The state pension system’s investments earned $22 billion more than expected in fiscal year 2021. These gains will be factored in to the calculations of contribution rates over time. All else equal, contribution rates will decline. That means savings for the state and local employers in the system.

At the same time, as we’ve written, transportation revenues are decreasing relative to inflation even as costs are increasing. Legislators are searching for new ways to fund needed transportation projects. A bill introduced this year (SB 6311) would try to capture some of the savings from the unexpectedly high FY 2021 investment returns for the transportation budget. Doing so would not affect retirement benefits or the funded status of the retirement plans. Instead, the bill would redirect a portion of the savings that would otherwise accrue to the general fund–state (GFS).

Investment returns and pension contribution rates

Typically, state pension contribution rates are set based on an actuarial valuation of the funds. The Office of the State Actuary (OSA) performs an actuarial valuation that is used to estimate what the contribution rates would need to be to cover benefits. The Pension Funding Council (PFC) then adopts rates for the upcoming biennium. (The PFC is made up of four legislators, the director of the Department of Retirement Systems, and the director of the Office of Financial Management.) This July, the PFC will adopt rates for 2025–27. The Legislature can make additional changes.

The actuarial valuation includes assumptions of investment returns. (If investment returns are higher, contribution rates can be lower while still funding benefits.) As adopted by the PFC, the assumed investment rate of return was 7.5% for 2019–21. In FY 2021, the actual investment return was 28.68%—the highest return going back to the 1980s.

When actual investment returns diverge from the assumption, the gain or loss is smoothed over a period of one to eight years. This helps to keep contribution rates more stable. Because the 2021 gain was so large, it will be smoothed over eight years. According to the most recent actuarial valuation, net deferred gains were $22.251 billion in FY 2021 and $11.466 billion in FY 2022. The 2022 figure is so much lower because some of the extraordinary 2021 returns began to be recognized in the actuarial valuation and there were investment losses of $7.903 billion in 2022.

But actual investment returns aren’t the only factor in determining contribution rates. In 2021, the PFC changed several economic assumptions (including reducing the assumed investment rate of return to 7.0%). Although the assumption changes took effect immediately, the PFC voted to phase in the cost impact over six years. The phase-in schedule was not specified, except that the 2023–25 rates would not exceed 2021–23. In 2021, OSA estimated that the changes to the economic assumptions would increase GFS contributions by $991 million in 2023–25 and $608 million in 2025–27. Those would be offset by the FY 2021 return such that the net GFS impact would be $395 million in 2023–25 and negative $625 million in 2025–27. Effectively, the PFC could use the deferred investment gains to offset the increased costs of the changes to assumptions, depending on how the PFC chooses to phase them in. Given these counterbalancing factors, it’s not clear how much of the investment returns will flow to the GFS in the form of lower contributions.

The 2023 Report on Financial Condition notes that contribution rates are expected to decline in each biennium through at least 2029–31. That’s “in large part due to the recognition of past, deferred investment gains” and the payoff of the unfunded actuarial accrued liabilities in PERS plan 1 and TRS plan 1. (It’s not clear how this estimate incorporated the changes to assumptions.)

SB 6311

To the extent that investment gains result in lower contribution rates, SB 6311 would require half of the GFS savings to be transferred to the motor vehicle fund.

SB 6311 would require the OSA to “estimate the amount of the savings that will accrue to the state general fund each year as a result of lower contribution rates resulting from deferred investment gains, net of deferred losses.”

The bill wouldn’t take money out of the pension system; it would simply direct half of any GFS savings that are going to happen anyway to transportation. But, although the current net deferred gain is a substantial $11.466 billion, it is not the case that half of that sum would go to the motor vehicle fund. For example:

• The total net deferred gain could drop further if future investment returns are negative.
• The rate impact from the investment return will be felt by both state and local employers. Any savings would not accrue solely to the GFS.
• The negative impact to rates from the investment gains will be offset by the positive impact of the assumption changes.

There is no fiscal note for the bill, which hasn’t moved so far in the Legislature. As I’ve outlined, it’s not clear how much this would yield for transportation, but it would certainly be less than half of $11.466 billion. Nevertheless, it’s an interesting idea that would not harm public pensions.