Overcoming LOSAP Shortfall Challenges


A LOSAP, or Length of Service Awards Program, is a program similar to a defined benefit retirement plan that is intended to assist municipalities in recruiting, retaining and rewarding volunteer firefighters and other emergency personnel.  LOSAPs are typically overseen by a board of trustees that is typically comprised of fire commissioners and political officials, and supported by administrative personnel employed by the municipality.

LOSAP benefits are typically determined through a point structure, with points awarded to each firefighter for each fire alarm they respond to.  LOSAPs typically provide for benefits to be paid upon retirement at a pre-defined age, or disability or death.

LOSAP funding is determined by an actuary, whose function it is to calculate the amount that would be required to pay the expected benefits to the current firefighters, depending on their respective ages and the amount of LOSAP points that have been awarded to them.  A long term return expectation is a very important factor in determining the required contribution, and this should be determined through a careful analysis of long term returns for various asset classes, including stocks, bonds and cash, and by setting a reasonable expectation for inflation.

What are the challenges in funding a LOSAP, and what can lead to a funding shortfall?

Like any defined benefit plan, a LOSAP must provide for a stream of future outflows that can be reliably measured, though not precisely known, by a qualified actuary. The uncertainty comes from the fact that the firefighters accumulate points over time, and therefore their projected benefits increase each year, and from unexpected events such as death or disability, which typically require an immediate payout. 

The assets that will be available to pay those long term liabilities are also hard to predict with exactitude, because the municipality may not be able to make the required contributions for fiscal reasons, and because investment performance can vary.

A shortfall occurs when the assets of LOSAP fall below the present value of the expected liabilities.  If a shortfall becomes too large, or persists too long, the LOSAP may reach a point at which it cannot meet its obligations.

Funding shortfalls occur in defined benefit plans of all kinds, not just LOSAPs. For example, some large corporate pension plans, including UPS and Wells Fargo, as well as public pension plans, such as in Illinois and New Jersey, face potential shortfalls because investment returns have been below expectations.  Reducing the expected return can make the plan's goals more realistic, but they immediately increase the required contributions.

Professional service providers can help prevent funding shortfalls.

A responsible, professional actuary plays an important role in keeping the LOSAP on course towards meeting its obligations.  Education plays an important role - a successful actuary must be able to educate the LOSAP trustees and professional staff on the assumptions being used, the impact on changes in those assumptions, and the need for the LOSAP to provide updated, accurate information that would enable the actuary to have as accurate a picture as possible of the various moving parts.

An independent investment manager also plays a vital role, by working hand in hand with the actuary and with the trustees to understand the goals and risk constraints of the LOSAP, and by directing the investment of the portfolio in a way that is intended to maximize the probability of the LOSAP being able to meet its benefit obligations over time.

FCE Group serves as the investment manager for LOSAPS in several New York-area municipalities.  We have forged successful relationships with our LOSAP clientele by identifying several critical areas in which their current asset managers are not up to par: the need for consistent performance with controlled risk, low expenses, independent and unbiased advice, and a solid service infrastructure.  Because of our multi-year experience with LOSAPs, we have created an efficient service infrastructure that ensures seamless coordination between all parties involved in LOSAP management: plan trustees, plan actuaries, banking institutions, independent accountants, and the LOSAP's own professional staff. We provide coordination of payments and contributions, quarterly review of investments, drafting and monitoring of investment policy guidelines, and coordination with other parties on fulfilling other LOSAP requirements.

We have developed a customized investment and service model for our LOSAP clientele, which has been specifically tailored to meet the needs of these programs, including:

  • A customized LOSAP Investment Policy Statement (IPS) which outlines the risk and return preferences for each plan that specifies the roles and responsibilities of the parties, and that sets forth the return expectations, risk and liquidity constraints, diversification parameters, any investment restrictions, and any unique circumstances that apply.

  • Statistical modeling to determine the recommended asset allocation for the LOSAP portfolio, which is refreshed each year based on the annual updated actuarial report.

  • A specially designed LOSAP quarterly reporting package that concisely and straightforwardly shows the portfolio holdings, portfolio performance, and that demonstrates the portfolio's compliance with investment policy guidelines, clearly noting any exceptions.

Problems with investment management for LOSAPs

In our firm's LOSAP practice we have seen a number of problems with the LOSAP portfolios we have reviewed.  These include the following issues:

  • Portfolio management delegated to firms that lack a coherent asset allocation process and/or a sufficiently rigorous investment methodology.

  • Investment managers selected not by a thorough vetting process, but though prior business or personal affiliation with members of the LOSAP board or professional staff.

  • Unmanaged one-size-fits-all solutions such as annuities, which provide a fixed return but no potential capital appreciation and no inflation protection, along with high fees and restrictions on redemption.

  • Portfolios lacking sufficient diversification.

  • Portfolios managed through highly discretionary processes that smack of market timing, which creates undue risk, higher than necessary transaction costs, and the possibility of missing out on the long term potential returns of the various asset classes to which the portfolio is (or should be) allocated.

A better solution

We recommend that LOSAP Trustees and staff undertake a thorough review of their portfolio strategy, process and the investment manager to whom responsibility has been delegated.

We suggest a review and, if necessary, a re-vamping of the investment policy statement, to ensure that it provides a structure with the right blend of boundaries to protect the beneficiaries, along with flexibility to allow for a thoughtful, responsive investment program.

We think the investment manager should be re-vetted with a careful eye to the degree to which the LOSAP's return objectives have been and are expected to be met.

We recommend a portfolio structure based on rigorous study of the return objectives and risk constraints of the LOSAP, compared with the historical and expected returns, volatility and correlations of the various underlying asset classes.  This study would lead to a strategic asset allocation. The investment manager should be required to follow, within reasonable tolerances, this strategy, and to report on it regularly so as to satisfy the LOSAP trustees that the plan's objectives are being met.

This methodology will reduce the variability and surprise factor through the years.  Shortfalls can arise under any scenario, but a disciplined process overseen by top quality professionals working hand in hand with the LOSAP trustees to address such potential shortfalls before they become serious. Contact UsFCE Disclaimers.

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