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The Highway Bill's Sleeper Funding Provision: Pension Smoothing

Things appear to have turned around for the stalled surface transportation reauthorization talks. Conference committee members worked over the weekend trying to come to a consensus agreement. While I remain pessimistic that an agreement will be reached before the June 30 deadline, it is possible that Senate Democrats will cave to House Republicans' demands of environmental review streamlining and the coal ash provision.

The problem with such a compromise is that the Senate bill's financing portion relies on a series of very rosy assumptions to make it work. As I have noted previously, this involves draining the Leaking Underground Storage Tank Trust Fund of nearly all of its $3.6 billion+ funds and transferring revenue raised from tariffs on imported automobiles into the collapsing Highway Trust Fund. But one major non-user-pays provision that has been under-covered by the media may be its riskiest.

The $109 billion Senate bill relies on $9.4 billion in estimated savings via an accounting trick known as "pension smoothing" (see Sec. 40312 of MAP-21). Basically, pension smoothing allows government to spread out pension losses over a longer period of time. While this in theory reduces expenditures necessary to pay down these losses in the short-run, it exposes the government (read: taxpayers) to significant additional risk over the medium- and long-runs. For pension smoothing to work, the annual rate of return on pension fund assets must not be below initial forecasts used to estimate cost savings. But if markets underperform the forecasts, which happens all the time, taxpayers are now on the hook for additional pension losses -- not just more spread out payments.

Big Labor and its allies are generally strong proponents of pension smoothing, because it allows them to claim they are fixing grossly underfunded pensions without actually fixing them. A real fix, favored by everybody who is not a direct beneficiary of these plans or an ideological union supporter, is to require small increases in employee contributions. But such a sensible solution takes away one of Big Labor's last legacy bargaining chips, and they are growing increasingly desperate to prevent their slide into complete irrelevance.

But why this is being used in the first place is the real kicker: because Congress was unable to stabilize the Highway Trust Fund, the Senate's 15-month bill authorizes a $13.5 billion general revenue bailout. Of that, the pension smoothing trick is expected to raise $9.5 billion over 10 years. How? The logic is that because the employer pension compensation formula is changed so that it reduces the amount an employer will contribute toward tax-free pension fund assets, the total amount of taxable income increases, which is expected to bring in that $9.5 billion over a decade. Yes, it really is that convoluted.

The Senate bill's reliance on sketchy pay-fors such as pension smoothing is indicative of a larger problem: transportation project outlays have surpassed highway-user revenue (about 90 percent of federal surface transportation funding comes from fuel excise taxes), and Congress is unwilling to fix this mismatch by either cutting spending or raising revenue (increasing taxes and/or tolling). Much of the funding the Senate bill relies upon will be gone in 15 months, when another reauthorization will be needed. In essence, relying on the Senate's one-shot, kick-the-can pay-fors sets Congress up for a much more difficult task in the near future. Given Congress's track record of failure on even the most simple things, this is not good news.