Neither Snow nor Rain nor Unfunded Liabilities: The Consequences of the Underfunded Postal Retiree Health Benefits

Jared Whitley, MBA, and Ike Brannon, PhD

Capital Policy Analytics
December 2017

 

Introduction

The U.S. Postal Service (USPS) needs to achieve a modicum of financial stability if it is going to perform the services that it is constitutionally empowered to take on. However, these days it is teetering on insolvency: In the last decade alone it has accumulated over $60 billion in debt, and it has no viable plan for reducing that debt or even returning to positive cash flow without taxpayer assistance.

The USPS blames much of its fiscal morass on a legislative requirement – originally devised by the USPS management – to create a payment plan to ensure that its costly retiree health care benefits were fully funded. However, the USPS failed to meet its annual contributions, and instead used revenue streams that Congress provided for other purposes, and now it wants lawmakers to grant it some form of debt relief. The USPS’s failure to make the necessary investments in its retirement benefit obligations threatens the solvency of the postal system and could potentially burden US taxpayers.

USPS, more than any other entity, has a direct impact on every American’s daily life. It is the 2nd largest domestic employer after Wal-Mart and has the 2nd largest real estate footprint after McDonald’s. USPS delivers mail to every household almost every day – often in the rain, sleet, snow, and hail, according to the famous motto etched across the top of its iconic former New York City headquarters.

Neither USPS management nor Congress evinces any appetite to shrink the USPS or to subject it to more market pressures: it is here to stay unless there is an action-forcing event – such as the need for a multi-billion dollar federal bailout, which is a distinct possibility a few years down the line if it does not deal with its debt soon.

 

Postal Retiree Benefits

Postal retirees receive benefits through the same systems as other federal employees. The Office of Personnel Management (OPM) administers both of USPS’s retirement programs, the Civil Service Retirement System (CSRS) and the Federal Employees Retirement System (FERS). CSRS mostly applies to Postal employees who received a career appointment prior to 1984, and FERS covers those who began work on or after that date.

FERS provides both a defined benefit and a defined contribution to postal and other government workers. Its Thrift Savings Plan (TSP) is similar to 401(k) plans available to most private sector employees. In TSP, the employer contributes an amount equal to 1 percent of the worker’s salary into the worker’s retirement account and also matches the employee’s contributions up to 5 percent of their salary.

Its Basic Benefit plan, the defined benefit component of the Postal retirement benefits package, vests after an employee completes five years of “creditable civilian service,” which includes work in the federal civilian service or the military.

In addition, postal retirees receive health care benefits through the Federal Employees Health Benefits (FEHB) Program. Prior to 2006, USPS simply financed retiree healthcare premiums on a “pay-as-you-go” basis. The problem is that its retiree health benefit liabilities have been rising well beyond the cost of the annual premiums, thanks both to an increase in the number of retirees and overall health care costs, which has left them with enormous total unfunded retirement liabilities of $79.1 billion. In the last two decades postal leadership and federal lawmakers came to realize that the “pay-as-you-go” approach was not appropriate, and that if it did not set aside more money to cover these liabilities the fund would dry up one day soon.

 

Attempts to Adequately Fund Retiree Health Benefits

In 2002, Congress discerned that the USPS had been contributing more than was necessary to cover its attendant pension obligations into the CSRS, and that, unless the Service’s future CSRS payments were reduced, it would eventually result in an estimated overfunding by $78 billion to $105 billion. A major source of the overfunding was that it originally assumed that USPS’s contributions to CSRS would be invested in Treasury securities paying 5 percent interest, but the actual interest rates in the 1970s and 1980s turned out to be much higher, which greatly boosted accumulated fund assets.

Pursuant to a plan created by the Postal Service, Congress passed legislation in 2003, the Postal Civil Service Retirement System (CSRS) Funding Reform Act of 2003 (P.L. 108-18), which allowed the USPS to cease making this overpayment and instead apply those savings towards its operational costs, which included its underfunded retiree health benefits. By 2003, retiree health benefit obligations had risen to approximately $48 billion. But the law did not spur USPS to reduce costs or increase revenue in any way – both of which are necessary for the organization to become more self-sufficient.

More specifically, in 2003, the USPS submitted two proposals related to how the agency planned to use its pension savings. These proposals allowed the liabilities for military service to be shifted back to the U.S. Treasury. It also enacted a 5.4 percent across-the-board price increase and transferred existing CSRS overpayment into a new fund called the Postal Service Retiree Health Benefit Fund (PSRHBF). This fund was proposed by the USPS to take what money would have been paid into CSRS as an overpayment and use that money to prefund its retiree health liabilities.

After the Government Accountability Office confirmed the viability of the plans, Congress passed the 2006 Postal Accountability Enhancement Act (PAEA). This law maintained numerous provisions from the 2003 law, subsequent proposals, and also created schedules for payments into the PSRHBF. In summary, the 2006 law did the following:

  1. It moved $20 billion of the CSRS overfunding into the PSRHBF.
  2. It directed the USPS to make additional annual payments equal to the reduced pension contributions for ten years (2007-2016). Those payments were to amount to an average of $5.6 billion per annum. This was intended to be funded through the estimated $78 billion to $105 billion of savings from pension overpayments.
  3. It maintained the 5.4 percent rate increase.
  4. It provided USPS authority to make annual price changes in line with CPI
  5. It transferred the $27 billion military service liability back to the U.S. Treasury
  6. It decreed that after 2016, the Office of Personnel Management (OPM) was to determine pension and health benefits payments based the future costs for current workers in that year.
  7. It reaffirmed the Postal Service’s authority to borrow money from the U.S. Treasury. The maximum allowable debt issuance remain $15 billion.

USPS Chief Financial Officer and Executive Vice President H. Glen Walker supported this provision, and touted it at the time as “a farsighted, responsible action.”

 

The Postal Service Failed to Make Necessary Payments

The 2006 legislation had two purposes: the first was to streamline the rate-setting mechanism, and the second was to fix the projected shortfall in the retiree health benefit liabilities.

After 2010, the USPS ceased making the additional RHBF payments, and these foregone payments amount to almost $52.1 billion as of 2017. Instead, the USPS used the re-directed pension payments to fund operations, reneging on their commitment in their original plan, and defying Congress’s intentions when they passed the 2006 Postal law.  The USPS now has roughly $73.4 billion of underfunded retiree benefit obligations, $52.1 billion of which is in the PSRHBF.

postal chart

Table 1: USPS’s failure to meet its obligations
Source: U.S. Postal Service Retiree Health Benefits and Pension Funding Issues. Congressional Research Service. Retrieved from https://fas.org/sgp/crs/misc/R43349.pdf

 

Compared to what the USPS would have owed in the absence of the 2003 law, the Legislation did not impose any new obligations for the USPS: it merely reallocated future annual payments from funding pension benefits and applied that money to fund future health benefits instead. By 2016 the “savings” from the Act was to have resulted in the postal retiree health benefits plan being close to fully funded.

While the intent of the legislation was to create between $78 billion and $105 billion of savings from pension overpayments, just $18 billion went into the underfunded retiree health benefit plan, with the remaining funds being diverted, contrary to law and the Postal Service’s commitment.

To address these staggering liabilities, the Postal Service has endorsed multiple legislative relief packages, with the most recent package totaling another $70 billion in relief, through transferring their obligations to other Federal agencies.

 

The Long-Term Fiscal State of the USPS is not Hopeless

The USPS has accumulated over $50 billion in losses since 2011. It has also fully exhausted its $15 billion credit line with the U.S. Treasury. The Government Accountability Office estimates that the USPS’s current debt, including its unfunded liabilities, totaled $121 billion at the end of fiscal year 2016.

However, the USPS does have product lines in demand. For instance, its First Class Mail – bills, letters, and the like – is cash flow positive, and standard mail – the circulars and other so-called junk mail – also more than cover the costs of providing those services. Its recent arrangement with Amazon to provide package deliveries on Sundays holds the promise to generate significant cash flow for the USPS.

Generating more revenue however, does not always result in a reduction of losses. Recent analysis of the USPS deal with Amazon shows the USPS provides the online retailer a $1.46 subsidy per package. The arrangement lacks transparency, which is vital to assuage fears about its growing debt.

The USPS attributes much of its current financial morass on the Great Recession of 2007 to 2009, or on Congress, for its financial mess. The economic downturn had an impact on the demand for their services, but demand for first-class mail has continued to fall, as shown in Table Two. Revenue has remained steady the last decade; however profitability has significantly eroded, calling into question the viability of new products. Of course, the problem the USPS has is that Congress resists its attempts to reduce its fixed costs and postal employee unions object to most attempts to reduce labor costs, so right-sizing their operations to meet changing demand is problematic. Amidst numerous challenges USPS has, in fact, expanded its labor force in recent years from 488,300 employees in 2014 to 508,908 employees in 2016.

bar chartTable 2: USPS revenue vs First Class mail volume
Source: about.usps.com

 

Due to the extraordinary circumstances surrounding the Great Recession, the USPS received a guaranteed $4.6 billion cash infusion through a temporary exigent rate increase.

This is just one of many advantages USPS enjoys as a government-mandated monopoly; other advantages include exemption from gas and property taxes, immunity from parking tickets, mailbox exclusivity, and below-market interest rates on financing. Private industry doesn’t get this or any of the other the benefits and are negatively impacted by the USPS’s special status. The wide array of privileges available to the USPS have been estimated to save the agency $14.9 billion on an annual basis.

 

Postal Service Objected Ex Post to The Retiree Health Care Funding Plan

Postmaster General Megan Brennan attributes the bulk of her financial woes to the requirement that the USPS set aside sufficient money each year to cover its own growing retiree health benefits. In 2016, she asked Congress to end this obligation. Brennan told the Senate Homeland Security and Governmental Affairs Committee that:

“PAEA imposed a major burden…through its accelerated schedule for pre-funding our retiree health care benefits liability. While this schedule may have been considered manageable at the time the PAEA was enacted, volume trends since that time have upended that belief …

“We do not have sufficient cash balances to meet all of our existing legal obligations or pay down our debt. We have been forced to default on our RHB pre-funding retirement obligation since 2012 and we reached our $15 billion borrowing capacity.”

The National Association of Letter Carriers (NALC) union president Frederic Rolando has echoed Brennan’s position, stating that “the most significant burden is the legislative mandate included in (PAEA) that requires the USPS to massively pre-fund future retiree health premiums – decades in advance.”

In fact, the very term “pre-funding” is misleading and obscures the actual fiscal situation of the USPS. For decades, the USPS has seen its long-term health care obligations rise more each year than it has set aside to cover those obligations while it merely pays the bill due for those benefits that year, which is significantly less. It amounts to budget myopia.

USPS now objects to the idea that it set aside sufficient resources each year to cover the corresponding annual increase in retirement obligations that it incurs by describing it as an unreasonable obligation. USPS does so despite the fact that this is what the agency proposed for the new pre-funding system.

This position of Postal Service and leaders and the Letter Carriers Union is disingenuous. The USPS has not been making these payments for some time, and as a result, its retirement benefit obligation shortfall has been growing steadily. In addition, neither the Postal Service nor their unions acknowledge that the prefunding requirement of the retiree healthcare plan was their idea, with their commitment to make the payments as Congress provided the necessary resources. These missed payments now amount to almost $52.1 billion as of 2017. This represents a bill that will come due at some time in the future – and if the USPS does not take immediate steps to close this gap, the taxpayer may bear this cost.

 

The USPS Needs a Long-Run Fix of its Retiree Obligations

Asking the USPS to devote the savings accrued from reducing its formerly overfunded pension obligation to reduce its unfunded healthcare liability was a sensible way to address a very real problem. However, the USPS never made most of those required payments and has done little else to address its long-run fiscal imbalance. In particular, the Postal Service has failed to implement its projected savings of $78 billion and $105 billion as intended, while instead repurposing the reserves in manner to evade reductions in costly lines of business.

The costs of providing benefits for their retired employees is growing much faster than anticipated, and the USPS is not alone in needing to confront this problem: most governments – both here and throughout the world – have yet to fully come to grips with the enormity their underfunded retirement benefits. Congress tried to prod private companies into dealing with their unfunded obligations with the Pension Protection Act of 2006, which obligated them to take steps to ensure that they put enough money in their pension funds to meet their obligations. Congress intended to do the same thing for the USPS with the PAEA.

The clumsy interventions by Congress into the business of the USPS – such as preventing them from ending Saturday mail or fighting any consolidation of post offices – merely confirm that the Federal government should extricate itself from the business of the USPS to the greatest extent possible, as most European Union countries have done.  However, such interference is no reason to permit the USPS to allow its unfunded obligations to grow unchecked.

Without major changes, a government bailout of USPS retirees will one day be necessary, exacerbating the billions of dollars of unfunded liabilities at the federal, state and local level.

The USPS’ spending schedule is also expected to expand in 2018 as the agency moves forward with a plan to purchase 190,000 new delivery trucks for $6.3 billion from a series of competing manufacturers. Fleet management experts have found that the purchases are in excess of USPS’ needs and that postal leadership has ignored recommendations for an incremental vehicle replacement strategy that is based on lifecycle cost analysis.

Allowing the status quo to continue would be unfair to both taxpayers as well as current USPS employees, who would likely be saddled with that cost instead. Its unfunded retirement health care obligation has become dangerously large, and resistance within the USPS’ leadership and the greater postal community towards legislative attempts intended to address it has compounded USPS’s financial problems.

The long-term fiscal state of the USPS may not be hopeless: while the Internet may have reduced demand for some of its offerings, demand for others – including numerous letter mail services – remains steady, and USPS executives believe that low-margin package deliveries will be their salvation. If this is the case that Postal Service leaders do believe strongly in the promise of package delivery products, then the institution must be subjected to much greater transparency measures to fully verify that the products are financially viable. Regardless, to ensure its long-term solvency, the USPS must resolve its underfunded retiree obligations soon.