Michigan’s Quiet Success in Containing Retiree Health Care Costs

Simple reforms lower the burden of debt

It’s not news that government employee pension systems across the nation have promised retirees billions in pensions and not saved enough to make good on those promises. But a related problem could pose an even greater risk to taxpayers: lifetime health insurance benefits provided through these systems.

Michigan may be showing governments across the country the way to resolve the fiscal challenge, however. Without much fanfare, the state and many local governments have stopped offering new employees open-ended post-retirement health insurance benefits. In doing so, they have contained their exposure to ever-increasing premiums that could one day threaten their solvency.

Governments have tended not to set aside money to pay for those benefits as employees work, but rather pay the insurance premiums as they come due. This means today’s taxpayers are paying payroll expenses incurred by government employees years or even decades in the past.

This is both unfair and imprudent. If such coverage is offered at all, a better course would be to place money in a health insurance trust fund as the benefits are earned, just as pension contributions are deposited annually into pension funds.

Such prefunding is what governments are supposed to do with pensions. Most have fallen short, though. The latest Pew report tallies nearly $3.7 trillion in pension liabilities that governments acknowledge; stricter pension assumptions can inflate this figure. Governments have saved $2.8 trillion to pay for pensions, leaving $934 billion in unfunded liabilities.

The retiree health insurance is a smaller, $627 billion gap, but fewer dollars have been set aside to pay these future benefits. The size of this gap is even more uncertain than that for pensions, given the employers’ exposure to rising health care costs and premiums.

This is a problem that the private sector has already resolved. A 2011 Mackinac Center study found that only three of 24 major private sector employers in Michigan provided any retirement health insurance benefits.

Michigan governments have started to change. The school system (with 425,000 total employees and retirees) and the state employee system (with 76,000 members) no longer offer to pick up post-retirement health insurance costs for their new employees. Instead, new employees are offered supplemental contributions to their retirement savings plans, which are intended to pay for any insurance coverage they choose upon retirement.

By closing these two systems to new hires, and trimming the benefit for current retirees, Gov. Rick Snyder and members of the 2011-12 Legislature deserve credit for refusing to kick this can down the road one more time. Instead, the state is now on course toward gradually eliminating the problem.

Local governments in Michigan have undertaken similar reforms. Only six of the state’s 30 largest cities and townships still offer new employees open-ended retiree health benefits. Even among the holdouts, some have made changes: Dearborn Heights no longer offers the benefit to entry level police; and Taylor also closed them to new officers in 2011.

Many counties have also stopped offering retiree health insurance benefits to new hires, including one perennial fiscal basket case, Wayne County.

None of this means the problem is solved, however, only that its growth has been contained. The state’s largest 30 municipalities have made $4.7 billion worth of promises for retiree health insurance coverage, and they have only saved $1.0 billion to cover it. Managing the $3.7 billion remainder will be a huge challenge.

There is a state constitutional guarantee for pension benefits that have been earned. State and local governments can, however, trim post-employment health benefits — not just for future retirees but for current ones as well.

Many Michigan governments have taken the less drastic but still extraordinary step of simply no longer offering this benefit to new employees. Their prudence will pay big dividends to both taxpayers and government employees in the future.

Michigan Capitol Confidential is the news source produced by the Mackinac Center for Public Policy. Michigan Capitol Confidential reports with a free-market news perspective.