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dup II-F-7-6-1 pc 183

GAO

Background

As Costs Rise, Security of
Retiree Health Benefits
Questioned

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Companies have been financing retiree health care for years. Although
seen as a low-cost employee benefit decades ago, such care now has
become a major concern for employers because of both demographic and
economic trends. Retiree health costs have skyrocketed, in part because
there are more retirees than ever before-workers retire earlier and live
longer. Another significant factor driving up the cost of health care is
medical inflation, which is currently outpacing general inflation by close
to 4 percentage points annually. The combination of more retirees
receiving higher cost medical benefits is stretching companies'
resources. In 1988, companies paid $9 billion for health care for 7 mil-
lion retirees and their dependents (see app. I).

The growing cost has raised questions about the security of retiree health benefits and companies' ability to pay future costs. In contrast to pension plans, where monies are set aside to pay future benefits, companies generally handle costs for retiree health benefits on a pay-as-you-go (PAYG) basis out of current revenue. By and large, companies do not prefund future retiree health care costs. Also, in contrast to pensions, employees do not vest (gain ownership) in their retiree health benefits prior to retirement. As a result, employees will not receive retiree health benefits if the company plan is terminated.

As of 1983, estimates of companies' aggregate liabilities' for future retiree health benefits ranged from about $100 billion to $2 trillion. The size and range of these estimates caused members of the Congress to ask us to investigate the validity of the projections.

Accounting Board
Proposes New Standards
for Company Reporting of
Health Benefit Liabilities

Concerns about whether and how retiree health benefit costs should be reflected in company financial statements also have arisen in the accounting profession. The Financial Accounting Standards Board (FASB) has announced its intention to require that companies compute and report on their financial statements the present value of their liabilities for future retiree health benefits. FASB is a private organization that sets accounting standards for company financial statements. The Securities and Exchange Commission recognizes FASB standards as providing substantial authoritative support for purposes of complying with securities' laws.

In 1982, FASB tentatively decided that postretirement benefits are a form of deferred compensation. Based on that premise, it issued a draft on February 14, 1989, proposing new standards for postretirement health benefits (see app. II). If the standards are issued as proposed, FASB plans to require implementation of most provisions in 1992. Starting that year, a transition obligation is to be recorded on a company's balance sheet and an accrual charge deducted from revenues on the company's income statement. But companies are not required actually to set aside money, so cash flow need not be affected directly by FASB standards.

Many companies, particularly those with an older work force and many retirees, are concerned that the FASB-proposed disclosure will adversely affect their short-run financial position as portrayed in their financial statements. These mature companies may be required to report initially much higher liabilities than firms of the same size and with similar retiree health benefit plans but younger work forces and fewer retirees. If the proposed standards take effect, companies will be required to report annual contribution amounts. For 30 years, they would be reporting a higher annual expense than PAYG costs. After 2018, the annual contribution amounts would be less than PAYG. Thus, companies' long-term gains from compliance with proposed FASB standards would not appear until many years into the future.

'Attorneys, accountants, actuaries, and economists use the term liabilities in different ways. We use it to refer to the obligation to pay future benefits promised to workers and retirees.

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