Unfunded Liability

How It Works

Unfunded liabilities represent pension benefits that employees have already earned through years of service but for which the city has not yet set aside sufficient assets. They are essentially a form of deferred debt: the city owes pension payments to current and future retirees, and the unfunded portion is not backed by any current assets. Under the older GASB Statement 25/27 framework (pre-2015), unfunded actuarial accrued liability (UAAL) appeared only in footnotes and supplementary schedules, not on the balance sheet itself. GASB Statement 68, effective for fiscal years beginning after June 15, 2014, requires governments to recognize their proportionate share of the net pension liability directly on the Statement of Net Position, a change that added hundreds of billions of previously-disclosed-but-not-recognized liabilities to municipal balance sheets in FY2015. Aggregate U.S. state and local unfunded pension liabilities are estimated at $1.4-$5 trillion depending on the discount rate used: approximately $1.4 trillion using plan-reported 7% discount rates per Pew Charitable Trusts, rising to $4-5 trillion using risk-free treasury rates favored by financial economists. Illinois alone carries roughly $140 billion in state plus local unfunded liabilities. Kentucky Retirement Systems has over $27 billion unfunded. Chicago's four pension funds total over $33 billion in unfunded obligations. Large unfunded liabilities force higher annual contributions, crowding out spending on current services: Chicago's required pension contributions now exceed $2.3 billion annually. Rating agencies (Moody's, S&P, Fitch) explicitly analyze unfunded liability as a share of personal income, revenue, and assessed value, with ratios above 10% of personal income typically triggering downgrade pressure. This metric drives the 20% pension funding factor in the CitySpend Fiscal Health Score.

Related Terms

• Funded Ratio, The percentage of a pension plan's projected liabilities that are covered by current assets. A plan with $80 in assets for every $100 in liabilities has an 80% funded ratio.
• Defined Benefit Pension, A retirement plan where the employer guarantees a specific monthly payment for life based on years of service and final salary, the traditional government pension.
• Actuarial Assumption, The financial and demographic projections used to calculate pension costs and liabilities, including expected investment returns, employee life expectancy, and salary growth.
• Pension Obligation Bond (POB), A bond issued by a city to make a lump-sum payment into its underfunded pension system, betting that investment returns will exceed the bond's interest rate.