Healthcare Inflation: What It Means For Local Governments

While inflation is cooling across most sectors of the economy, healthcare is bucking the trend. According to a recent survey by KFF, the cost of employer-sponsored health insurance rose by 7% for the second year in a row – marking a sustained growth not seen in over a decade. For municipalities with OPEB (Other Post-Employment Benefits) obligations, this means a large increase in healthcare costs that will directly impact your financial liabilities. 

How This Affects Local Governments

1. Soaring OPEB Liabilities 

For many municipalities, healthcare benefits represent a significant portion of their OPEB obligations. As healthcare premiums continue to rise, these liabilities will increase, directly affecting government financial statements. Higher liabilities lead to increased annual contributions, which can severely strain budgets that are already dealing with other priorities like public safety, education, and infrastructure. 

2. Budget Strain and Taxpayer Burden

With healthcare costs rising at twice the rate of general inflation, local governments may need to raise taxes or cut services to cover the escalating OPEB liabilities and stay within budget. This puts them in a difficult position, especially those already struggling with tight budgets. Unfortunately in this situation there are no easy answers – push costs to employees, narrower networks, fewer covered services, etc. The reality is that as healthcare premiums grow, they consume a larger share of the budget, leaving less room for essential services. 

3. Increased Financial Volatility

As mentioned, OPEB liabilities are especially sensitive to healthcare inflation. When costs rise unexpectedly, local governments must adjust their contributions, leading to financial volatility. This unpredictability complicates long-term financial planning and can lead to larger-than-expected liabilities, which may disrupt bond ratings and their overall financial health. 

The Ripple Effect: Retirees Feel The Impact Too

Rising healthcare premiums not only impact local governments but also their retirees who depend on these benefits. For retirees with fixed incomes, higher premiums could mean paying more out-of-pocket for healthcare services, reducing their overall financial security. 

Local governments may feel pressured to shift more healthcare costs to retirees through increased cost-sharing or reduced benefits, which could lead to dissatisfaction among retirees and even legal challenges. 

So What Should You Do?

The first step, decide that now is the time for action. Here are some key strategies you can explore: 

1. Reassess Your OPEB Plans

You can explore options to reduce OPEB liabilities by adjusting your plan design – be aware that benefits may be protected by statute or State law. Are there opportunities to increase cost-sharing with retirees or introduce tiered benefits that offer more affordable options? Reviewing your plan now can help you find ways to mitigate the impact of the rising premiums before they become unmanageable. 

2. Consider Prefunding Your OPEB Liabilities

One of the most effective ways to manage growing OPEB liabilities is by pre-funding them through an OPEB trust. This allows governments to invest contributions and potentially earn returns, which can be used to offset future costs. Pre-funding is a proactive way to reduce long-term financial pressure. 

3. Update Financial Projects and Actuarial Valuations 

Rising healthcare costs should signal immediate updates to actuarial assumptions. If you fail to adjust for these healthcare cost increases, it could lead to unpleasant surprises in your financial reporting. Regularly reviewing and updating these valuations will provide a more accurate outlook and better inform your budget planning. 

4. Explore Group Purchasing 

If you are a smaller municipality, you may want to consider joining regional purchasing cooperatives to negotiate better healthcare rates. Collaborating with other local governments can increase bargaining power with insurers and help lower premium costs, reducing the burden on retirees and your municipality. 

Long-Term Outlook: Expect More Increases

Unfortunately, experts project that healthcare costs will continue to rise in 2025. Hospitals have negotiated new contracts with insurers that include higher price hikes, and employers – including local governments – will need to prepare for these continued cost increases. This ongoing trend will only heighten OPEB liabilities for local governments. Without proactive measures, you could be seeing greater financial stress, forcing you to make difficult decisions about the level of benefits you can afford to provide. 

The Bottom Line

Rising healthcare costs may be pushing local governments to a tipping point, with serious implications for OPEB liabilities, retirees, and fiscal sustainability. You must act quickly to reassess your healthcare plans, update financial projections, and consider long-term strategies like pre-funding. The longer you wait, the more severe the impact may be – not just on your financial health, but also on the lives of the retirees who depend on these benefits. 

If you have concerns about how these changes will affect your municipality, or if you’d like help with OPEB strategies, contact one of our Odyssey consultants today for guidance.