OPEBs: Implementation Issues for Public Power

Joni Davis, Manager

Financial Accounting and Reporting

Omaha Public Power District

September 27, 2005

Agenda Actuarial Valuation Accounting Example Implementation Considerations SFAS 71 Funding Survey of Other Utilities

Actuarial Valuation

Actuarial Valuation Annual valuation is required at least biennially Valuation based on current substantive plan as

understood by employer and retirees Actuarial assumptions must be reasonable Key assumptions include:

Discount rate Retiree health care trend rates Amortization period

Actuarial Valuation Splits total OPEB present value of benefits into two

pieces as of a given valuation date Past service liability and future service liability

Total Projected Payments for OPEBs

Total OPEB Present ValueDiscount for

Interest

Past Service Liability (a.k.a., Accrued Liability)

Future ServiceLiability

Valuation Date

Net OPEB Obligation Net OPEB Obligation = Cumulative difference between

OPEB cost and employer’s actual contributions Initial OPEB obligation equals $0

No retroactive application Initial accrued liability is amortized into annual required

contribution (ARC)

Final OPEB cost for a year equals ARC Plus: Interest on the net OPEB obligation Minus: Adjustment to ARC for past under- or over-

contributions (if applicable)

Annual OPEB Cost

Total Projected Payments for OPEBs

Total OPEB Present ValueDiscount

for Interest

Accrued LiabilityFuture Service

Liability

Unfunded Accrued Liability (UAL)Assets

Future ServiceLiability

Annual OPEB Cost (“ARC”) = Amortization of UAL + Normal Cost

Actuarial Cost Methods GASB 43 and 45 permit six different actuarial cost methods

“Immediate Gain/(Loss)” Methods Projected Unit Credit Attained Age Entry Age

“Spread Gain/(Loss)” Methods Frozen Attained Age Frozen Entry Age Aggregate

Once one method is selected, it will be difficult to change to another

Usually produces the lowest costs

Usually produces the highest costs

UAL Amortization MethodologyTwo types of amortization methodologies are available

Level dollar is the standard “mortgage type” of amortization Level percentage of payroll assumes amortization payments increase

each year in line with projected increases in payroll

Minimum and maximum amortization periods 10 to 30 years amortizations 10 year minimum only applies to “significant decrease” in liability

Funding When pre-funding is not required, anticipated level of

funding has an impact on liability discount rate assumption…which, in turn, has an impact on the size of the OPEB liability

Utilities can choose to1) Continue pay-as-you-go (i.e., no pre-funding),

2) Fund the entire ARC, or

3) Fund something in between

Discount Rate

Paragraph 13cd of GASB 45: Liability discount rate should be “…the estimated long-term investment yield on the investments that are expected to be used to finance the payment of benefit.” Return based on plan assets, if the Utility’s policy is to “contribute

consistently an amount at least equal to the ARC” Return based on assets of the employer, “for plans that have no plan

assets” A proportional combination of plan and employer assets, for a partially

funded plan

Result is discount rate that may be different than the pension interest rate

Health Care Cost Increases

Health care cost trend rates impact OPEB costs Health care costs have been (and are expected to continue)

increase significantly Most FAS 106 assumptions start high, then decline to an

ultimate rate Example:

Initial rate = 12% per year Declining 1% per year to ultimate rate Ultimate rate = 5% per year

U.S. Retiree Health Care Cost Increases

0 .0 0 %

2 .0 0 %

4 .0 0 %

6 .0 0 %

8 .0 0 %

1 0 .0 0 %

1 2 .0 0 %

1 4 .0 0 %

1 6 .0 0 %

Pre -6 5 Po s t-6 5

Accounting Example

Accounting ExampleExample Assumptions Interest rate 7.0% Amortization 20 years (level amount) Trend rates Low trend assumption Funding No prefunding (pay-as-you-go)

Accounting—Year 1 (in $ millions)

Actual

1/1/2005 For 2005 Projected

1/1/2006

Liability $ 118 $ 125 Assets 0 0 Unfunded Accrued Liability $ 118 $ 125 Transition Obligation 118 115 Net OPEB Obligation $ 0 $ 10 Normal Cost $ 4 Interest on Net OPEB Obligation 0 Amortization of Transition Obligation 11 Total Expense $ 15 Expected Payments $ 5

Accounting—End of Year 1

Net OPEB Obligation Net Obligation at 1/1/2005 $ 0 ARC for 2005 15 Contributions During 2005 (5) Net Obligation at 1/1/2006 $ 10

Accounting—Year 2 (in $ millions)

Actual

1/1/2006 For 2006 Projected

1/1/2007

Liability $ 125 $ 133 Assets 0 0 Unfunded Accrued Liability $ 125 $ 133 Transition Obligation 115 111 Net OPEB Obligation $ 10 $ 22 Normal Cost $ 5 Net Interest on OPEB Obligation 1 Amortization of Transition Obligation 11 Total Expense $ 17 Expected Payments $ 5

Accounting—Year 2

Net OPEB Obligation Net Obligation at 1/1/2005 $ 10 ARC for 2005 17 Contributions During 2005 ( 5) Net Obligation at 1/1/2006 $ 22

Financial Impact – Pay as you go (numbers

are for presentation purposes only and were not actuarially calculated)

2007 2008 2009 2010 2011 Total

OPEB Expense 10.0 11.3 12.8 14.5 16.4 65.0

OPEB Liability 10.0 21.3 34.1 48.6 65.0 65.0

Implementation Considerations

Implementation Considerations GAS 45 not effective until 2007

Benefit changes prior to 2007 will impact initial OPEB cost Early adoption is encouraged (but not required)

Key valuation assumptions Interest rate Medical trend rates Initial amortization period

SFAS 71 Plan funding decisions

Plan Design Options Increase retiree premium cost Base retiree premiums on “true” retiree costs

(i.e. no blending with active rates)

Add age and/or service related subsidy schedule Place “Cap” on level of Utility costs Move to flat dollar or defined contribution type subsidy schedule Change plan options available to retirees Eliminate/reduce subsidy for future employees/retirees Move from Medicare COB approach to Carve Out Approach

SFAS 71

SFAS 71 – Accounting for the Effects of Certain Types of Regulation

Allows for the deferral of costs EITF Issue 92-12 (SFAS 106)

Regulatory authorizationFive year amortization20 year life

SFAS 71 – 5 year amortization (numbers are

for presentation purposes only and were not actuarially calculated)

No deferral: 2007 2008 2009 2010 2011 Total

OPEB Expense 10.0 11.3 12.8 14.5 16.4 65.0

OPEB Liability 10.0 21.3 34.1 48.6 65.0 65.0

SFAS 71 deferral:

OPEB Expense 2.0 4.3 6.8 9.7 13.0 35.8

OPEB Liability 10.0 21.3 34.1 48.6 65.0 65.0

Regulatory Asset 8.0 15.0 21.0 25.8 29.2 29.2

FUNDING

Funding

Generally, insurance not an option Voluntary employee benefit association trusts

(VEBAs – 501(c)(9) [tax deductible] Irrevocable grantor trusts Specific assets within retirement plans –

401(h)

Funding (numbers are for presentation purposes only and were not actuarially calculated)

No funding: 2007 2008 2009 2010 2011 Total

OPEB Expense 10.0 11.3 12.8 14.5 16.4 65.0

OPEB Liability 10.0 21.3 34.1 48.6 65.0 65.0

25% funding:

OPEB Expense 10.0 11.1 12.4 13.8 15.5 62.8

OPEB Liability 7.5 15.8 25.1 35.5 47.1 47.1

Fund Balance (w/o interest) 2.5 5.3 8.4 11.8 15.7 15.7

Survey of Other Utilities

Survey of Other Utilities

Funding Discount rates Amortization Period Plan design changes SFAS 71

Special Thanks

Hewitt Associates LLC