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GASB 75 – Investment Return & Money Weighted Rate of Return


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GASB 75 - Investment Return & Money Weighted Rate of Return

Parker Elmore, ASA, MAAA, EA, FCA | Kurtis Thompson

New accounting rules for public other postemployment benefit plans to replace GASB 45 will take effect in 2018 for most plan sponsors. To ensure a successful transition to the new standards, you will need to understand various new concepts (largely mirroring those found in GASB 67/68) and new terms. Odyssey will be providing a series of white papers on this subject which will review these topics in some detail. We continue with “GASB 75 – Investment Return & Money Weighted Rate of Return” to provide a detailed explanation of the Investment Returns & Money Weighted Rate of Return used in GASB 75 (similar to discount rate calculation under GASB 67/68).

The Governmental Accounting Standards Board (GASB) has released GASB 75 “Accounting and Financial Reporting for Postemployment Benefits Other Than Pensions” – a new accounting standards for public Other Post Employment Benefit (OPEB) plans which will replace GASB 45.

This GASB 75 white paper is part of the continuing series of white papers discussing the new accounting standards released under GASB 75 for OPEB plans. It will discuss the determination of the plan’s investment rate of return and money weighted rate of return.

Implementation of these Statements is required for fiscal years beginning after June 15, 2017.

Odyssey’s working group is reviewing the new Statements, issuing guidance on how to best transition to the new Statements, determining the impact on our client’s liabilities and expenses and evaluating strategies for pre-funding and financial statement recognition.

Past Work Group Updates

  • GASB 75 – Introduction & Notable Changes
  • GASB 75 – Crossover Date & Why It Matters

Upcoming Work Group Updates

  • Recognition of deferred inflows & outflows
  • Calculation of Net OPEB Expense
  • Valuation, Measurement & Reporting dates & their interaction

This article discusses the determination of the plan’s long-term expected investment returns as well as the selection of a municipal bond index rate, both of which are used when determining the plan’s single equivalent discount rate as discussed in a previous white paper. It also discusses the calculation of the plan’s money-weighted rate of return (ROR), a new disclosure required by GASB 75, in more detail.

Long Term Expected Rate of Return

The first component of the money weighted ROR is the long-term expected rate of return. As mentioned in the crossover/depletion date white paper, the long-term expected rate of return is the interest rate that is used to discount cash flows in years when the plan’s assets are sufficient to make benefit payments.

This interest rate must be based on the nature and mix of current and expected plan investments over the lifetime of plan members; ending when all benefits have been paid. It must be determined net of investment expenses, but not net of plan administrative expenses. The determination of the expected return for different asset classes is left up to the actuary and must conform to Actuarial Standards of Practice (“ASOP”). Under ASOP No. 27 the actuary must evaluate relevant data and consider specific factors related to the measurement of returns.

Based on the data and relevant factors the actuary will select a “reasonable” assumption, where reasonable is specifically defined by five (5) key points:

  1. Is appropriate for the purpose of the measurement?
  2. Does it reflect the actuary’s professional judgement?
  3. Does it take historical and current economic data into account that is relevant as of the measurement date?
  4. Does it reflect the actuary’s estimate of future experience and/or the actuary’s observation of estimates inherent in market data?
  5. Is it free of specific bias?

In addition the new GASB standards require disclosure of how the investment return assumptions are developed as well as specific components of the investment return assumptions. The rate determined by these assumptions will be the rate used to discount benefit payments prior to the depletion date in the determination of the plan’s single equivalent discount rate.

Bond Index Rate

For discounting benefit payments expected after the depletion date GASB 75, specifies that a high grade 20-year tax free municipal bond index rate be used. However, GASB 75 does not specify which bond index is to be used (i.e. S&P, Bond Buyer, etc.). Therefore, it is up to the discretion of the actuary and accountant in conjunction with plan sponsors to determine which index rate will be used.

Money-Weighted ROR & New Disclosures

The Money Weighted ROR disclosure will require cash flows to be reported as least monthly, or more frequently if possible. This will be used to determine the internal rate of return on cash flows weighted by when cash flows occur as well as their size. There are some specific requirements for how the ROR should be determined:

  • Cash flow weighting should represent the plan’s actual timing of external cash flows (i.e., beginning, middle, or end of month).
  • The calculated rate must be net of investment expenses, but not net of administrative expenses.
  • Cash flows must be determined on an accrual basis (not cash basis).

Several new disclosures are required regarding the discount rate:

  • Long-term Rate Of Return Assumption
    Including a description of assumptions used to determine the long term expected rate of return, the asset allocation of the plan (based on the plan’s investment policy), and the expected rate of return for each asset class.
  • Municipal Bond Index Rate
    Disclosure of both rate used and the source of the rate (including the date it represents).
  • Discount Rate
    The single equivalent discount rate that was used to determine the Total OPEB Liability.
  • Projected Cash Flows (at least monthly)
    Cash flows into and out of the Plan.
  • Projected Benefit Payments
    Disclose which periods used the long term expected rate of return and which used the municipal bond index rate.
  • Sensitivity Of Net OPEB Liability
    Disclose the Net OPEB Liability using a discount rate that is 1% higher and one that is 1% lower than the single equivalent discount rate.
  • Investment Policies
    Description of asset allocation of the plan, the funding policy, and the procedures and authority for amending the investment policy.
  • Money-Weighted Rate Of Return
    The accrual accounting internal rate of return on OPEB plan investments as described above.

Key Takeaways

Most plan sponsors are unlikely to have the infrastructure to report cash flows monthly.

As you begin to prepare for the implementation of GASB 75, you should assess the plan’s ability to obtain monthly cash flow information and begin building those procedures and infrastructure to capture and organize the information which will be important. For plans that have begun funding, we encourage plan sponsors to adopt a formal funding policy as well as direct the investment committee to review the investment policy to ensure that it continues to meet the objectives of the plan under the new standards. This may involve a discussion with your actuary and accountant about how the investment return will be determined.