Journal of Public Budgeting, Accounting & Financial Management Volume 27 Issue 2 2015 (Doi 10.1108/JPBAFM-27!02!2015-B004) Plummer, Elizabeth Patton, Terry K. - Using Financial Statements To Provi

Journal of Public Budgeting, Accounting & Financial Management
Using financial statements to provide evidence on the fiscal sustainability of the states
Elizabeth Plummer, Terry K. Patton,
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J. OF PUBLIC BUDGETING, ACCOUNTING & FINANCIAL MANAGEMENT, 27 (2), 225-264 SUMMER 2015
USING FINANCIAL STATEMENTS TO PROVIDE EVIDENCE ON THE

FISCAL SUSTAINABILITY OF THE STATES
Elizabeth Plummer and Terry K. Patton*
ABSTRACT. This descriptive study shows how the government-wide financial

statements can be used, with adjustments, to provide evidence on a state’s
fiscal sustainability. We compute “adjusted total net assets” (AdjTNA), which
equals a state’s assets (not including its capital assets) minus the state’s
liabilities and obligations, including the UAAL for pension and OPEB not
reported on the Statement of Net Assets. AdjTNA provides information about
a state’s ability to sustain its current fiscal structure, given its current
financial resources. Primary results suggest that 40 states have a negative
AdjTNA value, with a median -$6.7 billion per state (-$5,230 per household).
Sensitivity analysis suggests 48 states have a negative AdjTNA value, with a
median -$20.7 billion per state (-$16,200 per household). The paper
discusses the important policy implications of these results.
INTRODUCTION
State governments’ spending commitments and long-term
liabilities continue to grow and outpace revenues. These trends have
led to increased concern about states’ fiscal sustainability, which is
most commonly defined as a state government’s long-run ability to
consistently meet its financial responsibilities with available
resources (Rose, 2010; Chapman, 2008). While sustainability is a
long-run concern, much of the academic and media attention focuses
on states’ current-year budgets and whether state revenues will be
--------------------------------
* Elizabeth Plummer, Ph.D., is an Associate Professor, Department of
Accounting, Texas Christian University. Her research and teaching interests
are in taxation and state and local governmental financial reporting. Terry K.
Patton, Ph.D., is the Robert Madera Distinguished Professor of Accounting,
Department of Accounting, Midwestern State University. His research and
teaching interests are in state and local governmental financial reporting.
Copyright © 2015 by PrAcademics Press

226 PLUMMER & PATTON
sufficient to meet budgeted expenditures (See Bradbury, 2010;

Cooper, 2011; Dye, 2004; Eaton & Maher, 2011; Edgerton,
Haughwout, & Rosen, 2004; Giertz & Giertz, 2004; Khimm, 2011;
McGuire & Steuerle, 2003; McNichol, Oliff, & Johnson, 2012;
Poterba, 1994; Poterba & Rueben, 2001; Rueben, Hoo, & Yilmaz,
2006; Sheffrin, 2004; Vara, 2012). Although a budget deficit or
surplus can be an important indicator of whether a state faces
immediate economic pressures, the budget focuses on a state’s
ability to provide services and pay its obligations over the budgetary
cycle (i.e., the next year or two). It provides little information about the
government’s long-run ability to meet its financial responsibilities. In
addition, most academic and media focus is on a state’s operating
fund budget, even though this generally represents less than 50% of
state spending.
The purpose of this paper is to describe how a state’s
government-wide financial statements can be used, with
adjustments, to provide evidence on the state’s fiscal sustainability.
The end result of our analysis is a measure that we refer to as
adjusted total net assets (AdjTNA), which is calculated as a state’s
assets (not including its capital assets) minus the state’s known
liabilities and obligations. In short, AdjTNA provides a measure of the
effect on a state’s total net assets (less its capital assets) when
unfunded pension and OPEB liabilities are included as liabilities.
On a more conceptual level, AdjTNA provides an estimate of the
extent to which the state’s past and current revenues have been
sufficient to cover its past and current costs, and can therefore help
financial statement users better understand the extent to which
interperiod equity has been achieved. In Concepts Statement No. 4,
Elements of Financial Statements, the GASB describes interperiod
equity as being achieved when “the burden of the cost of [current
period] services is borne by present-year taxpayers and revenue
providers” rather than “shifted to future-year taxpayers or revenue
providers through an increase in the level of borrowing” or paid from
net resources accumulated in past periods (GASB 2007 and 2009).
A negative AdjTNA value suggests that a state has deferred payment
of past costs to future time periods. Although some of the past costs
will necessarily benefit future periods (e.g., roads, education), these
costs must ultimately be paid. If the costs deferred to future periods
USING FINANCIAL STATEMENTS TO PROVIDE EVIDENCE ON THE FISCAL SUSTAINABILITY 227
are significant, then states will likely have to finance these costs by
increasing future taxes or reducing future government services,
thereby affecting future taxpayers. If these costs are greater than the
amount by which government officials are willing to increase tax
revenues (because of political consequences), or greater than what
taxpayers are able to pay, then the government’s level of goods and
services given its available resources is not sustainable.1
To compute AdjTNA, we begin with the state’s Statement of Net

Assets, which is similar to a corporation’s balance sheet. This
statement is prepared using accrual accounting for all of the
government’s activities and is designed to provide users with
“information about the probable medium and long-term effects of
past decisions on the government’s financial position and financial
condition” (GASB 1999, para. 219) (emphasis in the original). This
information is intended to help users assess a government’s “ability
to continue current service levels and meet all liabilities as they
become due, and…the extent to which interperiod equity is being
achieved” (GASB 1999, para. 233).
We make two modifications to a state’s Statement of Net Assets
in order to compute AdjTNA. The first modification is to subtract the
state’s net capital assets (e.g., roads and bridges) from total assets to
compute ‘Adjusted total assets.’ Although these capital assets have
service utility and are included as assets on a government’s
Statement of Net Assets, they would not be recorded on a business’
financial statements because they do not generate cash flows and
will most likely never be converted into a financial resource that can
be used to pay off the state’s liabilities (Mautz, 1981, 1988, 1989).2
The second modification we make is to add the unreported portion of
a state’s unfunded pension and other postemployment benefit
(OPEB) obligations to its reported liabilities. These amounts total
approximately $902 million for all states combined, and their
omission from the Statement of Net Assets significantly understates
states’ total liabilities.
Our results can be summarized as follows. We find that AdjTNA is
negative for 40 states. The mean and median values across all states
are -$18.2 billion and -$6.7 billion, respectively. Three states have
deficits exceeding $100 billion, and California’s deficit is the largest
at -$170.6 billion. These negative values suggest that, for many
states, the government’s past revenues have not been sufficient to
cover past costs, and that the payment of these costs have been
deferred to future periods. It also suggests that the government’s
level of goods and services is not sustainable given its current
revenues, and that paying off the state’s accumulated obligations will
likely require the state governments to increase taxes or decrease
services.
To provide perspective on the size of a state’s AdjTNA deficit
balance relative to the size of its constituency, we rank states based

on AdjTNA measured on a per-household basis. Results show that
35 states have a deficit value that exceeds $1,000 per household,
and 15 of those states have a deficit value that exceeds $10,000 per
household. These deficits represent the costs that have been
deferred to future households, assuming a state’s number of
households remains constant. As demographics change and
taxpayers move between states, the per-household burden will
increase for some states and decrease for others. In a sensitivity
analysis, we present results based on alternate measures of pension
and OPEB liabilities (e.g., liabilities calculated using a lower discount
rate).
This study makes several contributions to our understanding of
the fiscal sustainability of state governments. First, one of our primary
goals is to share with policymakers, accountants, and economists
what can—and cannot—be learned about a government’s financial
health from its financial statements. Much of the academic literature
on the financial health of state governments focuses on a state’s
budget, which provides a limited understanding of a state’s medium-
to long-term financial condition. The budgetary statements focus on a
government’s short-term financial condition. In addition, most
research focuses on the state’s operating fund (or general fund),
which generally represents less than 50% of state spending. Our
study can also help educate policymakers and academicians on how
the accrual-basis financial statements can provide insight into a
state’s longer-term fiscal sustainability.
A second contribution of our study is to show how recent changes
in governmental accounting rules will likely affect states’ financial
statements. The Governmental Accounting Standards Board (GASB)
has recently issued two new accounting standards (Statement No. 67
and No. 68), which are intended to improve the accounting and
financial reporting of public employee pensions by state and local
governments. Statement 67 is effective for periods beginning after

June 15, 2013 (that is, for years ended June 30, 2014 or later), while
Statement 68 is effective for periods beginning after June 15, 2014.
The new standards introduce several changes that will affect
state and local governments’ reporting of pension obligations. A
major change will occur for local governments that participate in cost-
sharing multiple-employer defined benefit pension plans. Cost-
sharing plans are pension plans that pool the pension obligations for
all government employers that participate in the plan. Any
accumulated pension plan assets can be used to pay benefits to the
retirees of any government employer. With the implementation of
GASB Statement No. 68, governments that participate in cost-sharing
plans will be required to recognize their proportionate share of the
collective net pension liability in their financial statements. Prior to
the implementation of GASB Statement No. 68, such governments
did not report this amount, nor was it disclosed in the notes to their
financial statements or required supplementary information.
Reporting a net pension liability will be a particularly important issue
for local governments as they are the predominant participants in
cost-sharing plans.
Two of the changes introduced by Statement No. 68 are
especially pertinent to our study of state governments. First, the new
standards will require governments to report a net pension liability on
their Statement of Net Assets that is equal to the difference between
the total accrued pension liability and the fair value of pension plan
net assets that have been set aside to pay the pension liability.
Currently, governments only report a liability if the pension
contributions they are actuarially required to make exceed the
amount they have actually contributed.3 Our study quantifies the
states’ pension liabilities in a manner more like the new requirements
and adds these amounts to the liabilities reported in the state’s
Statement of Net Assets. Second, GASB’s new standards may require
governments to use a lower discount rate for underfunded pension
plans. Using a lower discount rate will result in larger liabilities
reported on the government’s financial statements. In addition to our
primary analysis, our study also uses a sensitivity analysis that
incorporates evidence from the economics literature to measure what
the pension liabilities would be using a lower discount rate. Overall,
our results therefore provide preliminary evidence on how the

financial statements would be affected by the new standards.4
Third, using the financial information identified, we develop a
measure (AdjTNA) that provides evidence on the extent to which the
payment for a government’s past and current costs has been
deferred to taxpayers in future periods. This can help policymakers
and scholars evaluate the extent to which a state’s current fiscal
policies could affect future generations. If the costs deferred to future

periods exceed the state’s expected revenues, then the government’s
level of goods and services given its available resources is not
sustainable over the long-run. In sum, our AdjTNA measure and
related analysis provides evidence on interperiod equity and fiscal
sustainability, and can therefore help inform the GASB’s ongoing
efforts to improve financial statement transparency and provide
better accountability.
The remainder of this study is organized as follows. The next
section provides an overview of a state’s financial statements using
California as our example. Section 3 develops our AdjTNA measure.
We provide a detailed description of how we calculate this measure
using California as our example, and then replicate this analysis for
all 50 states. Section 4 presents our main results, while Section 5
presents sensitivity analysis of how results differ if we use alternate
measures of a state’s pension and OPEB liabilities. Section 6
discusses some additional issues that affect the estimates of state
government liabilities, and the final section presents conclusions,
policy implications, and offers suggestions for future research.
OVERVIEW OF A STATE’S FINANCIAL STATEMENTS

State Budgets
Although most academic and media attention is on a state’s
budget, the budget provides a limited understanding of the state’s
fiscal condition. These limitations occur for several reasons. First,
most budgetary focus is on the fund used to control the state’s
primary operating budget, which typically is the state’s general fund.
On average, however, the general fund represents less than 50% of
state spending (NASBO, 2009, p. 1). Second, a state’s budget only
represents revenues and expenditures for the current year. Therefore,
a budget surplus or deficit only tells us about the state’s ability to
meet its current-year expenditures. It provides little to no information

about the state’s long-term financial obligations or its ability to
provide services or pay its expenditures after the current budget cycle
ends. Third, all states except North Dakota have some sort of
balanced budget requirement for their general funds, which helps
ensure that states facing a deficit will take actions to balance their
budget (Hou and Smith, 2006). These actions can be economic (e.g.,
raising taxes or cutting spending), or changes in budgetary measures
or accounting methods (e.g., accelerating tax collections across fiscal

years; adjusting the accounting method used to recognize revenue on
a budgetary basis) (Petersen, 2003; Poterba, 1995).5 Regardless of
the action taken, the result is that state budgets will generally have a
surplus, or a much smaller deficit than they would otherwise have.
This significantly affects our ability to understand a state’s overall
fiscal condition by observing its budget. For example, only one state
(Oregon) had a general fund budget deficit in 2008 (NASBO, 2009,
Table A1), and only 10 other states had general fund deficits in either
2009 or 2010 (NASBO, 2010, Table A1 and 2011, Table 3).
Government-wide Financial Statements

In 2002, the GASB began requiring states to issue consolidated
government-wide financial statements prepared on the accrual
basis.6 The accrual-basis statements are intended to help users
assess a government’s medium- and long-term financial health (GASB
1999, paras. 219 and 220). Prior studies have found these
statements are relevant for assessing state and local governments’
credit risk and financial solvency (Plummer et al., 2007; Wang,
Dennis, and Tu, 2007; Johnson, Kioko, and Hildreth, 2012; Kioko,
2013). Under the accrual-basis standards, states must prepare a
Statement of Net Assets, which is similar to a corporate balance
sheet. It presents not only financial assets and current liabilities, but
also capital assets and long-term liabilities. The difference between a
state’s total assets and total liabilities is referred to as “total net
assets.” Total net assets generally represent the difference between
a government’s cumulative revenues and costs since its inception.
The balance therefore provides evidence on the extent to which a
government’s past and current revenues have been sufficient to
cover its past and current costs. A negative or decreasing total net
asset balance could indicate the government’s level of goods and
services is unsustainable at current revenue levels.
Exhibit 1 presents an abbreviated version of the Statement of Net

Assets for the State of California for FYE 2008. GAAP requires that
the statement present two separate columns: one for a state’s
governmental activities and one for its business-type activities.
Governmental activities include providing services that are normally
associated with state government. These services are primarily
supported by taxes and intergovernmental revenues, mostly federal
grants. Business-type activities include functions that normally are
intended to recover all or a significant portion of their costs through

user fees and charges. Together, governmental and business-type
activities make up the primary governmental activities for the State of
California.7
Exhibit 1 shows that California’s total assets for FYE 2008 are
$182.8 billion. For most state governments, capital assets represent
the largest group of assets. Capital assets include land, state highway
infrastructure (roads and bridges), buildings, construction in progress,
and equipment. Capital assets are generally recorded on the
Statement of Net Assets at their historical cost less accumulated
depreciation. California’s capital assets, net of accumulated
depreciation, total $102.2 billion and represent 56% of the state’s
total assets. Exhibit 1 shows that California’s total liabilities are
$147.8 billion, with $40.7 billion of current liabilities and
$107.1 billion of noncurrent liabilities. The most significant reported
liability will generally be a state’s bonds payable, and California’s
noncurrent liabilities include $85.1 billion in bonds.
The bottom section of the Statement of Net Assets presents total
net assets (TNA), which is equal to total assets minus total liabilities.
Exhibit 1 shows that California has $35 billion of TNA for FYE 2008. In
theory, net assets represent the resources available to the
government to provide services, after the government has paid its
liabilities. However, those resources are not necessarily in a
spendable form (e.g., roads and bridges). In addition, some resources
are restricted as to how they can be used. To help clarify these
issues, TNA is divided into three components—invested in capital
assets, net of related debt; restricted; and unrestricted. The first
component is equal to the amount shown for capital assets (i.e.,
historical cost less accumulated depreciation), minus any debt that
was incurred to acquire those assets and is still outstanding.
EXHIBIT 1
State of California Statement of Net Assets for FYE June 30, 2008
(Amounts in Millions)
Primary Government
Governmental Business- Total
Activities Type
Activities
ASSETS
Current Assets 43,837 11,273 55,110
Noncurrent assets:
Capital assets (net of
accumulated 95,360 6,841 102,201
depreciation)
Other noncurrent 4,539 20,934 25,473
assets
Total assets 143,736 39,048 182,784
LIABILITIES
Current liabilities 37,204 3,494 40,698
Noncurrent liabilities 81,475 25,642 107,117
Total liabilities 118,679 29,136 147,815
NET ASSETS
Invested in capital
assets, net of related 84,255 50 84,305
debt
Restricted 10,149 6,853 17,002
Unrestricted (69,347) 3,009 (66,338)
Total net assets 25,057 9,912 34,969
Total net liabilities and
net assets 143,736 39,048 182,784
California’s invested in capital assets, net of related debt, is

$84.3 billion. Although GAAP requires the state to present invested in
capital assets, net of related debt, it should be noted that the
resources actually used to repay the debt must come from other
sources. The capital assets themselves generally will not be
liquidated to repay the related debt. The second component of TNA is
restricted net assets, and Exhibit 1 shows that California has

$17.0 billion of restricted net assets. This amount represents
resources that are contractually or legally restricted as to how they
can be used.
The last component of TNA is unrestricted net assets, which
consists of net assets that are not included in the first two
components. The balance in unrestricted net assets represents the
resources available to meet ongoing obligations to citizens and

creditors, although these resources are not necessarily in an
immediately spendable form (e.g., accounts and loans receivable). In
addition, unrestricted net assets can be a negative amount. This is
the case for California, which has -$66.3 billion of unrestricted net
assets for FYE 2008. A negative unrestricted net asset balance
suggests that government revenues have been insufficient and that
some past costs have been shifted to future taxpayers (Wilson and
Kattelus, 2001). Even if the balance is positive, a decreasing balance
over time suggests that the government is using up its resources in
order to provide current services.
Off-balance Sheet Liabilities

While the Statement of Net Assets provides information on a
state’s long-term liabilities, there are two significant liabilities which
are—for the most part—not included on the statement. These are the
unfunded liabilities with respect to pensions and OPEB (primarily
healthcare). The accounting treatment for pensions and OPEB is quite
similar. We first discuss the accounting for pensions and then discuss
the accounting for OPEB.
Public Employee Pension Plans

Every state operates at least one pension plan for its employees,
and most states offer several based on employment status (e.g.,
state employees, legislators, teachers). In addition, state govern-
ments often operate employee pension plans on behalf of local
governments (e.g., cities, towns, school districts). Although defined
contribution plans such as 401(k) plans dominate the private sector,
defined benefit plans remain the most common retirement plan for
state and local government employers. In 2005, 92% of state and
local workers with pension coverage were covered by a defined
benefit plan (Munnell, Haverstick, & Soto, 2007).
In a government defined contribution plan, the government

employer generally agrees to make a series of pension contributions,
usually expressed as a percentage of the employee’s salary. The
pension fund is often independent of the state government (Freeman
et al., 2011). The government does not guarantee the employee any
specific retirement amount. The employee’s retirement benefits
depend solely on the fund’s investment performance. Accounting for
defined contribution plans is straightforward. Each year, the state
reports an expense for the amount that it is obligated to contribute to

the pension fund. If for some reason the state does not contribute the
required amount, a liability is reported on the Statement of Net
Assets for the unpaid amount.
Defined benefit plans are significantly more complex in terms of
funding and accounting. Defined benefit plans generally pay the
retired employee a lifetime annuity that is based on a pre-established
formula. The formula generally incorporates the employee’s salary in
the final years of employment, the number of years of employment,
and other factors. Because retirement benefits are predetermined,
the burden is on the state to ensure that the retirement benefits can
be paid. The required supplementary information (RSI) contained in a
state’s annual report, or the RSI contained in the pension plan’s
annual report, will include a Schedule of Funding Progress that
provides information on a pension fund’s level of funding. These
funding schedules are prepared in accordance with governmental
accounting standards (GASB 25 and 27).
Exhibit 2, Panel A, provides the Schedule of Funding Progress for
five separate defined benefit pension plans for the State of California
as of June 30, 2008: public employees, judges (2), legislators, and
teachers. The first column shows the actuarial value of assets for the
pension plan. Actuarial value is based on an average of market
values over the past several years, generally the past three to five
years. Actuarial values are commonly used in the private and public
sectors to help determine an employer’s annual contribution for
funding purposes. This is because market values can be volatile, and
actuarial funding methods can provide more orderly and systematic
funding. However, corporate accounting rules require private
businesses to report their pension plan’s solvency using current
market values, whereas governmental accounting rules have
historically required governments to use actuarial values.8
The second column of Exhibit 2, Panel A, shows the actuarial

accrued liability (AAL) for each plan. These amounts represent the
pension benefits earned by current employees and retirees for work
performed through June 30, 2008. The liability values are equal to
the forecasted pension payments that have been earned—including
expectations of future salary increases and employee tenure and life
expectancy—discounted back to the valuation date. Governmental
accounting rules require that governments discount pension
obligations using the expected return on pension assets. California

uses rates of 7%-8% to discount the pension obligations in Exhibit 2.
EXHIBIT 2
State of California, Pension and OPEB Information as of June 30,
2008 (Dollar Amounts in Millions)
Panel A: Pension Benefits
Actuarial Actuarial
Unfunded
value of accrued
actuarial
assets liability
accrued Funded
(AAL)
liability Ratio
(UAAL)
Pension: (a) (b) (a) – (b) a/b
Public Employees’ $122,153 $140,508 $(18,355) 86.9%
Retirement Fund
Judges’ Retirement Fund 19 3,607 (3,588) 0.5
Judges’ Retirement Fund II 335 367 (32) 91.3
Legislators’ Retirement Fund 142 103 39 137.9
State Teachers’ Retirement
Defined Benefit Program 155,215 177,734 (22,519) 87.3
Total Pension $ 277,864 $322,319 $(44,455)
Panel B: Other Post-Employment Benefits (OPEB)
OPEB (a) (b) (a) – (b) a/b
State of California -0- $ $ 0.0%
48,220 (48,220)
Trial Courts -0- 1,291 (1,291) 0.0%
University of California
Retiree Health Plan 51 13,800 (13,749) 0.4%
Total OPEB $ 51 $ 63,311 $ (63,260)
Source: Information for this exhibit is obtained from the State of California’s
2009 CAFR, Schedule of Funding Progress (pp. 154-156), and the
Public Employees’ Retirement Fund 2009 CAFR (p. 64).
The third column of Exhibit 2 provides the Unfunded Actuarial

Accrued Liability (UAAL), which is the difference between the pension
plan’s actuarial asset and liability values. The UAAL represents the
present value of benefits earned to date that are not covered by
current plan assets. Panel A shows that four of the five pension plans
are underfunded and that the UAAL for all pension plans combined is
$44.5 billion. Of that total, only $2.1 billion is included as a liability on
California’s Statement of Net Assets. This amount has been recorded
as a liability because the state has not made all its required annual
contributions in previous years. The remaining $42.4 billion of the
total UAAL amount is not included anywhere on the face of the state’s
financial statements. If it was recorded on the Statement of Net
Assets (Exhibit 1), the state’s total liabilities would increase from
$147.8 billion to $190.2 billion, or almost 30%.
Other Post-Employment Benefits (OPEB)

States generally offer retired employees benefits other than
pensions. The most significant benefits are for health care, but may
also include life insurance, disability insurance, and nursing-home
care. Collectively, these benefits are referred to as other
postemployment benefits (OPEB). Beginning with 2007, GASB began
requiring states to account for OPEB costs in a manner similar to that
for pensions (GASB 45). This means that states must provide a
Schedule of Funding Progress that shows the actuarial value of
assets set aside for OPEB obligations, as well as the AAL and UAAL
related to OPEB. Prior to the GASB’s change in accounting standards,
governments generally did not report an OPEB liability in their
financial statements.
Panel B of Exhibit 2 provides the Schedule of Funding Progress
for California’s OPEB obligations as of June 30, 2008. California
presents information for three OPEB plans (general government, trial
courts, and the University of California System). The columns in the
OPEB schedule are analogous to those of the pension funds in
Panel A. For OPEB benefits, Panel B shows a cumulative UAAL of
$63.3 billion. Note that the UAAL for OPEB exceeds the $44.5 billion
for pensions, even though pension obligations are more than five
times as large as OPEB obligations ($322.3 billion versus
$63.3 billion). This is because California has been accumulating
assets to pay future pension obligations, whereas the state has not
done this for OPEB obligations. Some states have increased OPEB
funding in recent years, likely because the required financial

disclosures have forced governments to quantify and disclose the
magnitude of their unfunded OPEB.
Similar to pension plans, only a small portion of the state’s OPEB
liability is reported on the face of a state’s financial statements. For
California, only $2.3 billion of the $63.3 billion is included as a
liability on the Statement of Net Assets. This recorded liability reflects
the required funding contribution that the state did not make in prior
years. Including the remaining $61 billion would increase total
liabilities from $147.8 billion to $208.8 billion—about 41%.
MEASURING AdjTNA FOR CALIFORNIA

In this section, we modify the Statement of Net Assets to compute
AdjTNA for California as an example, and then apply these same
adjustments to all states in the next section. The first modification we
make is to subtract the state’s net capital assets from total assets to
arrive at “Adjusted total assets.” The second modification we make is
to add the unrecorded UAAL for pensions and OPEB to the state’s
liabilities reported on the Statement of Net Assets to arrive at
“Adjusted total liabilities.”
We make the first modification because, as discussed above,
56% of California’s total asset value is composed of capital assets
such as roads and bridges, buildings, construction in progress, and
equipment. These items are included as assets on a government’s
Statement of Net Assets because they meet the meet the definition
of “assets” in the GASB’s conceptual framework. In particular, they
have “present service capacity that the government presently
controls” (GASB, 2007). We subtract a state’s net capital assets from
its total assets to arrive at “Adjusted total assets” because the focus
of this paper is on fiscal sustainability. Although state governments
will be able to provide service with their capital assets, these assets
generally do not directly produce positive cash flows to a government
that can be used to pay a government’s bills or to repay debt.
Capital assets owned by a state government generally would not
meet the definition of an asset if they were owned by a private-sector
business and would not be recorded as an asset on a private-sector
business’ financial statements because they do not generate cash
flows (Mautz, 1981, 1988, 1989; FASB, 2001). Business assets are
expected to generate positive future cash flows, most often by

producing goods and services which are then sold to customers and
converted to cash.9 Businesses can also sell their assets and directly
convert them to cash. In contrast, government assets are generally
used to provide services, and will most likely never be converted into
a financial resource that can be used to pay off a liability or purchase
another asset. Mautz (1981 and 1988) argues that, if anything, most
of a government’s capital assets will require additional resources to
maintain the assets in a usable condition. This suggests that these

properties have negative future net cash flows and thus negative
values. Including these assets on the Statement of Net Assets along
with cash, receivables, and inventories overstates the assets that are
available to help finance a state’s activities. Therefore, net capital
assets are subtracted from total assets to compute adjusted total
assets.
Exhibit 3 details our calculations for the state of California. The
first three columns present total assets, total liabilities, and total net
assets as reported on California’s Statement of Net Assets. The next
two columns present the UAAL amounts for pension and OPEB that
are not included in column 2’s total liabilities. The next two columns
present adjusted total assets and adjusted total liabilities. Column 6
shows that California’s adjusted total assets are $80.6 billion. This
measure removes the state’s $102.2 billion of capital assets, which
are not assets in the traditional revenue-generating sense and cannot
be used to help finance a state’s activities. In column 7, the
unrecorded pension and OPEB obligations ($42,392 million and
$60,963 million, respectively) are added to the state’s recorded
liabilities. Adding the pension and OPEB obligations increases the
state’s liabilities from $147.8 billion to $251.2 billion—an increase of
almost 70%. This $251.2 billion provides a more complete measure
of the state’s liabilities.
Our last step is to subtract adjusted total liabilities from adjusted
total assets to arrive at AdjTNA. AdjTNA provides a measure of the
resources that the government can use for its activities, after
considering the government’s known liabilities and obligations. The
last column of Exhibit 3 shows that California’s AdjTNA is a negative
$170.6 billion. A negative value suggests that California’s revenues
have not been sufficient to finance the state’s costs of goods, capital
EXHIBIT 3
State of California, Computation of Adjusted Total Net Assets (AdjTNA)
for FYE 2008
(Dollar Amounts in Millions)
Statement of Net Assets1 Off-sheet
Computation of Adjusted Total Net
liabilities2 Assets
Adjusted Adjusted
Total Total Total Pension OPEB Total Total Adjusted
Assets Liabilities Net (unreco (un- Assets Liabilities Total Net

Assets rded recorded (excludes (includes Assets
UAAL) UAAL) net off- balance (6)-(7)
capital sheet
assets)3 liabilities)
(2)+(4)+(5)
(1) (2) (3) (4) (5) (6) (7) (8)
182,784 147,815 34,969 42,392 60,963 80,583 251,170 (170,587)
Notes: 1 Columns (1) and (2) represent amounts for governmental activities and
business-type activities combined (i.e., the primary government), and are
obtained from the Statement of Net Assets for FYE 2008. Also see Exhibit 1.
2 These amounts represent the UAAL for pension and OPEB that are not included
in the Statement of Net Assets liabilities for FYE 2008. See discussion in
Section 2 of the paper.
3 Adjusted Total Assets is equal to Total Assets from column (1), minus
$102,201 million of net capital assets reported on the Statement of Net Assets.
assets, and services, and that the payment of these costs has been
deferred to future periods. This measure, however, must be
considered within the context of governments. Unlike businesses,
governments have the power to tax. This taxing ability is not reported
as an asset in a government’s financial statements, although it is a
likely source of funding for California’s deficit value. However, if the
AdjTNA deficit value is greater than the amount by which government
officials are willing to increase tax revenues (because of political
consequences), or greater than taxpayers’ ability to pay, then the
state will have to pursue other options—primarily reducing future
government services or reducing costs by increasing efficiencies.
California’s AdjTNA measure therefore provides information about the
state’s ability to sustain its current fiscal structure, given its current
financial resources.
MEASURING AdjTNA FOR ALL 50 STATES

We next compute AdjTNA for all 50 states. We collect financial
information from the state CAFRs for FYE 2008, as well as the
pension and OPEB plan CAFR’s for FYE 2008. For 20 states,
information from the state’s CAFR was sufficient to determine the
UAAL amounts for the state’s pension and OPEB plans, as well as for
determining how the liabilities should be apportioned between the
state and its local governments. For the other 30 states, however,
the state CAFR’s were not sufficient for determining the UAAL
amounts. For these states, we obtained the UAAL amounts from
financial statements and reports issued by the applicable pension
and OPEB plans. This required referring to between one to seven
different pension and OPEB plan statements, depending on the state.
In addition, for nine of the 30 states, the pension and/or OPEB
statements did not provide sufficient information for determining the
division of liabilities between the state and its local governments, so
we contacted state personnel who helped determine the appropriate
division.10
The first three columns of Table 1 report total assets, total
liabilities, and total net assets as reported on each state’s Statement
of Net Assets. The median value of assets and liabilities reported on
the government-wide statements are $28.1 billion and $7.8 billion,
respectively, and the median total net asset value is $14.7 billion.
There is wide variation across the states, with Texas having by far the
largest total net asset value ($142.8 billion). Florida and Alaska rank
second and third, with total net asset values of $59.1 billion and
$57.6 billion, respectively. Four states have a negative total net asset
value: Illinois (-$19.9 billion), New Jersey (-$12.7 billion),
Massachusetts (-$4.6 billion), and Connecticut (-$2.2 billion). These
deficit values suggest that the fiscal sustainability of these states is
relatively weak, even before considering the off-balance sheet
pension and OPEB liabilities.
The next two columns of Table 1 provide the UAAL amounts for
each state’s pension and OPEB plans that are not included in total
liabilities in column 2. Appendix A provides a detailed discussion of
how we arrive at these numbers.11 Table 1 shows that the median
unrecorded (actuarial) liability is $4.1 billion for pension benefits and
$2.7 billion for OPEB benefits. California has the largest unrecorded
pension liability ($42.4 billion) and the largest unrecorded OPEB
liability ($61.0 billion). Three other states have unrecorded pension

liabilities that exceed $20 billion (Illinois, New Jersey, and
Massachusetts), while seven other states have unrecorded OPEB
liabilities that exceed $20 billion. Three of those states have
unrecorded OPEB amounts that exceed $50 billion (California, New
York, and New Jersey).
Column 6 of Table 1 presents adjusted total assets, which is
equal to a state’s total assets minus its net capital assets. As

discussed above, including capital assets in a government’s total
asset value overstates the resources that are available to fund the
state’s activities. This overstatement can be significant because, on
average, capital assets represent a little over half of a state’s total
asset value as reported on the Statement of Net Assets.12 The
median value for adjusted total assets is $11.6 billion, less than half
the median value for reported total assets ($28.1 billion).
Column 7 of Table 1 presents “Adjusted Total Liabilities,” which is
equal to a state’s total liabilities plus the unrecorded pension and
OPEB amounts. Whereas the median value for total liabilities was
$7.8 billion (column 2), the median value for adjusted total liabilities
is $17.5 billion. On average, including unrecorded pension and OPEB
liabilities more than doubles the measure of a state’s liabilities.13
The last column of Table 1 presents the values for AdjTNA. The
mean and median values are -$18.2 billion and -$6.7 billion,
respectively. While only 4 states had a negative TNA value reported
on the Statement of Net Assets, Table 1 shows that 40 states have a
negative value for AdjTNA. These deficit values represent costs that
have been deferred to future periods, and suggest that states may
have more constraints on future spending than suggested by a less
detailed analysis of their financial statements. Although these
amounts will not have to be paid immediately, they will have to be
paid. This will likely require state governments to increase taxes or
other revenues, decrease future services, or decrease costs by
increasing efficiencies. Table 2 provides descriptive statistics for the
information presented in Table 1, as well as the discount rates used
by the pension and OPEB plans.
TABLE 1
Computation of Adjusted Total Net Assets (AdjTNA) for all 50 states
FYE 2008 (amounts in millions)
Adjus- Adjusted Adjusted
Total Total Total Pension OPEB ted Total Total
Assets Liabili- Net (UAAL (UAAL Total Liabili- Net
ties Assets not not Assets ties Assets
recor- recor- (exclu- (2)+(4)+ (6)-(7)
ded) ded) des net (5)

capital
assets)
States (1) (2) (3) (4) (5) (6) (7) (8)
Alabama 27,896 4,340 23,556 9,229 15,413 8,553 28,982 (20,429)
Alaska 64,045 6,484 57,561 3,393 10,312 57,435 20,188 37,247
Arizona 32,244 10,674 21,570 6,297 569 12,120 17,540 (5,420)
Arkansas 19,991 5,646 14,345 2,742 1,525 8,044 9,913 (1,869)
California 182,784 147,815 34,969 42,392 60,963 80,583 251,170 (170,587)
Colorado 30,091 9,133 20,958 6,661 713 13,475 16,508 (3,032)
Connecticut 22,370 24,573 (2,203) 13,942 24,784 8,977 63,299 (54,322)
Delaware 9,613 3,903 5,710 12 5,350 2,966 9,265 (6,299)
Florida 116,403 57,273 59,130 (1,799) 2,218 53,784 57,692 (3,908)
Georgia 39,642 17,486 22,156 6,443 19,511 14,045 43,440 (29,395)
Hawaii 16,026 7,806 8,220 3,874 8,426 5,333 20,106 (14,773)
Idaho 11,343 2,353 8,990 787 120 5,499 3,260 2,239
Illinois 36,735 56,621 (19,886) 35,188 29,921 18,279 121,730 (103,451)
Indiana 24,264 5,027 19,237 9,929 427 13,589 15,383 (1,794)
Iowa 17,290 4,938 12,352 2,828 404 7,977 8,170 (193)
Kansas 16,316 5,256 11,060 6,276 300 4,786 11,831 (7,045)
Kentucky 28,266 11,984 16,282 10,571 11,660 7,551 34,215 (26,664)
Louisiana 34,956 13,745 21,211 11,659 13,614 19,601 39,017 (19,417)
Maine 6,800 2,566 4,234 3,011 2,395 2,609 7,973 (5,364)
Maryland 36,156 18,718 17,438 9,693 14,037 14,916 42,449 (27,533)
Massa-
chusetts 39,978 44,543 (4,565) 21,881 14,872 18,352 81,296 (62,944)
Michigan 31,732 16,059 15,673 2,130 17,191 11,892 35,380 (23,488)
Minnesota 24,188 10,986 13,202 2,257 1,190 12,194 14,433 (2,238)
Mississippi 19,291 6,744 12,547 7,965 527 7,485 15,235 (7,750)
Missouri 37,256 7,805 29,451 2,628 2,743 8,253 13,176 (4,922)
Montana 8,378 1,546 6,832 1,459 591 4,816 3,596 1,219
Nebraska 12,600 1,746 10,854 755 0 4,977 2,501 2,476
Nevada 12,377 6,557 5,820 7,282 1,790 7,311 15,629 (8,318)
New
Hampshire 4,676 1,768 2,908 1,019 2,556 1,734 5,344 (3,610)
New Jersey 36,238 48,957 (12,719) 29,675 52,736 17,012 131,368 (114,356)
New Mexico 25,469 7,377 18,092 4,615 2,946 16,020 14,939 1,081
New York 130,290 82,563 47,727 (10,918) 53,299 43,323 124,944 (81,621)
North
Carolina 50,131 18,263 31,868 503 27,981 17,476 46,747 (29,271)
North
Dakota 10,113 4,401 5,712 547 76 7,841 5,023 2,818
Ohio 70,937 47,215 23,722 12,570 9,472 46,179 69,257 (23,078)
Oklahoma 19,433 5,368 14,065 9,256 697 11,372 15,321 (3,949)
TABLE 1 (Continued)
Adjusted Adjusted Adjusted
Total Total Total Pension OPEB Total Total Total
Assets Liabili- Net (UAAL (UAAL Assets Liabili- Net
ties Assets not not (exclu- ties Assets
recor- recor- des net (2)+(4)+ (6)-(7)
ded) ded) capital (5)
assets)
States (1) (2) (3) (4) (5) (6) (7) (8)
Oregon 30,827 15,726 15,101 3,160 733 19,035 19,619 (585)

Pennsylva-
nia 54,622 25,877 28,745 8,763 18,071 33,937 52,711 (18,774)
Rhode
Island 4,572 3,620 952 4,386 772 1,637 8,778 (7,141)
South
Carolina 31,957 14,156 17,801 12,061 9,008 14,267 35,225 (20,958)
South
Dakota 5,564 1,002 4,562 55 63 2,427 1,120 1,307
Tennessee 31,169 4,208 26,961 1,025 2,294 8,781 7,527 1,253
Texas 210,801 67,977 142,824 13,344 46,876 125,433 128,198 (2,765)
Utah 21,552 4,830 16,722 3,611 420 9,864 8,861 1,003
Vermont 2,613 1,190 1,423 243 1,525 1,210 2,958 (1,748)
Virginia 32,590 14,255 18,335 9,836 3,626 13,965 27,717 (13,752)
Washington 70,972 49,160 21,812 3,401 7,224 41,284 59,785 (18,501)
West
Virginia 16,547 7,231 9,316 4,666 5,624 8,424 17,521 (9,098)
Wisconsin 31,859 19,072 12,787 253 1,603 11,290 20,927 (9,638)
Wyoming 17,806 6,494 11,312 1,444 177 17,288 8,116 9,173
mean 37,395 19,261 18,135 6,860 10,187 18,104 36,308 (18,204)
median 28,081 7,806 14,723 4,130 2,650 11,632 17,531 (6,672)
# negative 4 2 40
TABLE 2
Descriptive Statistics for all 50 states, FYE 2008 (Dollar Amounts in
Millions)
Mean Median St. Dev. Max Min
Total assets $37,395 $28,081 $41,305 $ 210,801 $2,613
Total liabilities 19,261 7,806 26,767 147,815 1,002
Total net assets 18,135 14,723 23,144 142,824 (19,886)
Unrecorded UAAL:
Pension 6,860 4,130 9,124 42,392 (10,918)
OPEB 10,187 2,650 15,083 60,963 0
Adjusted total assets (ex-
cludes net capital assets) 18,104 11,632 22,280 125,433 1,210
Adjusted total liabilities 36,308 17,531 46,061 251,170 1,120
Adjusted total net assets (18,204) (6,672) 34,581 37,247 (170,587)
Discount rates:
Pension plans 7.97 8.00 0.34 8.50 7.00
OPEB plans 5.14 4.50 1.51 8.50 3.00
To provide perspective on the deficit balance’s size relative to the

size of a state’s constituency, Table 3 presents states ranked (in
reverse order) on AdjTNA measured on a per-household basis.14
Alaska is clearly the strongest state, with a value of $129,990 per
household. The state has a significant AdjTNA amount spread across
a relatively small number of households. However, 35 states have a
deficit value that exceeds $1,000 per household, and 15 states have
a deficit value that exceeds $10,000. These deficits represent the
costs that have been deferred to future households, assuming a

state’s number of households remains constant. As population shifts
occur across states, the per-household burden will also change. We
also compare a state’s AdjTNA measure with its state tax revenues
for FYE 2008. On average, the AdjTNA values in Table 1 are about
140% of a state’s total annual tax revenues. This suggests that the
costs deferred to future periods are significant in relation to a state’s
current annual tax revenues. This analysis can be provided by the
authors upon request.
TABLE 3
States Ranked by Adjusted Total Net Assets (AdjTNA) per Household
(Amounts In Dollars)
Connecticut (36,366) New Tennessee 498
New Jersey (30,847) Hampshire (6,237) Utah 1,022
Hawaii (25,543) Vermont (6,191) New Mexico 1,320
Massachusetts (22,701) Kansas (6,088) Montana 2,954
Illinois (19,381) Michigan (5,762) Nebraska 3,314
Delaware (16,813) Ohio (4,696) Idaho 3,812
Kentucky (16,010) Virginia (4,190) South Dakota 3,839
Rhode Island (15,936) Wisconsin (3,948) North Dakota 9,951
West Virginia (12,747) Pennsylvania (3,494) Wyoming 38,623
California (11,967) Oklahoma (2,813) Alaska 129,990
South Carolina (11,655) Arizona (2,264)
Maryland (11,373) Missouri (2,033) Mean (3,379)
Louisiana (11,311) Arkansas (1,717) Median (5,229)
Alabama (11,167) Colorado (1,500) # negative 40
New York (10,076) Minnesota (1,000)
Maine (9,569) Indiana (672)
North Carolina (7,939) Florida (500)
Georgia (7,849) Oregon (381)
Nevada (7,460) Texas (298)
Mississippi (6,974) Iowa (154)
Washington (6,649)
SENSITIVITY ANALYSIS
Critics argue that the UAAL measure significantly understates a
government’s unfunded pension obligations and attribute this
understatement to two reasons (Novy-Marx and Rauh, 2009, 2011a,
2011b). The first reason is that pension liabilities are discounted
using a rate that is too high. Governmental accounting rules require
that pension liabilities be discounted using the expected long-term
rate of return on plan assets, and most state pension plans use a
rate of about 8% (Public Fund Survey, 2011). Conventional finance
theory, however, suggests that pension liabilities should be
discounted at a rate that reflects their risk, which is the level of
certainty that a state will make these payments. Given that state
pension benefits are protected by constitutional and legal provisions
and are likely to be paid (Brown & Wilcox, 2009), critics argue that
the appropriate discount rate should approximate a risk-free rate.15
The second reason put forth for the understatement of pension
obligations is that governmental accounting rules require that a
plan’s assets be measured using their actuarial value rather than
market value. Actuarial value is based on an average of the past
three to five years of market values. Critics argue that actuarial
values are irrelevant for measuring a plan’s funding status, and that
current market value should be used to measure a plan’s ability to
pay benefits (Wozniak & Austin, 2008; Biggs, 2011). This would be
consistent with corporate accounting rules, which require U.S.
corporations to use a plan’s current market value to report the
unfunded pension liability (ASC 715).16 In periods of extended market
gains, market values will usually be greater than actuarial values, and
the UAAL will cause the plan’s funding status to appear worse than it
is. However, in periods of extended market decline—as experienced
more recently, market values will usually be less than actuarial
values, and the UAAL will cause the plan’s funding status to appear
better than it is.
To examine how sensitive our measure is to these criticisms, we
repeat our analysis using data from Novy-Marx and Rauh (2011a)
[hereafter NMR] to estimate the unfunded pension and OPEB
liabilities for each state. NMR provide estimates of the unfunded
pension liability as of June 2009 for each state using a zero-coupon
Treasury yield to discount pension liabilities and using current market
value of pension plan assets.17 When we use the NMR liability
measures rather than the UAAL amounts in Table 1, AdjTNA is

negative for 48 states. Only Alaska and Wyoming have positive
values. The mean and median values are -$52.2 billion and
-$20.7 billion, respectively, which is about 3 times larger than the
average deficit values in Table 1. The four states with the largest
deficits are the same as in Table 1, although New York’s deficit now
ranks second and New Jersey’s ranks fourth. All four states have
deficits exceeding $200 billion, and California’s deficit remains the
largest at -$395.2 billion. Texas and Florida have the largest increase
in their deficits, in dollar terms, compared with the deficit values in
Table 1. The NMR adjustments increase Texas’ deficit value from
-$2.8 billion to -$150.4 billion, and increase Florida’s deficit value
from -$3.9 billion to -$95.5 billion. On a per household basis, the
mean and median deficit AdjTNA values are $16,835 and $16,238.
Thirty-seven states have a deficit value that exceeds $10,000 per
household, and 22 states have a deficit value that exceeds $20,000.
Connecticut, New Jersey, and Illinois have deficit values that exceed
$40,000 per household. The authors can provide this analysis upon
request.
ADDITIONAL ISSUES AFFECTING ESTIMATES OF STATES’ LIABILITIES

When computing AdjTNA, we remove $167.6 billion from
state-sponsored pension and OPEB plans that we determine are not a
primary legal obligation of the state (see Appendix A). However, it is
not entirely clear whether the state would ultimately be responsible
for these unfunded liabilities if a local government could not pay
them. As a practical measure, a state may step in to fund the
liabilities rather than see a city, county, or school district default, or
there could be legal actions which resulted in states paying at least a
portion of the liabilities. If states are liable for these amounts, then
AdjTNA deficit values are actually larger (more negative) than shown
in Table 1, and states’ fiscal sustainability is even more uncertain.18
In an attempt to reduce liabilities, state legislatures are enacting
significant revisions to their pension plans (Snell, 2011). All states
have legal protections for their pensions that limit the state’s ability to
modify the vested benefits that have already accrued to existing
workers and retirees (Moore, 2000; Morrison and Foerster LLP,
2007; Brown and Wilcox, 2009). Accordingly, many pension changes
only affect employees hired after the legislation’s effective date and
do not affect the UAAL amounts shown in Appendix A. However, if

pension reforms modify benefits to existing workers and retirees for
work already performed, then the UAAL amounts will decrease. For
example, both Minnesota and Colorado reduced the cost-of-living
adjustment that pensioners in their respective states automatically
received, and thus decreased their UAAL amounts. Although retirees
in both states challenged these changes as unconstitutional, the
courts dismissed the lawsuits. Several other states are pursuing
similar reforms (Tyer, 2011).

State legislatures are also modifying their OPEB plans. Although
these changes have been met with legal challenges, these challenges
are less likely to be successful. States have more leeway to modify
OPEB benefits because they do not generally have the same level of
protection as pension benefits (U.S. Government Accountability
Office, 2008). If states can successfully reduce their pension or OPEB
liabilities, their UAAL amounts would be reduced, and expectations
regarding their fiscal sustainability could be improved.19
CONCLUSIONS AND POLICY IMPLICATIONS

State spending and long-term liabilities continue to grow and
outpace revenues, giving rise to increased concerns regarding
whether the level of governments’ goods and services are
sustainable. We use states’ accrual-basis financial statements, with
adjustments, to measure the extent to which states have deferred
payment of past costs to future periods. Although some of these past
costs will necessarily provide benefits in future periods, they must
eventually be paid. We provide estimates of the magnitude of these
deferred costs for each state. If these deferred costs are greater than
what future taxpayers are willing or able to pay, then a state’s level of
goods and services is not sustainable.
Our primary results suggest that 40 states have deferred payment
for past costs to future periods, with the median deferred cost being
$6.7 billion per state or $5,230 per household. These deficit values
are also significant when compared with states’ current annual tax
revenues. Sensitivity analysis using adjustments to UAAL pension and
OPEB liabilities reported by the states suggests that 48 states have
deferred a median cost of $20.7 billion per state or $16,200 per
household.
Our AdjTNA measure has several important policy implications.

States currently report TNA on their Statement of Net Assets, which is
intended to represent the resources available to the government to
provide services, after the government has paid its liabilities. Our
AdjTNA measure provides an estimate of a state’s available
resources when unfunded pension and OPEB liabilities are included
as liabilities, and when capital assets are removed from a state’s
available resources. Our AdjTNA therefore provides information about
a state’s ability to sustain its current fiscal structure, given its current
financial resources. Our AdjTNA results provide a significantly
different picture of states’ fiscal sustainability. While only four states
have negative TNA values for FYE 2008, 40 states have a negative
AdjTNA. One way of funding these deficit values is through state tax
revenues. However, if a state’s ability to increase tax revenues is
constrained because of political or economic reasons, then
governments will likely have to decrease future government services.
States may also choose to issue new debt to fund these prior costs,
assuming states have additional debt capacity. However, a significant
portion of these prior costs is due to pension and OPEB obligations.
Our evidence suggests that pension and OPEB obligations represent
almost half of a state’s total liabilities (Table 1). This means that a
state would be issuing debt to finance the expenses of its retired
employees, which has different economic consequences than issuing
debt to finance construction of assets that may yield future benefits.
Our study can also help inform discussions on the GASB’s
“Economic Condition Reporting” project, especially with respect to the
project’s third phase which focuses on a government’s fiscal
sustainability. GASB is still developing a definition of “fiscal
sustainability,” but project documents state that this term commonly
includes the government’s ability to continue services and existing
programs; to meet financial commitments now and in the future; to
maintain the stability and predictability of future tax burdens, which
supports informed long-term decision making; to rely on a
government’s future revenue sources; and to maintain reasonable
debt levels (GASB, 2014).20 Our study suggests that certain
adjustments to a state’s financial statements are required to provide
a more complete assessment of a government’s fiscal sustainability
and economic condition. We outline these adjustments, discuss their
rationale, and provide a template for computing and applying them.
These types of adjustments are worth considering as the GASB

discusses economic condition reporting.
Last, our results not only provide policymakers with preliminary
evidence on how the two new accounting standards for pensions will
affect states’ financial statements, but also how similar standards for
OPEB would affect states’ financial statements. The GASB is currently
considering whether similar changes should be made to the OPEB
standards so that governments would begin to report a significant

long-term liability related to their OPEB obligations. The GASB plans
to propose the revised OPEB accounting standards in spring 2014.
Our paper also suggests several opportunities for future research.
It would be useful for future studies to identify economic and
demographic factors that are associated with AdjTNA, such as a
state’s size, population growth, income level, and unemployment
rate. Identifying such factors could provide insight into those
economic and demographic influences that are related to a state’s
current and future deficits or surpluses. It would also be useful for
future research to examine how these factors are associated with a
state’s current and future tax revenues. This could help provide a
measure of what future state taxpayers are able to pay. Future
studies could also expand their analysis to include multiple year’s
data, thereby providing an analysis of both cross-sectional and
time-series variation. Expanding the analysis to multiple years would
also allow researchers to identify how states respond to revenue
needs (e.g., increase taxes, issue bonds, decrease services).
Our paper makes several contributions to our understanding of
the fiscal sustainability of state governments. However, perhaps the
most important contribution is to show how accountants and accrual
basis accounting for state governments can inform economic and tax
policy debates. Our analysis provides economically meaningful
estimates of states’ costs deferred to future time periods. These
estimates can help policymakers and scholars better understand the
fiscal sustainability concerns currently facing state governments,
which in turn could lead to more informed decisions with respect to
states’ spending and tax policies.21
NOTES
1. The GASB notes that whether interperiod equity is (or is not)
achieved is a policy decision of the government. For example,
many would argue that it is appropriate for governments to
finance capital assets by issuing long-term debt. The GASB’s
concern is that financial statement users understand the
implications of a government’s fiscal decisions for future periods,
and that users can therefore appropriately assess the degree to

which interperiod equity has been achieved (GASB, 2009).
2. An exception would be roads and bridges for which tolls are
assessed. Recent statistics indicate that six states have over
$400 million in annual state and local toll road receipts (not
including bridges). Florida and New Jersey each have between
$800-$900 million in toll road receipts, and Texas, Pennsylvania,
New York, and Illinois each have between $400-$500 million
(Perez and Lockwood, 2006).
3. Under GASB Statement No. 27 (the current pension standard),
some state and local governments report a net pension asset in
their financial statements although they have a large unfunded
actuarial accrued liability. The reason that they report a net
pension asset is because they have funded more on an annual
basis than their actuarially determined annual required
contribution. The annual required contribution is determined by
adding the normal cost (or actuarial present value of benefits
allocated to the current year) to an amortized portion of the
unfunded actuarial accrued liability.
4. Our results also provide evidence on how states’ financial
statements would be affected by Moody’s proposed adjustments
for evaluating state credit risk. In 2011, Moody’s began directly
including pension liabilities in its state credit analysis. Moody’s
(2012) is now considering four adjustments to state and local
pension information. Three of these are similar to ones made in
this paper (i.e., using a lower discount rate for liabilities; using
market values instead of smoothed asset values; allocating
multiple-employer cost-sharing plan liabilities to specific
government employers based on proportionate shares).
5. Because state budgets are not governed by GAAP, states have
flexibility in how they measure revenues and expenditures for
budgetary purposes. California, for example, has a history of

adjusting the accounting method used for recognizing revenue in
order to help balance the state’s current-year budget (Sisney,
2011).
6. No states are actually required to follow GASB pronouncements,
but they do so voluntarily for numerous reasons (Baber and Gore,
2008). If state governments wish to have an unqualified opinion
on their financial statements, they will follow GASB

pronouncements including issuing government-wide financial
statements.
7. The Statement of Net Assets also presents a separate column for
assets and liabilities of a state’s component units. Component
units are separate legal entities from the state, but for which the
state has responsibility for financial reporting. Because they are
not part of a state’s primary government activities, we exclude
them from our analysis.
8. When pension plans and governments implement GASB
Statement No. 67 and No. 68 (GASB 2012a and 2012b), they will
no longer be able to use a multi-year average of market values for
plan assets. Instead, pension plan assets will generally be
reported at fair value at the end of the pension plan’s reporting
period. Using fair values will make the net pension liability
reported in a government’s financial statements more volatile.
9. In the private sector, long-lived assets are written off to the extent
that the asset’s net book value exceeds the sum of the
undiscounted cash flows expected to result from the asset’s use
and disposition (FASB Statement No. 144).
10. In some cases, the pension and OPEB valuations for FYE 2008
were reported in the 2009 CAFR, so the information was collected
from the 2009 CAFR. All states have a June 30 year end except
for Alabama and Michigan (September), New York (March), and
Texas (August).
11. An important distinction between our study and other studies that
have examined unfunded pension and OPEB obligations (Pew
Center, 2010; Novy-Marx and Rauh, 2011a) is that we apportion
the liabilities between the state and local governments according
to which government is legally responsible for funding the
pension or OPEB plan. The last line of Appendix A’s table shows
that we estimate the total unfunded pension and OPEB liability for
state-sponsored plans to be $1.07 trillion. This compares with the
Pew Center’s (2010) estimate of $1.01 trillion for unfunded state
and local government pension and OPEB liabilities for this same
time period.
12. For 34 states, capital assets represent more than half of total
asset value as measured on the Statement of Net Assets, and for
an additional 13 states, capital assets represent more than 35%

of total asset value. For the remaining three states, capital assets
represent 23% (North Dakota), 10% (Alaska), and 3% (Wyoming).
13. Across all states, the mean and median increase in liabilities is
114% and 109%, respectively. Liabilities more than double for
27 states, while liabilities for 16 states increase from 30% to
95%. Alabama has the largest percentage increase in liabilities
(568%, $4.3 billion to $29 billion), and Florida has the smallest
increase (less than 1%).
14. Consistent with the Internal Revenue Service’s methodology, we
estimate the number of households for each state using the
number of 2008 federal individual income tax returns filed in
each state (Internal Revenue Service, 2011).
15. FASB oversees reporting for corporate pension plans, and
requires liabilities be discounted using market rates currently
applicable for setting benefit obligations, or the rate of return on
high quality fixed income securities (ASC 715-30). These rates are
intended to capture the risk of the pension liabilities. A survey of
100 U.S. public companies with the largest defined benefit
pension plan assets shows the median discount rate was 6.4% in
2008 and 5.8% in 2009 (Ehrhardt and Morgan, 2010). Evidence
suggests that corporate pensions are less likely to be paid than
government pensions since companies can declare bankruptcy
and default on pension liabilities (Loomis, 2004; Peltz, 2005).
State and local bankruptcies are rare, with only 49 municipal
bankruptcies from 1980 to 2011 (Nolan, 2011).
16. Although not required, some government pension plans provide
two unfunded liability amounts in their financial statements—one
based on actuarial value of assets and one based on market
value—stating that the funding status based on market value
provides a “better measure” of a plan’s ability to pay benefits
(Calif. PERS 2009 CAFR, p. 16). Also see the 2009 CAFR for the
Colorado PERA (pp. 37-39) and the 2010 CAFR for the Calif. STRS
(p. 29).
17. The UAAL amounts for OPEB liabilities are not as affected by the
two criticisms leveled at pension liabilities (Clark, 2009). Most
OPEB plans are unfunded, and for these plans, the accounting
rules state the discount rate should be the yield on assets used to
pay benefits—which is generally 4% to 5% for state governments

(Statement No. 45, GASB 2004). Thus, we only adjust OPEB
amounts for the 12 states that use a rate greater than 5% to
discount OPEB liabilities.
18. There are also thousands of local governments that do not
participate in state-sponsored pension or OPEB plans, but
participate in a combined plan with other municipalities or fund
their own plans on a stand-alone basis. It is difficult to identify
these plans and quantify their liabilities, but evidence suggests
that liabilities are significant (Novy-Marx and Rauh, 2009 and
2011b; Minnesota Office of the State Auditor, 2006 and 2009).
19. Yusuf and Musumeci (2012) propose four approaches for how
local governments have responded to GASB 45. The approaches
involve different combinations of changing OPEB funding and/or
benefits. They illustrate these approaches using a sample of
15 counties and 9 cities. Fischer, Marsh, Hunt, Hora, and
Montondon (2013) examine OPEB liabilities of public universities,
including the cost containment and benefit modifications being
considered by the universities to help address revenue shortfalls.
20. GASB defines economic condition as “a composite of a
government’s financial position and its ability and willingness to
meet its financial obligations and service commitments on an
ongoing basis,” and economic condition reporting as the
“communication of financial position, fiscal capacity, and service
capacity information to assist users in assessing a government’s
economic condition” (GASB, 2014).
21. To attain fiscal sustainability in the long-run, states will likely have
to pursue policy changes such as those proposed by LaPlante
(2011). LaPlante identifies seven predominant habits in state
policy making that contribute to unsustainable budgets and fiscal
instability and provides suggestions for correcting them.
ACKNOWLEDGMENTS
We thank two anonymous reviewers and the editor (Don Deis) for
their comments and suggestions. We have benefitted from comments
and discussions with Ray Pfeiffer, Mary Stanford, Bob Vigeland, and
Bill Wempe. We have also benefited from discussions with the
following individuals and appreciate their help in clarifying their
state’s pension and OPEB plans: Teresa Kesey (Chief Financial
Officer) and Jim Puckett (Division Director), State of Alaska Division of

Retirement & Benefits; Aristotle Hutras (Director) and Annemarie
Erkman (Research Attorney), Ohio Retirement Study Council; Robert
A. Wylie, Executive Director/Administrator of South Dakota
Retirement System; Hank Johnson, Chief Financial Officer, Fort Worth
ISD; Cindy Peters (Manager) and Randy Bitner (Accountant), State of
Michigan Department of Management and Budget, Retirement
Services; Damon Asbury, Director of Legislative Services, Ohio School
Boards Association; Sheri Mauck (Associate Vice Chancellor for
Budget and Finance) and Ben Hardcastle (Director of
Communications), Oklahoma State Regents for Higher Education;
John Wicklund, Assistant Executive Director, Administration,
Minnesota Teachers Retirement Association; Gene Meyer (Kansas
Reporter); and Laura Bischoff (Dayton Daily News). The authors are
responsible for all errors and omissions.
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APPENDIX A
Description of UAAL Data Collection and Apportionment between
State and Local Governments
The amounts in Appendix A represent unfunded actuarial accrued
liabilities (UAAL) for state-sponsored pension and OPEB plans. These
amounts are obtained from a state’s Comprehensive Annual Financial
Report (CAFR) for FYE 2008, as well as the CAFR’s for the individual
pension and OPEB plans. In some cases, the pension and OPEB
valuations for FYE 2008 were reported in the 2009 CAFR, so the
information was collected from the 2009 CAFR. All CAFR’s were obtained
from publicly-accessible websites.
We apportioned the UAAL amounts to the government which is legally
responsible for funding the pension or OPEB plan. If both the state and
local governments had a responsibility to fund the plan, we apportioned
the UAAL amount based on the relative funding responsibility. All CAFR’s
were read to see if the funding responsibility was apparent from the plan’s
description. If this was not apparent from the plan’s description, we
contacted the director of the pension or OPEB plan. These contacts were
made via email and/or phone. For these plans, the division between
state and local governments was based on our discussions with plan
directors.
The amounts in the first two columns of Appendix A represent the total
UAAL amounts which are the state’s responsibility. However, for purposes
of Table 1 (columns 4 and 5), we are only interested in a state’s
unrecorded UAAL amount (i.e., the UAAL amount which is not already
included as a liability in the state’s Statement of Net Assets). Therefore,
the Table 1 UAAL amounts are equal to the Appendix A UAAL amounts,
minus the UAAL amount which is already recorded as a liability. We
determine the UAAL amount which is included in a state’s liabilities by
examining the information on a state’s long-term obligations, found in the
state CAFR’s “Notes to the Financial Statements.”
Note: All data was collected by the authors, and all contacts with plan
directors were made by the authors.
APPENDIX A
Unfunded Actuarial Accrued Liability (UAAL) Amounts for FYE 2008 (in
Millions)
State State State Local Local State &
State Pension OPEB Total Pension OPEB Local
Total
Alabama 9,229 15,599 24,828 0 0 24,828
Alaska 3,536 10,312 13,847 0 0 13,847

Arizona 6,297 569 6,866 0 0 6,866
Arkansas 2,752 1,656 4,408 0 0 4,408
California 44,455 63,260 107,715 16,687 5,769 130,171
Colorado 6,661 729 7,390 10,276 675 18,342
Connecticut 15,859 26,019 41,877 0 0 41,877
Delaware 121 5,642 5,762 0 0 5,762
Florida (1,799) 2,218 419 0 0 419
Georgia 6,443 19,669 26,112 0 0 26,112
Hawaii 3,874 8,789 12,663 1,294 0 13,957
Idaho 790 148 938 0 0 938
Illinois 54,384 31,159 85,543 0 8,787 94,331
Indiana 9,940 463 10,402 0 0 10,402
Iowa 2,828 404 3,232 0 0 3,232
Kansas 6,276 317 6,592 2,003 0 8,596
Kentucky 12,328 11,660 23,989 0 0 23,989
Louisiana 11,659 14,215 25,874 0 0 25,874
Maine 3,030 2,430 5,460 0 0 5,460
Maryland 10,493 14,733 25,226 0 0 25,226
Massachusetts 22,084 15,028 37,112 0 0 37,112
Michigan 2,667 17,801 20,468 8,242 23,721 52,432
Minnesota 2,291 1,228 3,519 9,369 0 12,888
Mississippi 7,965 570 8,535 0 0 8,535
Missouri 2,741 2,852 5,592 6,285 3 11,880
Montana 1,459 632 2,091 0 0 2,091
Nebraska 755 0 755 0 0 755
Nevada 7,282 1,790 9,072 0 0 9,072
New
Hampshire 1,019 2,713 3,732 1,504 252 5,489
New Jersey 34,434 55,914 90,348 0 8,841 99,188
New Mexico 4,615 2,946 7,562 0 0 7,562
New York (10,428) 56,286 45,858 0 0 45,858
North Carolina 504 27,981 28,485 0 0 28,485
North Dakota 547 76 622 0 0 622
Ohio 12,570 9,472 22,042 24,117 20,351 66,510
APPENDIX A (Continued)
State State State Local Local State &
State Pension OPEB Total Pension OPEB Local
Total
Oklahoma 9,260 697 9,958 3,912 0 13,870
Oregon 3,160 753 3,914 7,578 0 11,492
Pennsylvania 8,763 18,071 26,834 4,962 519 32,314
Rhode Island 4,386 788 5,174 0 0 5,174

South Carolina 12,070 9,008 21,078 0 0 21,078
South Dakota 55 67 122 130 0 252
Tennessee 1,025 2,399 3,424 578 0 4,002
Texas 13,781 47,439 61,221 0 637 61,858
Utah 3,611 420 4,031 0 0 4,031
Vermont 462 1,615 2,076 0 0 2,076
Virginia 10,733 3,685 14,418 0 0 14,418
Washington 3,514 7,470 10,984 0 376 11,360
West Virginia 4,736 5,624 10,360 268 484 11,112
Wisconsin 253 1,707 1,959 0 0 1,959
Wyoming 1,444 189 1,634 0 0 1,634
mean 7,538 10,504 18,042 1,944 1,408 21,395
median 4,130 2,782 8,803 0 0 11,426
sum 376,912 525,212 902,124 97,207 70,414 1,069,745

Journal of Public Budgeting, Accounting & Financial Management Volume 27 Issue 2 2015 (Doi 10.1108/JPBAFM-27!02!2015-B004) Plummer, Elizabeth Patton, Terry K. - Using Financial Statements To Provi

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Journal of Public Budgeting, Accounting & Financial Management Volume 27 Issue 2 2015 (Doi 10.1108/JPBAFM-27!02!2015-B004) Plummer, Elizabeth Patton, Terry K. - Using Financial Statements To Provi

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USING FINANCIAL STATEMENTS TO PROVIDE EVIDENCE ON THE

ABSTRACT. This descriptive study shows how the government-wide financial

Copyright © 2015 by PrAcademics Press

sufficient to meet budgeted expenditures (See Bradbury, 2010;

To compute AdjTNA, we begin with the state’s Statement of Net

balance relative to the size of its constituency, we rank states based

governments. Statement 67 is effective for periods beginning after

our results therefore provide preliminary evidence on how the

policies could affect future generations. If the costs deferred to future

OVERVIEW OF A STATE’S FINANCIAL STATEMENTS

meet its current-year expenditures. It provides little to no information

or accounting methods (e.g., accelerating tax collections across fiscal

Government-wide Financial Statements

Exhibit 1 presents an abbreviated version of the Statement of Net

intended to recover all or a significant portion of their costs through

California’s invested in capital assets, net of related debt, is

restricted net assets, and Exhibit 1 shows that California has

resources available to meet ongoing obligations to citizens and

Off-balance Sheet Liabilities

Public Employee Pension Plans

In a government defined contribution plan, the government

reports an expense for the amount that it is obligated to contribute to

The second column of Exhibit 2, Panel A, shows the actuarial

obligations using the expected return on pension assets. California

The third column of Exhibit 2 provides the Unfunded Actuarial

Other Post-Employment Benefits (OPEB)

funding in recent years, likely because the required financial

MEASURING AdjTNA FOR CALIFORNIA

expected to generate positive future cash flows, most often by

maintain the assets in a usable condition. This suggests that these

Assets Liabilities Net (unreco (un- Assets Liabilities Total Net

MEASURING AdjTNA FOR ALL 50 STATES

liability ($61.0 billion). Three other states have unrecorded pension

equal to a state’s total assets minus its net capital assets. As

ded) ded) des net (5)

Oregon 30,827 15,726 15,101 3,160 733 19,035 19,619 (585)

To provide perspective on the deficit balance’s size relative to the

costs that have been deferred to future households, assuming a

measures rather than the UAAL amounts in Table 1, AdjTNA is

ADDITIONAL ISSUES AFFECTING ESTIMATES OF STATES’ LIABILITIES

do not affect the UAAL amounts shown in Appendix A. However, if

similar reforms (Tyer, 2011).

CONCLUSIONS AND POLICY IMPLICATIONS

Our AdjTNA measure has several important policy implications.

These types of adjustments are worth considering as the GASB

standards so that governments would begin to report a significant

and that users can therefore appropriately assess the degree to

budgetary purposes. California, for example, has a history of

on their financial statements, they will follow GASB

an additional 13 states, capital assets represent more than 35%

pay benefits—which is generally 4% to 5% for state governments

Officer) and Jim Puckett (Division Director), State of Alaska Division of

Chapman, J.I. (2008, December-Supplement). State and Local Fiscal

Cooper, M. (2011, October 20). “Warning by States as Tax Revenues

Governmental Accounting Standards Board (GASB). (2014). GASB

Johnson, C.L., Kioko, S.N., & Hildreth, W. (2012, Spring).

States: 2002-2010.” Journal of Public Budgeting, Accounting &

Minnesota. [Online]. Available at www.auditor.state.mn.us/

Washington, DC: American Association of Retired Persons.

Growing Old: Paying for Retirement and Institutional Money