Crisis or No Crisis, Underfunding OPEB Is a Bad Idea

Carol Park Jul 21, 2020

Like most jurisdictions across the U.S., Maryland localities are currently dealing with severe Covid-19 budget crises. Even Maryland’s Montgomery County, one of the wealthiest in the country, is expecting a combined $522 million budget shortfall for this and next two years.


As one way to plug the budget hole, county officials are planning to divert $87 million from its Other Post-Employment Benefits (OPEB) trust by not making the required contribution in March. Underfunding retirees’ health benefit fund is an irresponsible move that could cost the county its good bond rating and long-term fiscal health.


As of June 30, 2019, Montgomery County’s OPEB trust was 39.35% funded. That’s because before 2008, the county paid OPEB expenses as they came along, a method known as “pay-as-you-go.” The county leaders created an OPEB trust in 2008 to start pre-funding OPEB for its future retirees. But since then, the county officials, rather predictably, failed to make full required contributions each year.


For instance, the county officials diverted $65 million away from OPEB trust in 2018, in addition to another $90 million in 2019. In response, Moody’s Investor Service warned that reduction in prefunding OPEB is “credit negative,” because “the county will accumulate assets more slowly and thus carry higher unfunded liabilities.” But clearly, the county officials are not taking this warning as seriously as they should.  


While the temptation to push OPEB debts into the future during this crisis is understandable, there are many problems with diverting the OPEB funds to pay for other expenses. One issue is “intergenerational equity.” Not making the full required contribution to the OPEB trust is equivalent to asking the county’s future taxpayers to foot the bill for current employees’ health-care benefits. This violates the basic principle of public finance that each generation of taxpayers should be responsible for funding the services that they benefit from.


Another obvious problem is putting downward pressure on the county’s bond rating.


Therefore, it is very important that Montgomery County leaders commit to a funding schedule and make full required contributions to its OPEB trust, regardless of economic circumstance. But in light of the Covid-19 budget crisis and upcoming fiscal challenges, county officials should consider even more aggressive measures to tackle its OPEB debts.


While fully funding OPEB trust is a good place to start to ensure that the commitment of health-care benefits for the current generation of retirees can be kept, another approach to consider is phasing out OPEB entirely for the future generation of employees. In other words, county officials should carefully evaluate whether OPEB benefits really need be offered to attract top candidates in this era.


In the private sector, fewer and fewer employers offer health-care benefits as part of compensation packages, but they seem to have no trouble attracting qualified workers. In the public sector, however, politicians like to reward generous pension and OPEB benefits to their employees because the taxpayer bills for them will not be due until their terms are way over.


And this wasteful practice is becoming more problematic as the OPEB costs have risen steadily over the years. The reasons include rising health-care costs, higher life expectancy, and early retirement. These trends also explain why it is crucial for states and localities grappling with OPEB debts to address the issue today rather than tomorrow.


Although Montgomery County’s OPEB problem is highlighted here, the same message applies to all other Maryland counties and the state of Maryland. In fact, many Maryland counties are dealing with way more serious OPEB debt compared to Montgomery County. Also, the state of Maryland’s OPEB was only 2.4 percent funded as of June 30, 2019. The state owes a staggering amount of $14.6 billion in OPEB debt.


Therefore, the Covid-19 budget crisis is a test of financial strength for Maryland and its local governments. It is also a test for our elected leaders’ ability to turn the catastrophe around into a long-term opportunity to fix the looming retirement benefit crisis.