASB 68</a>) that significantly changed how public pension assets and liabilities were to be measured and disclosed for accounting and financial reporting (rather than funding) purposes.



Prior to 2012, the assets and liabilities determined for funding purposes typically were appropriate also to be used for accounting and financial reporting requirements under GASB 25 for most public pension plans. But as a result of the 2012 revisions, public pension plans – including PERA – now report two different measures of funded status: the first, based on the actuarial methods and assumptions under the <a href="https://www.copera.org/despite-changes-in-accounting-standards-pera-remains-on-track" class="broken_link">pension funding policy adopted by the PERA Board</a> and the second, based on the revised accounting and financial reporting requirements under GASB 67. PERA and PERA employers first began reporting under GASB 67 in 2014 and GASB 68 in 2015, respectively.



The revised GASB statements relate to accounting and financial reporting issues only—how pension costs and obligations are measured and disclosed in audited external financial reports. While in the past there has been a close relationship between how governments fund pensions and how they account and report information, the guidance under GASB 67 and GASB 68 established a decided shift from the former funding-based approach to an accounting-based approach. This shift was designed to improve the usefulness of reported pension information and increase the transparency, consistency, and comparability of pension information across governments.



(To learn more about the changes to accounting rules, visit PERA’s <a href="https://www.copera.org/employers/gasb-reporting-standards">GASB guidance section</a>.)



<a href="https://content.copera.org/despite-changes-in-accounting-standards-pera-remains-on-track/">Under GASB 67</a>:



the rate used to discount projected benefit payments to their present value will be based on a single rate that reflects (a) the long-term expected rate of return on plan investments as long as the plan net position is projected under specific conditions to be sufficient to pay pensions of current employees and retirees and the pension plan assets are expected to be invested using a strategy to achieve that return; and (b) a yield or index rate on tax-exempt 20-year, AA-or-higher rated municipal bonds to the extent that the conditions for use of the long-term expected rate of return are not met.



In 2017, PERA determined the plan’s liabilities using a discount rate of 7.25 percent as set by the PERA Board for funding purposes—applicable to all five division trust funds, but also determined the plan’s liabilities using a blended discount rate considering the 7.25 percent assumption and a municipal bond rate, in part, [as required under GASB 67 provisions (a) and (b) above] for financial reporting purposes—applicable to three of the five division trust funds. For example, this resulted in a 59.4 percent funded status for the School Division and 57.5 percent funded status for the State Division determined for funding purposes and a 44.0 percent and 43.2 percent funded status, respectively, determined under GASB 67, for accounting and financial reporting purposes.



In dollar amounts, unfunded liabilities for the first calculation total $28.8 billion and for the second, $54.6 billion; a difference of $25.8 billion.



So what’s the “real” number? Senate Bill 18-200 reduced PERA’s liabilities, no matter which reporting basis is used. Prior to SB 200, liabilities determined for funding purposes were $32.2 billion and projected to increase another $1.4 billion. With the implementation of SB 200, funding liabilities declined $3.4 billion to $28.8 billion and are projected to be eliminated within a 30-year period.


<div class="wp-block-image">
<figure class="alignleft"><a href=""><img decoding="async" src="https://content.copera.org/despite-changes-in-accounting-standards-pera-remains-on-track/"Lowering the Liability" class="wp-image-2149"/></a></figure></div>

Despite Changes in Accounting Standards, PERA Remains On Track

Colorado PERA Interim Executive Director Ron Baker recently sent a <a href="https://peraontheissues.com/wp-content/uploads/2018/08/Colorado-PERA-Response-to-ASOP-No.-4-Exposure-Draft_07-26-2018.pdf" target="_blank" rel="noreferrer noopener">letter</a> to the <a href="http://www.actuarialstandardsboard.org/about-asb/" target="_blank" rel="noreferrer noopener">Actuarial Standards Board</a> (ASB) providing input on <a href="http://www.actuarialstandardsboard.org/asops/measuring-pension-obligations-and-determining-pension-plan-costs-or-contributions-proposed-revision-march-2018/" target="_blank" rel="noreferrer noopener">proposed revisions to standards for actuaries who measure pension obligations</a>, Actuarial Standard of Practice (ASOP) No. 4, Measuring Pension Obligations and Determining Pension Plan Costs or Contributions.



<blockquote class="wp-block-quote">
Read more about what it means to be an actuary <a href="https://content.copera.org/pera-staff-comment-on-proposed-actuarial-standard-changes/" target="_blank" rel="noreferrer noopener">here</a>.
</blockquote>



The Actuarial Standards Board establishes and improves standards of actuarial practice. Like all professional actuaries, the actuaries retained by PERA are expected to adhere to the standards of the ASB, so any changes to those standards that impact public pensions would have a direct impact on <a href="https://www.copera.org/pera-staff-comment-on-proposed-actuarial-standard-changes" target="_blank" rel="noreferrer noopener" class="broken_link">results</a> that PERA’s actuaries report.



Periodically, PERA staff <a href="https://www.copera.org/pera-staff-comment-on-proposed-actuarial-standard-changes" target="_blank" rel="noreferrer noopener" class="broken_link">offer</a> <a href="https://content.copera.org/advocating-for-investors-benefits-pera-members-and-retirees/">comments</a> on proposed regulatory changes as a part of monitoring the standards and related guidance that affect how public pension plans, or investments made by such plans, are governed and regulated.



By informing regulators of their perspective, PERA staff have a voice in decision making processes that can directly impact how public pension plans operate and how their investments perform. This in turn helps to protect the interests of PERA members and retirees.



The comment letter sent in July supported the bulk of the proposed revisions to actuarial standards, but PERA staff expressed concerns about confusion that would be created by requiring an additional liability measurement that is primarily used in non-governmental (corporate) pension plans. Public plans with governmental sponsors such as PERA have a uniquely long-term time horizon, making evaluations that could be suitable for private pensions inappropriate for those public plans.



<blockquote class="wp-block-quote">
Read more than 60 additional comment letters submitted to the ASB <a href="http://www.actuarialstandardsboard.org/wp-content/uploads/2018/08/ASOP-No.-4-Combined-Comments-minus-14_30_45-and-50.pdf" target="_blank" rel="noreferrer noopener">here</a> and a response from the American Academy of Actuaries <a href="http://actuary.org/files/publications/ASOPs_4-27-35_Comments_07.31.2018.pdf" target="_blank" rel="noreferrer noopener">here</a>.
</blockquote>



The proposed changes to the standards include a recommendation to calculate an “investment risk defeasement measure” (IRDM). This technical-sounding concept is, essentially, one way to measure investment risk for pension plans.



PERA’s letter focuses primarily on concerns about how the IRDM would be calculated if the proposed revisions were implemented. The letter states that the proposed investment-risk measure is “basically flawed in concept, calculation, and application” and notes concern about the “risk of misinterpretation and misuse, inaccurate and inappropriate calculations and reputational risk for the actuarial profession” if the standards were adopted.



A few concerns PERA staff stated in the letter include:



<ul>
<li>The required actuarial cost method is inappropriate. The proposed changes would make standard a “unit credit cost method” for funding valuations, a method that is not appropriate for public pension plans and, in fact, is not allowed by the <a href="https://www.copera.org/pera-on-the-issues/pera-staff-comment-on-proposed-actuarial-standard-changes" target="_blank" rel="noreferrer noopener">Governmental Accounting Standards Board</a>, (GASB) for valuations that are made for “accounting and financial disclosure purposes.”</li>



<li>Demographic assumptions are inappropriate. Plan members who no longer earn pay increases or future service credits behave differently than members who still might, making assumptions intended for an “ongoing” plan inappropriate.</li>



<li>The discount rate is unrealistic. Unlike private sector plans, public pension plans like PERA serving large populations of public employees “are typically considered ongoing entities as are the governments they benefit.” Just as the State of Colorado isn’t going anywhere, neither are the public employees who make up the membership of its pension plan. PERA staff believe that the discount rates allowed under the proposed standards “are not representative of a discount rate that would accurately value funding liabilities of an ongoing plan.”</li>



<li>The results of calculations would not be useful. The proposed calculations to determine an investment-risk measure would not add value for the users of PERA’s funding valuation and would not contribute pertinent information for making long-term funding decisions. This metric, therefore, “would simply be an expensive requirement with no real value to the users.”</li>



<li>A new pension liability would be confusing. Issuing an additional new pension liability would create confusion, and likely would be misinterpreted as a recommendation of PERA’s actuary, even if there were a disclosure stating otherwise. PERA staff believe the proposed approach would “unnecessarily cause confusion and misunderstanding among the memberships, employers, legislators, and taxpayers who embody the stakeholders of all public pension plans.”</li>



<li>The proposed approach is narrow minded. “Investment risk defeasement measure” suggests that this is a measure of investment risk. However, it would not test or reflect other aspects of risk, such as investment return volatility. Furthermore, a more broad-based approach has been reflected in other proposed actuarial standards (<a href="http://www.actuarialstandardsboard.org/asops/assessment-disclosure-risk-associated-measuring-pension-obligations-determining-pension-plan-contributions-3/" target="_blank" rel="noreferrer noopener">ASOP No. 51</a>).</li>
</ul>



The comment letter concluded by explaining that public pension plan boards and staff are “constantly working toward the defined goals of ensuring transparency and accountability while promoting contribution rate stability and intergenerational equity.”



PERA staff will continue to monitor the Actuarial Standards Board proposal on and update readers of PERA on the Issues if there are further developments.



Review PERA’s Comments to ASOP No. 4 Exposure Draft Letter <a href="https://peraontheissues.com/wp-content/uploads/2018/08/Colorado-PERA-Response-to-ASOP-No.-4-Exposure-Draft_07-26-2018.pdf" target="_blank" rel="noreferrer noopener">here</a>.

PERA staff comment on proposed actuarial standard changes

PERA addresses new economic and demographic realities.



The PERA Board of Trustees met on Friday, January 20, and received updated information from their actuaries regarding the trust funds’ amortization period, or the amount of time it will take for each division trust to become fully funded. This action follows the regular and rigorous review process started late last year when the Board adopted new mortality tables to reflect longer life expectancies, and lowered the expected rate of return to better reflect anticipated market conditions.



The new amortization periods increased between 14 years to 31 years, depending on the Division. This increase is on top of the approximately 40-year amortization periods that existed at the end of 2015. The new projections show that PERA is able to pay benefits over the extended time period, but may not be able to withstand a significant market downturn (like in 2008-2009). Changes in demographics (people are living longer) and economics (expected market returns) have extended the period until PERA reaches full-funded status, increasing the risk facing members, taxpayers, and Colorado.



<blockquote class="wp-block-quote">
All major Divisions are stable, solvent, and able to pay all benefits in perpetuity. While economic and demographic conditions have changed, this is not 2009 and PERA is not running out of money.
</blockquote>



The amortization period of the Judicial Division is much longer than other divisions. It is expected legislation will be introduced this year to address the Judicial Division’s funded status. The Judicial Division is PERA’s smallest member division with 700 active, inactive, and retired members.



The continued health of PERA is vital for the security of our members and the economic stability of communities throughout Colorado. To ensure PERA’s sustainability, the PERA Board has directed staff to embark on an effort to educate and engage a range of stakeholders on the topic of PERA’s funded status and what might be done to improve it. This effort will take place during the course of the year and there will be ample opportunities for members, policy makers, taxpayers and others to participate. More information will be forthcoming.



<ul>
<li>See the <a href="https://content.copera.org/actuarial-impact-analysis/">previous PERA on the Issues article</a> on the impact of assumption changes.</li>



<li><a href="https://peraontheissues.com/wp-content/uploads/2017/01/Stakeholder-Outreach-Agenda-1.pdf">Stakeholder Outreach Agenda</a></li>
</ul>



Important terms for understanding PERA’s amortization period:



<ul>
<li>Amortization period – the time it will take to achieve 100 percent funded status.</li>



<li>Solvent – the trusts have enough money to pay benefits throughout the amortization period.</li>



<li>Insolvent – the trusts are projected to be depleted in the future.</li>



<li>Exhaustion – same as insolvent; the trusts are projected to be depleted in the future.</li>
</ul>



PERA on the Issues posts are written and compiled by the staff of Colorado PERA under the direction of Executive Director Greg Smith and the PERA Board of Trustees. We encourage you to comment with your thoughts and feedback.

More on the Impact of Assumption Changes

In late November, the PERA Board of Trustees voted to lower PERA’s expected investment rate of return to 7.25 percent from 7.5 percent and adopt new mortality tables. &nbsp;These changes will increase the amount of time for PERA to become fully funded (read more about determining PERA’s funded status <a href="https://www.copera.org/impact-assumption-changes" class="broken_link">here</a> and the news release <a href="https://peraontheissues.com/wp-content/uploads/2016/12/AssumptionandJudicialChanges_11-16-1.pdf">here</a>).



The Board took action after a rigorous review process that started in September and included an experience study of what had actually happened in each Division’s fund, along with input from economic, investment, and actuarial experts. The adoption of new mortality tables and the lowered rate of return will result in extending PERA’s <a href="http://www.investopedia.com/ask/answers/010915/what-does-amortization-mean-context-pension-plan.asp?ad=dirN&amp;qo=investopediaSiteSearch&amp;qsrc=0&amp;o=40186">amortization period</a>.



In October 2015, the Colorado Office of the State Auditor released a <a href="http://leg.colorado.gov/sites/default/files/documents/audits/1416s_colorado_pera_sensitivity_analysis_report_hybrid_defined_benefit_plan_actuarial_assumptions_october_2015.pdf">report authored by Pension Trustee Advisors</a> (PTA) to the General Assembly’s Legislative Audit Committee. This analysis looked at the various components used in determining PERA’s financial health. The PTA analysis included a signal light methodology designed to expand how PERA reports on its funded status as well as the likelihood of achieving its full funding objectives.



In 2016, PERA implemented the signal light methodology as part of its 2015 financial reporting. The methodology showed that all of PERA’s five division trust funds are sustainable and on a path to full funding. However, the Judicial Division is in the “orange” signal light category, indicating steps should be taken to reduce the amortization period of this small Division.



It is important to note, factoring in the changes made to actuarial and economic assumptions by the Board in November 2016, the trusts are not projected to run out of money as was the case before the 2010 reform legislation was enacted.



What are the next steps?



In November, the PERA Board charged PERA staff with convening broad-based conversations throughout the State of Colorado regarding PERA’s financial condition and serving as the trusted resource for stakeholders and policy makers statewide.



PERA will know more about the extension of the amortization period for each Division’s trust and the impact of the Board’s assumption changes in January after PERA’s actuaries finish their work. While the full extent of the impacts from these assumption changes is still being determined, it is clear that PERA is fully sustainable and will continue to pay benefits throughout the period it takes to reach 100 percent funded. The Board continues to be committed to making difficult and complex decisions in the best interest of PERA members, and will take a measured approach to ensure PERA is on the path to becoming fully funded in a reasonable period of time and remains one of Colorado’s best investments.



PERA on the Issues posts are written and compiled by the staff of Colorado PERA under the direction of Executive Director Greg Smith and the PERA Board of Trustees. We encourage you to comment with your thoughts and feedback.

The Impact of Assumption Changes

Every year, the actuarial consulting firm retained by the Colorado PERA Board of Trustees performs an <a href="https://content.copera.org/determining-peras-funded-status-part-art-part-science/">actuarial valuation</a>. An actuarial valuation is an estimate of the cost of providing retirement benefits to current and future retirees in the system. This analysis requires the use of a variety of assumptions that represent the best estimates of the future, using both demographic and economic assumptions. Because the assumptions are predictions of the future using mathematical modeling, they are a blend of both art and science.



PERA’s Board of Trustees has a <a href="https://www.copera.org/2018-board-election-underway" class="broken_link">fiduciary</a> duty to select assumptions that will fall within a range of probable outcomes over time. There are two types of assumptions – demographic and economic – that are both long-term in nature but vary from over time. While the most powerful assumption in PERA’s actuarial valuation is the investment return, other assumptions factor into the final funded status result provided by the valuation. The funded status provides a ratio of the plan’s current and future assets to its current and future liabilities. It is a measure of the fund’s current assets compared to the net present value of expected future liabilities driven by the benefit payment estimates.



Demographic assumptions used by PERA’s actuaries attempt to estimate the answers to the following questions:



<ul>
<li>How many members will leave PERA-covered employment?</li>



<li>How many members will retire with a disability?</li>



<li>How many members will retire?</li>



<li>What will active member salary increases be?</li>



<li>How many members with more than five years of service credit will refund their accounts?</li>



<li>At what age will members with more than five years of service credit retire?</li>



<li>How many members will die before retiring?</li>



<li>How long will members/retirees live?</li>
</ul>



Every few years, these demographic variables are reviewed so adjustments can be made to reflect what actually happened and adjust estimates for the future. These adjustments are what actuaries call gains and losses.



Once all the various demographic factors are assessed and aggregated, they are used to calculate what the retirement system owes to members in the plan now and into the future. This amount, also known as PERA’s total liabilities, reflects the value of all current and future benefits payable to members. Keep in mind that not all benefits are due and payable at once.



Economic assumptions are used to calculate the current and future value of all PERA assets which will be measured against the liabilities to determine a funded percentage (status). Economic assumptions used by PERA include:



<ul>
<li>Price inflation;</li>



<li>Wage inflation; and</li>



<li>Investment return.</li>
</ul>



These variables are compared to recent experience and rely on both long-term historical information and expected future investment performance.



The long-term rate of return assumption, as mentioned previously, is the most powerful of all the assumptions used and therefore it receives a lot of attention. According to the National Association of State Retirement Administrators (<a href="http://www.nasra.org/files/Issue%20Briefs/NASRAInvReturnAssumptBrief.pdf">NASRA</a>), “many public pension plans have reduced their return assumption in recent years. Among the 127 plans measured, more than one-half have reduced their investment return assumption since fiscal year 2008. The average return assumption is 7.62 percent.”



Details on the long-term rate of return assumption and the rates other public pension systems in the country use may be found in the <a href="http://www.nasra.org/files/Issue%20Briefs/NASRAInvReturnAssumptBrief.pdf">2016 NASRA Issue Brief</a> on public pension plan investment return assumptions.



Once the economic assumptions are set, they are applied to the expected liabilities in the PERA trusts to determine their present value. This amount is compared to the value of assets currently in the trusts in order to determine a funded ratio. Then the actuaries calculate the number of years it will take for assets to match liabilities based upon future asset performance and contributions. The result of this calculation is the amortization period. PERA’s funded status at the end of 2015 was 62 percent based on the actuarial value of assets. At the end of 2015, the time required to reach full funding for PERA’s large division trust funds, or the amortization period, was approximately 44 years.



The PERA Board is slated to review and possibly adjust the economic and demographic assumptions at the November 18 meeting.



Read more about what <a href="https://www.copera.org/determining-peras-funded-status-part-art-part-science" class="broken_link">actuaries</a> do and about PERA’s <a href="https://www.copera.org/determining-peras-funded-status-part-art-part-science" class="broken_link">best actuarial practices</a>.



PERA on the Issues posts are written and compiled by the staff of Colorado PERA under the direction of Executive Director Greg Smith and the PERA Board of Trustees. We encourage you to comment with your thoughts and feedback.

Determining PERA’s Funded Status – Part Art, Part Science

Report Marks 5th Consecutive Year for Clean Audit



For the fifth consecutive year, the Colorado Public Employees’ Retirement Association (PERA) received a <a href="https://content.copera.org/colorado-pera-2015-financials-receive-clean-audit/">clean financial audit</a>. Auditors did not find any significant deficiencies or material weaknesses in PERA’s financial reporting or controls. Nor did their report make any recommendations for best practices improvements.



Every year, the Office of the State Auditor contracts with an independent accounting firm that reviews the financial operations of PERA. The findings of the 2015 audit were released today after receiving approval from Legislative Audit Committee of the Colorado General Assembly. The audit was conducted by national firm <a href="http://www.claconnect.com/">CliftonLarsonAllen</a>. PERA’s actuary, <a href="http://cavmacconsulting.com/">Cavanaugh Macdonald</a>, also provided information about the funded status of the state’s largest retirement system.



In addition to reviewing and approving the audit, the Legislative Audit Committee also reviewed PERA’s implementation of a new reporting methodology designed to communicate PERA’s financial health. PERA’s use of this new “signal light” technology, developed by <a href="http://pensiontrusteeadvisors.com/">Pension Trustee Advisors</a> in accordance with Senate Bill 14-214, showed the PERA trusts to be in the yellow category, meaning that the trusts are sustainable, but will require more than 40 years to reach 100 percent funding levels. The yellow designation reflects that the plan will be able to pay benefits into the future, unlike the situation in 2009 when the fund was predicted to run out of funds in 20 years. As a result of those projections, the General Assembly passed <a href="https://www.copera.org/preview?pageid=41010">Senate Bill 10-001</a>, which resulted in significant reforms that returned the fund to being able to always pay benefits due.



“This year’s clean audit and PERA’s adoption of the signal light technology demonstrate our commitment to transparency, as well as our desire to ensure the highest level of quality in all of our operations,” said Gregory W. Smith, PERA Executive Director. “We take seriously our responsibility to provide a secure retirement for our members. That means ensuring that our operations are sound and providing an honest assessment of the financial status of the fund,” he added.



Colorado PERA provides retirement and other benefits to more than 547,000 current and former teachers, State Troopers, corrections officers, snow plow drivers, and other public employees who provide valuable service to all of Colorado. PERA is a vital and stable contributor to Colorado’s economy, distributing $3.7 billion in 2015 to retirees who live in Colorado. PERA is one of Colorado’s best investments.

Colorado PERA 2015 Financials Receive Clean Audit

<a href="http://www.careercast.com/jobs-rated/best-jobs-2015" target="_blank" rel="noreferrer noopener" class="broken_link">CareerCast.com</a> ranked the actuarial profession first in their annual best jobs report for 2015 and in the <a href="http://www.careercast.com/jobs-rated/best-jobs-2016" target="_blank" rel="noreferrer noopener" class="broken_link">top 10 for 2016</a>. Actuaries have been high on the list for the last several years with other math-intensive professions like statistician, mathematician, and data scientist. The ranking is based on factors like income potential, hiring outlook, work environment, and stressfulness of the occupation. But just what does an actuary do?



Actuaries are highly skilled mathematicians who help pension plans, insurance companies, and other financial organizations plan for the future based on historical and anticipated demographic, trend, and financial data. The <a href="https://content.copera.org/part-super-hero-part-fortune-teller-100-percent-actuary/" target="_blank" rel="noreferrer noopener">Society of Actuaries</a> describes an actuary as “a business professional who analyzes the financial consequences of risk.” Actuaries use a plethora of mathematical tools from probability and statistics to financial theory in order to calculate various risks that an organization such as a pension plan could encounter in its business operations.



An actuary usually has a bachelor’s degree in actuarial science, mathematics, statistics, finance, or economics, and is trained in probability, compound interest, business, and finance. Beyond education, the actuary designation requires passage of a <a href="https://www.soa.org/Education/Exam-Req/default.aspx" target="_blank" rel="noreferrer noopener">series of exams</a> that usually takes six to 10 years to complete, and practicing actuaries are typically affiliated with professional organizations that hold the actuary and the profession to high standards of practice.



Actuaries work in any industry where risk must be analyzed, including insurance, investment management, corporate finance and banking, as well as for colleges and universities, public accounting firms, labor unions, rating bureaus, and pension plans.



What does an actuary do for a retirement system?



A retirement system could not function without actuaries. Actuaries develop the underlying actuarial assumptions that determine everything from funding status and contribution requirements to expectations surrounding membership and benefit payouts. Additionally they assess risk, cost, and the likelihood of various future scenarios based on changes to membership demographics, investments, plan structure, and legislative or policy changes. Actuarial assumptions are the heart of pension administration.



What is an actuarial assumption?



An actuarial assumption is an estimate of the value of a variable in a financial model. Pension plan assumptions fall into two categories: demographic assumptions and economic assumptions. Demographic assumptions attempt to accurately anticipate events that occur over the lifetime of plan participants and influence the amount and timing of benefits. For instance:



<ul>
<li>Life expectancy (how long will plan participants live?)</li>



<li>Rates of retirement (when will plan participants retire?)</li>



<li>Mortality before retirement/mortality after retirement (how many participants will die before/after receiving a benefit?)</li>



<li>Rates of salary increase (how quickly and by how much will salaries change for different groups of employees?)</li>
</ul>



Economic assumptions attempt to anticipate financial aspects, which may impact the cost of future benefits and the rate at which they are funded, such as:



<ul>
<li>Price inflation (what will be the rate of consumer inflation in the future?)</li>



<li>Investment rate of return (how much will a particular fund or asset base return in the financial market place?)</li>



<li>Wage inflation (how will wages rise compared to rising prices?)</li>
</ul>



Mortality assumptions and the investment assumption rate are two critical actuarial assumptions for any pension plan. The first are based on life expectancies for various demographic groups, a necessary tool to predict how long benefits need to be paid out after a person retires. The investment assumption rate is another critical piece for pension planning. This assumption looks at the asset allocation of a plan’s investments (stocks, bonds, real estate, private equity, commodities, cash), and through detailed modelling and historical analysis, predicts the rate of return that the plan’s assets should expect to make over a very long time horizon. View the <a href="https://www.copera.org/part-superhero-part-fortune-teller-100-percent-actuary" target="_blank" rel="noreferrer noopener" class="broken_link">Funding of Colorado PERA webpage</a> for more information. For Colorado PERA, that horizon is 30 to 60 years. This prediction is important because between 60 and 80 percent of a plan’s assets come from investment returns (versus employer and employee contributions), so in order to calculate the correct contribution rate to fund the plan’s liabilities, actuaries must be able to predict how much money will come from returns on the investments. Over the last 25 years, approximately 64 percent of the total dollars in the PERA trusts came from investment income, with the remaining 36 percent coming from employers and employees (18 percent each).



When discussing actuarial assumptions, it is important to understand who “owns” the responsibility of those assumptions. The actuary typically is a consultant who makes recommendations to the plan’s governing body. Per <a href="https://www.copera.org/colorados-state-legislature-goes-to-work-what-to-expect-in-2020" target="_blank" rel="noreferrer noopener" class="broken_link">Colorado statute,</a> all actuarial assumptions recommended by the actuary are subject to approval by the Colorado PERA Board of Trustees. Actuaries make recommendations to the Board, and the Board adopts them or requests further analysis and revised recommendations to be considered later. In addition, on a regular basis, the Board hires outside actuaries to audit the retained actuary’s work.



Annual Actuarial Valuations



Actuaries conduct comprehensive studies known as annual actuarial valuations to evaluate funding progress and the impact of year-to-year changes on a pension plan’s funding progress. A valuation provides a summary of the plan’s funded status, funding period and recommended contribution rates, and often includes accounting information as required under the <a href="https://content.copera.org/part-super-hero-part-fortune-teller-100-percent-actuary/" target="_blank" rel="noreferrer noopener">Governmental Accounting Standards Board (GASB)</a> statements for public pension plans. In order to perform the valuation and provide this information, the actuary takes into consideration contributions, investment returns, demographic changes, retirements, withdrawals, economic factors, deaths, hires, and other system data.



Any pension plan strives to achieve a long-term equilibrium where the money coming in (contributions and investment returns) equals the money going out (benefits and expenses). It’s a simple formula based on the underlying “actuarial balance” of a plan:



Benefits Paid + Expenses = Contributions + Investment Returns



The annual actuarial valuation is a key factor in monitoring and planning for changes to preserve that equilibrium; in addition it is the backbone of the <a href="https://www.copera.org/part-superhero-part-fortune-teller-100-percent-actuary" target="_blank" rel="noreferrer noopener" class="broken_link">Comprehensive Annual Financial Report (CAFR)</a>, a pension plan’s required public report of financial health.



Experience Analysis



The experience study is an investigation of the economic and demographic experience over a certain length of time; its purpose is to assess the reasonability of actuarial assumptions that support the administration of the pension plan. It compares the actual experience of the plan to the predictions made by the plan assumptions, including rates of death, retirement, separation from service, disability and salary increases. The comparison of actual results to predicted results demonstrates to actuaries which assumptions need to be revised to more accurately reflect true demographic and economic conditions. The experience analysis is the foundation for the annual actuarial valuation in that it determines the appropriate assumptions to be applied within the annual actuarial valuation.



Special Studies



In addition to the pension plan’s annual actuarial valuation and periodic experience analyses, an actuary also performs special studies as needed and/or required by law. For instance, if proposed state legislation will be making changes to benefit provisions, an actuarial analysis of the proposed change would be necessary to determine the financial effect of the change. Numerous special studies were conducted during the creation and adoption of Senate Bill 10-001 in 2010, which made changes to many of Colorado PERA’s benefit provisions. These special studies gave trustees and legislators the cost saving predictions for the proposed changes.



According to the Web site <a href="http://www.beanactuary.org/what/" target="_blank" rel="noreferrer noopener">BeAnActuary.org</a>, actuaries are “part super-hero, part fortune-teller, part trusted advisor.” Maybe that’s why their profession is consistently ranked so highly.

Part Super-Hero, Part Fortune-Teller, 100 Percent Actuary

<a href="http://www.careercast.com/jobs-rated/best-jobs-2015" target="_blank" rel="noreferrer noopener" class="broken_link">CareerCast.com</a> ranked the actuarial profession first in their annual best jobs report for 2015. Actuaries have topped the list for the last few years with other related professions like statistician and mathematician also in the top five. The ranking is based on factors like income potential, hiring outlook, work environment, and stressfulness of the occupation. But just what does an actuary do?



Actuaries are highly skilled mathematicians who help pension plans, insurance companies, and other financial organizations plan for the future based on historical and anticipated demographic, trend, and financial data. The <a href="https://content.copera.org/part-superhero-part-fortune-teller-100-percent-actuary/" target="_blank" rel="noreferrer noopener">Society of Actuaries</a> describes an actuary as “a business professional who analyzes the financial consequences of risk.” Actuaries use a plethora of mathematical tools from probability and statistics to financial theory in order to calculate various risks that an organization such as a pension plan could encounter in its business operations.



An actuary usually has a bachelor’s degree in actuarial science, mathematics, statistics, finance, or economics, and is trained in probability, compound interest, business, and finance. Beyond education, the actuary designation requires passage of a series of exams that usually takes six to 10 years to complete, and practicing actuaries are typically affiliated with professional organizations that hold the actuary and the profession to high standards of practice.



Actuaries work in any industry where risk must be analyzed, including insurance, investment management, corporate finance and banking, as well as for colleges and universities, public accounting firms, labor unions, rating bureaus, and pension plans.



What does an actuary do for a retirement system?



A retirement system could not function without actuaries. Actuaries develop the underlying actuarial assumptions that determine everything from funding status and contribution requirements to expectations surrounding membership and benefit payouts. Additionally they assess risk, cost, and the likelihood of various future scenarios based on changes to membership demographics, investments, plan structure, and legislative or policy changes. Actuarial assumptions are the heart of pension administration.



What is an actuarial assumption?



An actuarial assumption is an estimate of the value of a variable in a financial model. Pension plan assumptions fall into two categories: demographic assumptions and economic assumptions. Demographic assumptions attempt to accurately anticipate events that occur over the lifetime of plan participants and influence the amount and timing of benefits. For instance:



<ul>
<li>Life expectancy (how long will plan participants live?)</li>



<li>Rates of retirement (when will plan participants retire?)</li>



<li>Mortality before retirement/mortality after retirement (how many participants will die before/after receiving a benefit?)</li>



<li>Rates of salary increase (how quickly and by how much will salaries change for different groups of employees?)</li>
</ul>



Economic assumptions attempt to anticipate financial aspects, which may impact the cost of future benefits and the rate at which they are funded, such as:



<ul>
<li>Price inflation (what will be the rate of consumer inflation in the future?)</li>



<li>Investment rate of return (how much will a particular fund or asset base return in the financial market place?)</li>



<li>Wage inflation (how will wages rise compared to rising prices?)</li>
</ul>



Mortality assumptions and the investment assumption rate are two critical actuarial assumptions for any pension plan. The first are based on life expectancies for various demographic groups, a necessary tool to predict how long benefits need to be paid out after a person retires. The investment assumption rate is another critical piece for pension planning. This assumption looks at the asset allocation of a plan’s investments (stocks, bonds, real estate, private equity, commodities, cash), and through detailed modelling and historical analysis, predicts the rate of return that the plan’s assets should expect to make over a very long time horizon. View the <a href="https://www.copera.org/part-superhero-part-fortune-teller-100-percent-actuary" target="_blank" rel="noreferrer noopener" class="broken_link">Funding of Colorado PERA webpage</a> for more information. For Colorado PERA, that horizon is 30 to 60 years. This prediction is important because between 60 and 80 percent of a plan’s assets come from investment returns (versus employer and employee contributions), so in order to calculate the correct contribution rate to fund the plan’s liabilities, actuaries must be able to predict how much money will come from returns on the investments. Over the last 25 years, approximately 64 percent of the total dollars in the PERA trusts came from investment income, with the remaining 36 percent coming from employers and employees (18 percent each).



When discussing actuarial assumptions, it is important to understand who “owns” the responsibility of those assumptions. The actuary typically is a consultant who makes recommendations to the plan’s governing body. Per Colorado statute, all actuarial assumptions recommended by the actuary are subject to approval by the Colorado PERA Board of Trustees. Actuaries make recommendations to the Board, and the Board adopts them or requests further analysis and revised recommendations to be considered later. In addition, on a regular basis, the Board hires outside actuaries to audit the retained actuary’s work. Occasionally the current actuary is replaced in order to bring fresh eyes to the analysis and to maintain financial integrity and an independent outlook.



Annual Actuarial Valuations



Actuaries conduct comprehensive studies known as annual actuarial valuations to evaluate funding progress and the impact of year-to-year changes on a pension plan’s funding progress. A valuation provides a summary of the plan’s funded status, funding period and recommended contribution rates, and often includes accounting information as required under the <a href="https://content.copera.org/part-super-hero-part-fortune-teller-100-percent-actuary/" target="_blank" rel="noreferrer noopener">Governmental Accounting Standards Board (GASB)</a> statements for public pension plans. In order to perform the valuation and provide this information, the actuary takes into consideration contributions, investment returns, demographic changes, retirements, withdrawals, economic factors, deaths, hires, and other system data.



Any pension plan strives to achieve a long-term equilibrium where the money coming in (contributions and investment returns) equals the money going out (benefits and expenses). It’s a simple formula based on the underlying “actuarial balance” of a plan:



Benefits Paid + Expenses = Contributions + Investment Returns



The annual actuarial valuation is a key factor in monitoring and planning for changes to preserve that equilibrium; in addition it is the backbone of the <a href="https://www.copera.org/part-superhero-part-fortune-teller-100-percent-actuary" target="_blank" rel="noreferrer noopener" class="broken_link">Comprehensive Annual Financial Report (CAFR)</a>, a pension plan’s required public report of financial health.



Experience Analysis



The experience study is an investigation of the economic and demographic experience over a certain length of time; its purpose is to assess the reasonability of actuarial assumptions that support the administration of the pension plan. It compares the actual experience of the plan to the predictions made by the plan assumptions, including rates of death, retirement, separation from service, disability and salary increases. The comparison of actual results to predicted results demonstrates to actuaries which assumptions need to be revised to more accurately reflect true demographic and economic conditions. The experience analysis is the foundation for the annual actuarial valuation in that it determines the appropriate assumptions to be applied within the annual actuarial valuation.



Special Studies



In addition to the pension plan’s annual actuarial valuation and periodic experience analyses, an actuary also performs special studies as needed and/or required by law. For instance, if proposed state legislation will be making changes to benefit provisions, an actuarial analysis of the proposed change would be necessary to determine the financial effect of the change. Numerous special studies were conducted during the creation and adoption of Senate Bill 10-001 in 2010, which made changes to many of Colorado PERA’s benefit provisions. These special studies gave trustees and legislators the cost saving predictions for the proposed changes.



According to the Web site <a href="http://www.beanactuary.org/what/" target="_blank" rel="noreferrer noopener">BeAnActuary.org</a>, actuaries are “part super-hero, part fortune-teller, part trusted advisor.” Maybe that’s why their profession is consistently ranked so highly.

Part Superhero, Part Fortune-Teller, 100 Percent Actuary

A recent study of retirement plan design shows Colorado PERA is more efficient and uses dollars more effectively than other types of plans in use today.&nbsp;Three simple charts summarize the findings.



Read the <a href="https://www.copera.org/independent-report-finds-pera-efficient-and-effective" target="_blank" rel="noreferrer noopener" class="broken_link">Gabriel, Roeder, Smith &amp; Company report</a> on PERA’s income replacement in retirement efficiency and cost effectiveness.

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