Pension Smoothing Does Not Reduce the Deficit

In the coming days, the Senate will vote on the House-passed measure to replenish the Highway Trust Fund. The bill is a last-ditch effort to prevent the fund from going bankrupt, which would stall construction projects across the country. However, the transfer of general revenue to the HTF is funded primarily by a budget gimmick known as “pension smoothing,” which appears to raise revenue in the short term but ends up costing money in the long term.

Opposition to the policy has been building steadily and now includes organizations from all points on the political spectrum. The right-leaning Heritage Foundation warns about the gimmick:

The proposal to “smooth” pension contributions would merely shift tax revenue from the future into the present while destabilizing pensions even further and increasing the risks of a taxpayer pension bailout.

Similarly, the left-leaning Center on Budget and Policy Priorities details the dangers of pension smoothing:

This proposed change in pension funding rules can’t “pay for” anything. While it would raise money at first, it would lose money in later years. Although it would offset some or all of the cost of ending the medical device tax for several years, it would swell deficits and debt for some years after that.

The proposal could produce a net revenue gain within the ten-year budget window, but produce subsequent revenue losses. As a result, it would cease to function as an offset, and the package would then increase deficits and debt in all future decades.

Josh Barro in The New York Times also highlights Congress’ use of the gimmick as a way to feign deficit reduction:

If you change corporate pension funding rules to let companies set aside less money today to pay for future benefits, they will report higher taxable profits...Unfortunately, this gimmick will also result in corporations paying less in taxes in later years, when they have to make up for the pension payments they’re missing now. But if it happens more than 10 years in the future, it doesn’t count in Congress’s method for calculating budget balance.

Howard Gleckman of Tax Policy Center stresses that pension smoothing is not a real offset:

In a nutshell, here’s what it does: Companies can postpone contributions to their pension funds. This means that their tax deductions for pension contributions are lower now, but the actual pension obligations don’t change, so contributions later will have to be higher—by the same amount plus interest. In present value terms (that is, accounting for interest costs), this raises exactly zero revenue over the long run.

Let me say that again using all capital letters to express my frustration.

THIS $6.4 BILLION REVENUE PROVISION RAISES NO REVENUE OVER THE LONG RUN!!!

The list of opponents of the gimmick goes on and on, from the Washington Post, to FOX Business, the Bipartisan Policy Center, the American Enterprise Institute, and the Boston Globe.

We have published many times on the pension smoothing gimmick. CRFB President Maya MacGuineas stated:

The bleak recent budget projections highlight the tremendous need to at least pay for new spending or tax cuts so we don't make the situation worse. Relying on phantom savings and timing shifts undermines the credibility of pay-as-you-go budgeting and, more broadly, fiscal responsibility. These are gimmicks, plain and simple...collecting more taxes now and less in taxes later doesn't help our bottom line.

We have also compliled a guide to understanding many other gimmicks, complete with charts and descriptions. Ultimately, policymakers should focus on effective long-term solutions to fund the HTF that bring revenue in line with spending. To the extent that they need a stop-gap measure, there are many options available to offset a short-term patch to avert insolvency.

Everyone, regardless of ideology, seems to agree that pension smoothing does not reduce the deficit and therefore cannot pay for funding the highway system. That is, everyone except those in the House, Senate, and White House. Hopefully they will catch on as well.