Money manager Rob Arnott and finance professor Lisa Meulbroek have run the numbers on underfunded pension plans and come up with an interesting – and highly concerning – new angle: That they impose a “stealth mortgage” on homeowners. Here’s how the Wall Street Journal reported it today:
The Stealth Pension Mortgage on Your House
Most cities, counties and states have committed taxpayers to significant future unfunded spending. This mostly takes the form of pension and postretirement health-care obligations for public employees, a burden that averages $75,000 per household but exceeds $100,000 per household in some states. Many states protect public pensions in their constitutions, meaning they cannot be renegotiated. Future pension obligations simply must be paid, either through higher taxes or cuts to public services.
Is there a way out for taxpayers in states that are deep in the red? Milton Friedman famously observed that the only thing more mobile than the wealthy is their capital. Some residents may hope that they can avoid the pension crash by decamping to a more fiscally sound state.
But this escape may be illusory. State taxes are collected on four economic activities: consumption (sales tax), labor and investment (income tax) and real-estate ownership (property tax). The affluent can escape sales and income taxes by moving to a new state—but real estate stays behind. Property values must ultimately support the obligations that politicians have promised, even if those obligations aren’t properly funded, because real estate is the only source of state and local revenue that can’t pick up and move elsewhere. Whether or not unfunded obligations are paid with property taxes, it’s the property that backs the obligations in the end.
When property owners choose to sell and become tax refugees, they pass along the burden to the next owner. And buyers of properties in troubled states will demand lower prices if they expect property taxes to increase.
It doesn’t matter if we own or rent; landlords pass higher taxes on to tenants. Nor does it matter if properties are mortgaged to the hilt or owned outright. In time, unfunded pension obligations will be reflected in real-estate prices, if they aren’t already. A state’s unfunded liabilities are effectively a stealth mortgage on private property. Think you can pass your property on to your heirs? Only net of the unfunded pension obligations.
We calculated the ratio of unfunded pension obligations relative to property values in each state. We used 3% bond-market yields as our discount rate to measure unfunded obligations, because while other assets ostensibly earn a risk premium above the bond yield, these assets can also underperform.
Unfunded pension obligations range from a low of $30,000 per household of four in Tennessee to a high of $180,000 per household in Alaska. They amount to less than 11% of the average home values in Florida, Tennessee and Utah and more than 50% in Alaska, Mississippi and Ohio.
There are a few surprises. California, Hawaii and New York have large unfunded obligations, but because property in these states is so expensive, the average household burden is less than 15% of the average home price. Meanwhile, West Virginia and Iowa have relatively low pension debts—but the average household obligation is more than 30% of the average home price because property is far less expensive in these states.
On average nationwide, unfunded state and local pension burdens represent 20% of real-estate values. This ratio can rival or exceed an owner’s home equity, depending on the size of his mortgage. If real-estate prices adjust to reflect unfunded pension obligations, many homeowners’ equity could be at risk. As we’ve seen in Detroit, the public pension stealth mortgage can ultimately devastate the housing market.
This is yet another confirmation that we’re not nearly as rich as we think we are. If your home is your biggest asset but a big part of your equity is secretly claimed by the local government, you don’t really own it. And if you’re counting on a public sector pension and home equity to finance your retirement you might be hit with a double whammy when your pension is cut (despite what the state constitution says, it will be cut one way or another) at the same time your property tax bill soars to protect what’s left of pension benefits.
And the pension crisis is actually much worse than Arnott’s and Meulbroek’s research implies, because they’re using peak-of-the-cycle numbers. When the next recession brings an equities bear market, pension plans will lose money, causing their underfunding to explode. So that 20% stealth mortgage is about to get even bigger.
For more on the coming pension crisis see:
Public Sector Pensions: The Parasite Devours Its Host
The Pension Crisis Gets A Catchy Name: “Silver Tsunami”
More Absolutely Crazy Pension News
Find The Sentence That Dooms Pension Funds (Don’t Worry, It’s Highlighted)
15 thoughts on "Another Way Of Looking At The Pension Crisis, As “A Stealth Mortgage on Your House”"
Answer: keep as little $ value in your home as possible.
We have had the largest build-up of credit in history, fueling both the largest debt issuance ever and artificially growing all industries for which debt (esp. Uncle Sam’s borrowing) provided important demand. This includes all things medical. Higher ed, too. These industries should be Ground Zero for a catastrophic collapse in demand when (not if) borrowing is choked off by rising rates. Rates are simply a measure of collective trust, AKA mob psychology. We’re slated for an end to this period of bat-guano crazy, pathological trust (and pathological altruism), and when it arrives, the deflationary depression that results from the collapsing value of all that debt (and all those promises of Future Cash Flows) should be without precedent.
Those pensioners counting on a nice “retirement” are likely to be in for a rude awakening. That which cannot be paid, WON’T be paid. I say this as someone whose next 30 years will be hammered like a tent peg when (not if) this vast game of collective stupidity hits the wall. The young should not be paupered to pay for the old, and the old should not be left high and dry, but “should” has nothing to do with any of it.
The future promises to be a big change from the recent past.
Many older couples and widows sell their houses, downsize and move into apt. which is what we will plan to do. Pensions in my city are slim , most people have 401k’s. State workers are pensioned, don’t know if the younger workers are on a 401k.
Sell to whom? That’s the problem.
I will never be a financial whiz. My house is my home. It is neither opulent or shack like. It’s paid for, except those darn property taxes. It’s in NJ and the taxes are under six grand. It will be my children’s home. I will sell it to them. The location is a good one and they plan on keeping it. It is our home. We are making it the family home for our future generations. It doesn’t matter if I am smart about my home as a financial investment.
I personally would never own a home in the US. The US is not the same as it was 30 or even 20 years ago and things are not looking bright. I imagine that in the next 10-20 years the US will lose the majority of its white population to death, whether it be from murder, suicide, or aging. What’s the point of owning a house in Detroit for example. A friend of mine was killed in front of his home by young black men who stole his car and this was not in Detroit. Nice house, nice car, and he had a nice family to, but what’s the point of owning anything in a country where the threat of being killed by someone else is very real.
Doesn’t pay to raise kids either since this country is sliding downward, and cost of living is going up , not many get raises for cost of living either. Kids are super expensive, day care. and over all incl college. Women have to work full time just to live.
It can be done.
The sentiment to skip kids is pure “Mouse Utopia,” behaviors that show a collapse in a society’s interest in producing the next generation. It is pure Leftism, and tragic.
have to agree with you, this country is on a downward slide. Legions of third world welfare grabbers are entering at a record pace. Even those few groups that don’t have massive welfare utilization (e.g., Indians) have high rates of fraud (e.g., medical, insurance). Costs for health insurance and the like are rising fast partly on account of this.
As the USA becomes more multicultural, it will become less functional. Japan, Korea, China, Pakistan and other countries know this, and have no interest in mass immigration.
We are headed out in 5 years. I have a deep love of the traditional people and culture of the USA, but we have no wish to live around third world imports (particularly the south asians and muslims). I’ve lived in large cities in the UK and Canada, and I know what males in those cultures behave like when they are almost the majority.
Your kids may get a job transfer elsewhere or decide to move to another state since NJ is the armpit of America as I was told by someone from NJ who moved to Fla. near me several decades ago.
John- This is probably one of the most important issues of our time. While I didn’t have the “political skills” — the Peter Principle is slightly more pervasive than in corporate life — to work in government for more than 3-4 years (and as a consequence am not entitled to a pension), my replacements and “superiors” are or will be “entitled” to pensions between 200K and 500k per year…
It brings to mind my work with Texaco in the early 80’s. A suburb of Houston, Bellaire, insisted that a Texaco office building there was Class A rather than what it was; a class B or C building. The designation meant that Texaco had to pay a great deal more tax. Texaco was not the only taxpayer to be screwed. One of the largest landowners in Houston sold a Bellaire property to a church in order to spite the city’s greed.
Maybe we should all transfer our real estate to entities that aren’t required to pay property tax so long as we can reside at the same until we die… : )
Matt
Spot on.
Today in Greece if you purchase a home built after Jan 1, 2006 the property transfer tax is 24%. The total tax bill is 29.65%.
https://www.grekodom.com/article/registration-expenses
https://www.grekodom.com/article/taxation
People that don’t think homes will revert back to 2x to 3x income are in for a big surprise. To be fair they’ll probably sit below 2x income for decades as we work off our pension debt.
The pension debt will be largely just waved off. Older folks will move in with their kids, or be in deep, deep trouble.
All this will likely coincide with the collapse in the value of outstanding debts (pensions are debts, too, in the sense of being promises of future cash flows.) All roads point to the credit inflation of the last 40 years evaporating, leaving prices across the board to fall like Wiley Coyote after he ran off the edge of the cliff.
1) Old people vote.
2) People like money.
They’ll never give up those pensions without a huge fight.
Fights a-plenty coming, yes? But when the debts (and the future cash flows they promised) evaporate, there will be no blood in the turnip, and the cupboard will prove to be empty of even dust.
It’s likely to be ugly. On that we can surely agree.