Hawaii’s largest public pension fund is now underfunded by a record $14.08 billion, and the shortfall is expected to increase until fiscal year 2025 before reversing course.

It will take 26 years, or until June 30, 2045, before the $17.2 billion pension portfolio that currently serves 125,589 Employees’ Retirement System beneficiaries is 100% funded, according to the fiscal 2019 actuary report from Gabriel Roeder Smith that was accepted earlier this week by ERS trustees. The pension fund’s shortfall at the end of fiscal 2018 was $13.41 billion.

That fully funded date is two years later than the 2043 target projected in last year’s actuary report. In reality, though, it is only three months later than previously forecast since the actuary rounds up months to the next full year — from 24 years and 11 months to 25 years and two months. The pension plan’s funded ratio — what is needed to meet future pension obligations — remained at 55.2% in the fiscal year that ended June 30.

“Our total unfunded liability was … impacted by modestly lower investment returns, higher than expected salary increases and changes in several underlying assumptions,” ERS Executive Director Thom Williams said.

Still, he indicated there is no reason for beneficiaries to worry about getting paid their benefits.

“We are not alarmed by this year’s results,” Williams said. “Variability year to year within the ranges we have experienced is not uncommon. The assumptions we presently employ are viewed by our professional consultants as appropriate. We don’t see the need to make further changes in either our assumptions or contribution levels at this time. Our plan is stable and on track.”

Hawaii lawmakers in 2017 passed legislation to close funding shortfalls that were created partly due to existing unfunded liabilities, retirees living longer and lower projected investment returns. Public employee pensions are supported by government contributions, namely tax dollars, that are based on a percentage of an employee’s pay. For the ERS pension fund to become whole, state and county employers began increasing the contribution percentage starting July 1, 2017, with the increases being phased in over four years for general workers and police and fire employees.

Hawaii isn’t alone in having an underfunded pension plan. There are 47 other states in the same situation, according to the latest report from The Pew Charitable Trusts, whose most recent data are for fiscal 2017. Twenty states, including Hawaii, are less than two-thirds funded while five states are less than 50% funded. Only Wisconsin (102.6%) and South Dakota (100.1%) are fully funded. Kentucky, whose fund is only 33.9% funded, is in the worst shape. In the June 27 report, Hawaii’s pension plan was listed as 54.8% funded.

Williams said the pension fund’s 6% investment return for the 2019 fiscal year modestly underperformed the plan’s 7% assumption, or targeted return.

“That is in spite of the plan’s average investment returns as of Dec. 31 exceeding the plan’s (7%) assumed return over each of the one-, three-, five-year and since-inception periods,” he said.

The U.S. stock market’s record-breaking run that is still ongoing occurred after the fiscal year ended.

Williams said other factors affecting the pension plan were that the average salary increases for both general employees and for police and fire exceeded assumptions by 0.5% and 3.2%, respectively, and the individual salary scale, mortality and disability assumptions were updated.

Still, he’s generally upbeat about how the pension plan is shaping up. He said the unfunded liability was fully expected to increase for the next few years due to negative amortization as the interest on the plan’s unfunded liabilities was forecast to grow faster than either assumed investment earnings or contributions.

The pension plan’s shortfall is now expected to peak at $14.68 billion on June 30, 2025, before beginning its gradual descent, according to the actuary report.

“We’re generally quite pleased with the results of our 2019 actuarial valuation,” Williams said. “It demonstrates once again the long-term fiscal health of our system. This annual checkup confirms that current and scheduled contribution rate increases, if maintained, should prove sufficient to achieve full funding within the mandates imposed by the Legislature.”

Chief Investment Officer Elizabeth Burton, who took over that role on Oct. 1, 2018, said the ERS is focused on portfolio protection and managing drawdowns through adverse market conditions and, therefore, likely has lower exposure to growth risk than some peer institutions.

“We are long-term investors and do not make severe portfolio changes based on one-year, backward-looking returns,” she said. “Although 2020 is strong thus far … we cannot predict what the rest of the year will hold. Although 2019 was a solid year in U.S. equities, we have U.S. elections in 2020 which create the potential for adverse volatility. We remain committed to maintaining diversification, which has served us well.”

Williams said the ERS trustees constantly monitor the funded status of the pension plan and are focused on developing alternative funding strategies and benefit structures to address its unfunded liabilities.

“A key strategic initiative is to enhance our investment team’s impact through ensuring adequate staffing and access to first-rate information and technology,” Williams said. “A freeze on benefit enhancements in combination with potential future benefit design changes are constant alternatives. Benefit design changes are the pejorative of the Legislature and not our board.”

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WIDENING GAP

Highlights from the fiscal 2019 actuary report of the Hawaii Employees’ Retirement System pension plan:

>> Unfunded liability: $14.08 billion

>> Percent funded: 55.2%

>> Plan assets: $17.2 billion

>> Beneficiaries: 125,589

>> Fully funded target: June 30, 2045

Source: Actuary Gabriel Roeder Smith