Financial Management: Implications of Significant Recent and	 
Potential Changes for the Actuarial Soundness of the Department  
of Defense Survivor Benefit Plan Program (26-JUL-06,		 
GAO-06-837R).							 
                                                                 
This report responds to a legislative mandate to report on the	 
effects of certain program changes on the actuarial soundness of 
the Survivor Benefit Plan (SBP) program, which is part of the	 
Department of Defense's (DOD) Military Retirement Fund (Fund).	 
The primary purpose of the SBP is to provide benefits to the	 
surviving dependents of deceased members or retirees of the armed
forces. In certain cases, individuals other than dependents can  
be designated recipients of survivor benefits. The Fund 	 
accumulates financing resources in order to fund, on an 	 
actuarially sound basis, the liabilities of the military	 
retirement and SBP programs. The SBP was created by legislation  
enacted on September 21, 1972, and has been modified various	 
times by subsequent legislation. The fiscal year 2006 National	 
Defense Authorization Act requires that we report to Congress on 
(1) the effect of recent significant SBP program changes on the  
actuarial soundness of the program, (2) the effect of these	 
significant SBP program changes by the various categories of	 
participants and in total on (a) DOD normal cost payments for the
program and (b) Department of the Treasury (Treasury) payments to
amortize the unfunded liability amounts, (3) the potential	 
effects to Treasury and DOD payments that would result from the  
following two legislative changes: (a) the enactment of a law	 
permitting participants in the program to designate an insurable 
interest if a previously designated beneficiary dies and (b) the 
enactment of a law repealing the Dependency and Indemnity	 
Compensation (DIC) offset (10 U.S.C. 1450(c), 1451(c)(2)) for	 
beneficiaries, and (4) the effect that each of the two potential 
legislative changes would have on the actuarial soundness of the 
SBP.								 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-06-837R					        
    ACCNO:   A57582						        
  TITLE:     Financial Management: Implications of Significant Recent 
and Potential Changes for the Actuarial Soundness of the	 
Department of Defense Survivor Benefit Plan Program		 
     DATE:   07/26/2006 
  SUBJECT:   Beneficiaries					 
	     Federal funds					 
	     Federal legislation				 
	     Financial analysis 				 
	     Financial statement audits 			 
	     Military dependents				 
	     Program evaluation 				 
	     Veterans benefits					 
	     Military Retirement Fund				 
	     Survivor Benefit Plan				 

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GAO-06-837R

United States Government Accountability Office Washington, DC 20548

July 26, 2006

The Honorable John Warner Chairman The Honorable Carl Levin Ranking
Minority Member Committee on Armed Services United States Senate

The Honorable Duncan L. Hunter Chairman The Honorable Ike Skelton Ranking
Minority Member Committee on Armed Services House of Representatives

Subject: Financial Management: Implications of Significant Recent and
Potential Changes for the Actuarial Soundness of the Department of Defense
Survivor Benefit Plan Program

This report responds to a legislative mandate to report on the effects of
certain program changes on the actuarial soundness 1 of the Survivor
Benefit Plan (SBP) program, which is part of the Department of Defense's
(DOD) Military Retirement Fund (Fund). The primary purpose of the SBP is
to provide benefits to the surviving dependents of deceased members or
retirees of the armed forces. In certain cases, individuals other than
dependents can be designated recipients of survivor benefits. The Fund
accumulates financing resources in order to fund, on an actuarially sound
basis, the liabilities of the military retirement and SBP programs.

The SBP was created by legislation enacted on September 21, 1972, 2 and
has been modified various times by subsequent legislation. The fiscal year
2006 National

1

The term actuarial soundness is widely used but not clearly defined for
public retirement systems. For purposes of this report, we used the
following definition: A retirement system is considered actuarially
determined if a professionally qualified actuary (1) calculates the
present value of the liabilities for future benefits for current
participants and their beneficiaries, (2) determines the normal cost and
amortization payments for the unfunded actuarial accrued liability over a
reasonable period, and (3) has established a method for determining and
amortizing experience gains and losses. If, in addition, the plan sponsor
has indicated that it has the willingness and sufficient fiscal capacity
to pay those ongoing costs, the plan may be considered actuarially sound.

2

Pub. L. No. 92-425, 86 Stat. 706 (Sept. 21, 1972) (codified, as amended,
at 10 U.S.C. S:S: 1447-1455).

        GAO-06-837R Actuarial Soundness of the DOD Survivor Benefit Plan

Defense Authorization Act 3 requires that we report to you on

(1)
           the effect of recent significant SBP program changes on the
           actuarial soundness of the program,

(2)
           the effect of these significant SBP program changes by the various
           categories of participants and in total on (a) DOD normal cost
           payments for the program 4 and (b) Department of the Treasury
           (Treasury) payments to amortize the unfunded liability amounts, 5

(3)
           the potential effects to Treasury and DOD payments that would
           result from the following two legislative changes: (a) the
           enactment of a law permitting participants in the program to
           designate an insurable interest if a previously designated
           beneficiary dies and (b) the enactment of a law repealing the
           Dependency and Indemnity Compensation (DIC) offset (10 U.S.C. S:
           1450(c), 1451(c)(2)) for beneficiaries, and

(4)
           the effect that each of the two potential legislative changes
           would have on the actuarial soundness of the SBP.

To accomplish the above objectives, we met with the DOD Office of the
Actuary (OOA) staff to identify legislative changes to the SBP that
occurred within the last 7 fiscal years and that had a significant effect
on SBP annual costs, the related longterm liabilities, or both. We
determined that while the DOD OOA was able to provide us with information
on SBP changes to DOD normal cost payments by participant categories, that
same level of detail is not maintained for Treasury amortization payments
because participant level breakout is not required for such payments. We
discussed this limitation with your offices, and they agreed that, for
purposes of this report, Treasury payments could be reported in total.

As we stated in communications with your offices, the SBP is a part of the
Fund, and it is not practical to report on the actuarial soundness of the
SBP separately. Therefore, our review had to consider how SBP changes
affected the actuarial soundness of the Fund as a whole. We also brought
to your attention the fact that information related to the ongoing SBP
open season enrollment period 6 will not be fully estimable for at least 2
years, and therefore, current cost estimates may be subject to significant
changes once the enrollment period has ended on September 30, 2006. As
agreed with your offices, for open season changes, we reviewed the
reasonableness of preliminary estimates made by the DOD OOA using current
participant and cost information and certain assumptions considered likely
by actuarial staff. Finally, we performed procedures to assess the
reliability of the data used by the DOD OOA in calculating the cost
estimates for the various enacted and potential legislative changes.
Because the SBP is part of the Fund, the systems, data,

3

Pub. L. No. 109-163, div. A, tit. VI, S: 666, 119 Stat. 3136, 3318-19
(Jan. 6, 2006).

4

Normal cost payments reflect the percentage of basic pay that must be
contributed over the entire active career of a typical group of new
entrants to pay for all the future retirement benefits of that group.

5

Unfunded liability amounts include liabilities that were present at the
inception of the plan for prior service and any actuarial gains or losses
that arise because of such things as experience that deviates from what
was assumed, changes in plan benefits, or changes in actuarial
assumptions.

6

Ronald W. Reagan National Defense Authorization Act for Fiscal Year 2005,
Pub. L. No. 108-375, S: 645, 118 Stat. 1811, 1962 (Oct. 28, 2004).

and assumptions used by the DOD OOA are subject to testing as part of the
Fund's annual financial statement audit. To determine the extent of
testing related to the DOD OOA process used to estimate SBP benefit
program costs as well as the Fund's pension liability, we interviewed the
Fund's independent auditors and reviewed relevant fiscal year 2005
financial statement audit test documentation. Although auditors have given
the Fund an unqualified opinion on its financial statements for the past
10 years because audit tests have shown the reported information to be
reliable, the SBP program is such a small component of the Fund that
auditors are unlikely to test many specific SBP program data elements. 7
Therefore, the unqualified opinion that applies to the Military Retirement
Fund as a whole cannot be separately applied to the SBP as a stand-alone
program. More details on our scope and methodology and the limitations
related to this review are presented in enclosure I.

We requested comments on a draft of this report from the Secretary of
Defense or his designee. We were provided a number of technical
suggestions, which we have incorporated as appropriate. Separately, we
received a written response provided by the Deputy Under Secretary of
Defense for Program Integration and presented in enclosure II.

We conducted our work from February 2006 through June 2006 in accordance
with generally accepted government auditing standards.

                                Results in Brief

The significant statutory SBP program changes implemented within the past
7 fiscal years that we reviewed have resulted in increased DOD normal cost
payments and annual Treasury amortization payments to the Fund in order to
maintain the actuarial soundness of the Fund. When changes are made to SBP
coverage or benefits, the DOD OOA calculates the necessary DOD and
Treasury contributions to ensure that sufficient moneys are available to
make all benefit payments to eligible recipients each year, and that
sufficient Fund assets will be available in the future to liquidate all
current unfunded liabilities.

According to the DOD OOA estimates, the significant SBP program changes 8
we reviewed have resulted in the following:

o  Eliminating the reduction in surviving spouses' SBP benefits when such
spouses are also eligible for Social Security benefits at age 62 and
thereafter increased the SBP liability by an estimated $25.2 billion as of
September 30, 2004. Of this amount, Treasury and DOD will be responsible
for an estimated $23.7 billion and $1.5 billion, respectively. DOD's $1.5
billion liability includes $1.3 billion in normal costs for current active
duty and full-time reservists (full

7

For fiscal year 2004, only 13 percent of total Fund participants were part
of the SBP program and only 6 percent of Fund expenditures and obligations
related to the SBP.

8

The DOD OOA estimates the cost of each significant SBP program change as
of a specific valuation date. Subsequent to that date, the costs of each
SBP program change become part of the baseline actuarial model and are not
separately identified. According to the DOD OOA, there have been no
significant cost reestimates after the valuation date for the three
program changes we reviewed.

time employees) and $0.2 billion in normal costs for current part-time
reservists (part-time employees).

Periodically, Congress has allowed an open season for SBP enrollment, the
most current one being during fiscal year 2006. Although the total effects
of the SBP open season cannot be fully estimable for at least 2 years, the
estimated increase in the SBP liability will likely range from $31 million
to $86 million.

     o Eliminating further SBP premiums to be paid by retirees who are aged
       70 or older and who have paid such premiums for 30 years increased the
       SBP liability by an estimated $2.5 billion. 9 Of this amount, Treasury
       will be responsible for an estimated $2.4 billion, and DOD will be
       responsible for $0.1 billion in normal costs related to current
       full-time employees.
     o Extending SBP surviving spouse or child benefits for all personnel who
       are killed in the line of duty and are not eligible for retirement at
       the time of their deaths increased the SBP liability by an estimated
       $72 million as of September 30, 2001. Of this amount, Treasury will be
       responsible for an estimated $28 million, and DOD will be responsible
       for $44 million in normal costs related to current full-time
       employees.

The two potential changes to SBP benefits mentioned in Section 666 of the
National Defense Authorization Act for Fiscal Year 2006 would likely also
result in increases to the DOD normal cost payments and the annual
Treasury amortization payments to the Fund as follows.

     o Currently, an unmarried DOD retiree without dependent children may
       elect to have another person with an insurable interest as the SBP
       beneficiary; however, if that beneficiary dies, designation of another
       insurable interest is not allowed. Using conservative assumptions, the
       DOD OOA calculated that the SBP liability would increase by an
       estimated $2.2 million if retirees were allowed the option of choosing
       a second insurable interest. Of this increase, Treasury would be
       responsible for $2 million and DOD for $231,000. Of DOD's $231,000,
       $211,000 would be for normal costs related to current full-time
       employees and $20,000 for normal costs related to current part-time
       employees.
     o The survivors of veterans who die because of complications resulting
       from a service-connected disease or injury are entitled to DIC
       benefits from the Department of Veterans Affairs (VA). 10 Under
       current law, SBP benefits for survivors of retired veterans are offset
       by any DIC payments received. The DOD OOA calculated that eliminating
       the current offset requirement would increase the SBP liability by an
       estimated $12.9 billion. Of this amount,

9

The liability estimate for this legislative change was determined as of
September 30, 2001, and will be effective on October 1, 2008.

10

VA's DIC was established in 1956 by the Servicemen's and Veterans'
Survivor Benefits Act, Pub. L. No. 84-881, 70 Stat. 857, 862 (Aug. 1,
1956) (codified, as amended, at 38 U.S.C. ch. 13).

Treasury and DOD would be responsible for $12.3 billion and $645 million,
respectively. Of DOD's $645 million, $617 million would be for normal
costs related to current full-time employees and $28 million for normal
costs related to current part-time employees.

Enactment of these legislative changes would require the Board of
Actuaries and the DOD OOA to adjust DOD and Treasury payments, subject to
future appropriations, by amounts necessary to offset any increased costs
related to expanded benefits; for this reason, enactment of these changes
should not negatively affect the actuarial soundness of the Fund.

In responding to a draft of this report, DOD did not have any objections
or substantive comments. DOD separately provided some technical
suggestions, which we incorporated as appropriate.

                                   Background

Under the SBP program, a military retiree can have a portion of his or her
monthly retired pay withheld in order to provide, after his or her death,
a monthly survivor benefit to a surviving spouse or other eligible
recipient(s). The cost of this benefit is shared by the retiree (in the
form of reductions from monthly military retired pay after retirement) and
the government. The original intended purpose of the SBP was to "insure
that the surviving dependents of military personnel who die in retirement
or after becoming eligible for retirement will continue to have a
reasonable level of income." 11 In 2001, coverage was expanded to active
duty personnel as well. 12

Six separate types of coverage are available under the SBP for military
members retired from a military career, characterized according to the
relationship of the beneficiary or beneficiaries to the military retiree:

     o spouse only,
     o spouse and child(ren),
     o child(ren) only,
     o persons with an insurable interest,
     o former spouse, or
     o former spouse and child(ren).

Total SBP costs are shared by the federal government and the retiree, so
the reductions in retired pay, which represent the SBP premiums, are only
a portion of the total cost of the SBP program. 13 The type of coverage
and the amount of coverage provided are factors used in determining the
cost to the military retiree. A retiree

11

Department of Defense, Office of the Secretary of Defense, Military
Compensation Background Papers, Compensation Elements and Related Manpower
Cost Items: Their Purposes and Legislative Backgrounds, 6th edition
(Washington, D.C.: April 2005), 902.

12

National Defense Authorization Act for Fiscal Year 2002, Pub. L. No.
107-107, S: 642, 115 Stat. 1012, 1151 (Dec. 28, 2001).

13

In most cases, the SBP premiums are fixed by law or regulation and do not
cover the total cost of the SBP program.

with an eligible spouse is automatically enrolled in the SBP upon
retirement at the maximum level of coverage for his or her current spouse,
unless the retiree elects not to participate, elects to participate at a
lesser level of coverage, elects other than spousal coverage with spousal
consent, or is ordered by a court to provide such benefits to a former
spouse. The maximum SBP benefit for most retirees is 55 percent of
retirement pay. If the retiree chooses less coverage, the SBP benefit is
calculated as 55 percent of an amount less than full retired pay.

Although participants must decide whether to enroll in the SBP at the time
of retirement, Congress may authorize an open enrollment season for
retirees to make or change their SBP election. The current open season,
established by the Defense Authorization Act for Fiscal Year 2005, runs
throughout fiscal year 2006, and over 1.3 million retirees are eligible to
elect or change their SBP participation. If retirees elect to participate
in or increase coverage under the SBP program, they will have to pay a
prospective monthly premium and a onetime, buy-in premium, which can be
paid over a 2-year span.

The SBP program is part of the Fund, which was established by the
Department of Defense Authorization Act, 1984. 14 This law also
established an independent threemember DOD Retirement Board of Actuaries
(Board) appointed by the President. Members of the Board must be qualified
professional actuaries who are members of the Society of Actuaries, and
they serve for 15 years. The Board is required to approve the actuarial
assumptions for and review valuations of the military retirement system,
to determine the method of amortizing unfunded liabilities, to report
annually to the Secretary of Defense, and to report to the President and
Congress on the status of the Fund at least every 4 years. The law also
states that reports should include recommendations for changes that in the
Board's judgment, are necessary to protect the public interest and
maintain the Fund on a sound actuarial basis.

The DOD OOA provides all technical and administrative support to the
Board. Among other duties, the DOD OOA performs annual valuations of the
military retirement system, which include (1) projecting personnel, pay,
and benefits; (2) calculating annual DOD contribution costs; and (3)
determining program unfunded liabilities and their amortizations.

In general, the Fund's liabilities are funded by three sources: (1)
monthly normal cost payments from DOD to pay for the future benefit costs
of current service members, 15

(2) annual payments from Treasury to cover the costs related to amortizing
the initial unfunded liability of the Fund and subsequent actuarial gains
and losses, and (3) investment income. The Fund receives investment income
from a variety of Treasurybased instruments, all of which are debt
obligations of the U.S. government and are backed by the "full faith and
credit" of the federal government. 16 The Fund receives

14

  Pub. L. No. 98-94, tit. IX, S: 925, 97 Stat. 614, 634, 644 (Sept. 24, 1983)
                          (codified, as amended, at 10

U.S.C. S:S: 1461-1467).

15

Normal cost amounts are transferred from the DOD military pay
appropriations.

16

The Treasury-based instruments are not cash; they are a claim on the
general fund of the Treasury for future spending. Federal trust funds,
such as the Fund, typically invest their excess annual receipts over
disbursements in federal securities. These securities constitute future
obligations of the Treasury

management oversight from the DOD Investment Board established in
September 2003. The members of the Investment Board are the Director,
Defense Finance and Accounting Service; the Deputy Chief Financial
Officer, Office of the Under Secretary of Defense (Comptroller); and a
senior military member, currently the Vice Chief of Naval Operations.

 Effect of Recent Changes to the SBP Program on Actuarial Soundness of the Fund

When changes are made to the SBP program that result in more people being
eligible for benefits or higher benefit payments to survivors, the DOD OOA
is responsible for determining the amounts, which are to be approved by
the Board, that must be contributed annually to the Fund to maintain the
Fund on an actuarially sound basis. According to the DOD OOA, this means
that there must be sufficient funds contributed to make all benefit
payments to eligible recipients each year, including survivors, and that
the Fund balance is projected to eventually equal the actuarial liability,
that is, all unfunded liabilities will be liquidated. In order to
accomplish this, DOD normal cost payments are calculated to fully fund the
current year projected liability for active duty members and reservists.
In addition, Treasury amortization payments are calculated to fund
liabilities that were present at the inception of the plan (the initial
unfunded liability) and any actuarial gains or losses that arise because
of such things as experience that deviates from what was assumed, changes
in plan benefits, or changes in actuarial assumptions. Treasury payments
to cover the costs related to amortizing the initial unfunded liability
are being made over a 50-year period and should be completed in 2033,
while payments to amortize all subsequent gains and losses will be made
over a 30-year period from the date of the change that caused a gain or
loss.

According to the DOD OOA, it is not practical to separate the assets and
liabilities of the SBP program from the whole of the Fund and it is not
necessary to do so. The DOD OOA stated that all of the Fund's assets are
available to pay any and all of the Fund's liabilities, including those of
the SBP.

      Effect of Significant Recent SBP Program Changes on SBP Liabilities

The three recent SBP program changes have increased the liabilities of the
Fund and will therefore require increases in DOD and Treasury payments to
the Fund. As shown in table 1, for the significant SBP program changes
that have been implemented during the past 7 fiscal years, the DOD OOA
estimated that the SBP liability would increase by about $27.8 billion. Of
this increased liability, Treasury and DOD would be responsible for
approximately $26.1 billion and $1.7 billion, respectively.

since the Treasury must provide cash to redeem these securities in order
for the Fund to pay benefits as they come due. When this occurs, if
sufficient cash surpluses are not available to redeem the securities, the
federal government would need to obtain cash through increased taxes,
spending cuts, increased borrowing from the public, retiring less debt (if
the unified budget is in surplus), or some combination thereof.

Page 7 GAO-06-837R Actuarial Soundness of the DOD Survivor Benefit Plan

       Table 1: Summary of Significant Recent Changes to the SBP Program

Dollars in millions                                       
Significant SBP change Estimated total          Estimated Estimated normal 
                                                                         cost 
                          increase in SBP unfunded liability       increase b 
                                liability         increase a 
Elimination of the age                                                     
62 benefit reduction           $25,205            $23,677           $1,528
Enactment of the                                                           
paid-up provision                2,506              2,374              132
Extension of benefits                                     
for                                                       
spouses and children                                      
of                                                        
personnel killed while                                    
on                                                        
active duty                         72                 28               44 
Total effect of                                                            
significant recent                                        
changes to the SBP             $27,783            $26,079           $1,704

Source: GAO analysis of DOD Office of Actuary information.

a

Treasury is responsible for the annual amortization of the unfunded
liability.

b

DOD is responsible for the normal cost. Amounts shown reflect the
increased normal cost payments on behalf of current employees and do not
include the increases on behalf of future entrants.

Elimination of the Age 62 Benefit Reduction

Elimination of the reduction in surviving spouses' SBP benefits when such
spouses are also eligible for Social Security benefits at age 62 and
thereafter 17 has increased SBP liabilities by an estimated $25.2 billion.
Of this amount, Treasury and DOD will be responsible for an estimated
$23.7 billion and $1.5 billion, respectively. Of DOD's increased funding
responsibility, $1.3 billion is for normal costs related to full-time
employees and $0.2 billion is for normal costs related to part-time
employees.

When the SBP was enacted in 1972, survivor benefits for those spouse
annuitants 62 and over were reduced through use of a formula to reflect
the availability of Social Security to the survivor. In 1985, the
reduction formula was changed so that all annuitants 62 and over received
35 percent, rather than 55 percent, of the retiree's base amount. 18 Those
whose annuities had been reduced by the original Social Security offset
formula were grandfathered under the new law and allowed to choose
whichever of the formulas was most advantageous. The National Defense
Authorization Act for Fiscal Year 2005 19 phased out by April 1, 2008, the
reduction in the survivor benefit that occurs at age 62 for all current
and future survivors. Specifically, on October 1, 2005, the minimum SBP
benefit for those surviving spouses age 62 and older was increased from 35
percent to 40 percent, and on April 1, 2006, the minimum benefit was
increased to 45 percent. The benefit amount will increase to 50 percent on
April 1, 2007, and to 55 percent on April 1, 2008.

17

Floyd D. Spence National Defense Authorization Act for Fiscal Year 2001,
Pub. L. No. 106-398, tit. VI, S: 656, 114 Stat. 1654, 1654A-166 (Oct. 30,
2000); Ronald W. Reagon National Defense Authorization Act for Fiscal Year
2005, Pub. L. No. 108-375, S: 644, 118 Stat. 1811, 1960 (Oct. 28, 2004).

18

Department of Defense Authorization Act, 1986, Pub. L. No. 99-145, S: 711,
99 Stat. 583, 666 (Nov. 8, 1985).

19

Pub. L. No. 108-375, S: 644, 118 Stat. 1811, 1960 (Oct. 28, 2004).

For fiscal year 2006, Congress included an open season for SBP enrollment
in the fiscal year 2005 National Defense Authorization Act. 20 Retirees
can begin participation or increase their current level of coverage during
the period beginning October 1, 2005, through September 30, 2006. Those
retirees electing to begin or change coverage will have to pay all
applicable back premiums, interest, and an additional amount calculated by
the DOD OOA to help protect the actuarial soundness of the Fund either in
a lump sum or in 24 equal installments. To remain eligible, retirees must
also pay monthly premiums for at least 2 years. From October 2005 through
May 2006, the Defense Finance and Accounting Service - Cleveland Site
(DFAS-Cleveland) reported that fewer than 1,600 of the over 1.3 million
retirees who were eligible to make an SBP election during the open season
have chosen to do so. DFAS-Cleveland has estimated an average buy-in cost
of almost $23,000 for those electing SBP participation earlier during this
open enrollment season, which may have contributed to the small percentage
of retirees changing their SBP election. Although the results of the SBP
open season cannot be fully known for at least 2 years, the DOD OOA
estimates that the increase in the SBP liability will likely range from
$31 million to $86 million, depending on the number of elections made from
June 2006 through the end of September 2006 and the health of the retirees
and their beneficiaries.

Enactment of the Paid-Up Provision

Eliminating further SBP premiums to be paid by retirees who are aged 70 or
older, and who have paid such premiums for 30 years, increased SBP
liabilities by an estimated $2.5 billion. Of this amount, Treasury will be
responsible for an estimated $2.4 billion. DOD will need to fund $0.1
billion for normal costs related to current fulltime employees.

On October 1, 2008, the SBP "paid-up" provision will become effective. 21
This provision requires that SBP premiums stop when two conditions are
met: (1) the retiree is at least 70 years of age and (2) the retiree has
participated in the SBP for 360 months or more.

Extension of Benefits for Spouses and Children of Personnel Killed While
on Active Duty

Extending SBP surviving spouse or child benefits for all personnel who are
killed on active duty and are not eligible for retirement at the time of
their deaths increased SBP liabilities by an estimated $72 million. Of
this amount, Treasury will be responsible for an estimated $28 million.
DOD will be responsible for funding $44 million in normal costs related to
current full-time employees.

Under the original SBP, a benefit was paid following the death of an
active duty military member only if the deceased, at the time of death,
(1) was eligible to receive retired pay or (2) was a commissioned officer
and had completed 20 years of service but was not yet eligible to retire
as a commissioned officer. Legislation effective

20

Pub. L. No. 108-375, S: 645, 118 Stat. 1811, 1962 (Oct. 28, 2004).

21

Strom Thurmond National Defense Authorization Act for Fiscal Year 1999,
Pub. L. No. 105-261, S: 641, 112 Stat. 1920, 2045 (Oct. 17, 1998).

September 10, 2001, 22 expanded the coverage to the survivors of
individuals who die while on active duty and who are not eligible for
retirement. Members who die on active duty are assumed to have retired
with full disability on the day they died and to have elected full SBP
coverage for the combination of spouse, former spouse, and children that
yields the most advantageous survivor benefit.

        Effect of Potential SBP Benefit Changes on Payments to the Fund

If legislation allowing for a second insurable interest and eliminating
the current DIC offset were enacted, DOD normal cost payments and the
annual Treasury amortization payments would likely increase in order to
offset these extended benefits and maintain the actuarial soundness of the
Fund. Since specific details for implementation have not yet been
legislated, the DOD OOA used assumptions based on knowledge of other SBP
benefit legislation and on professional judgment in order to develop the
required cost estimates. Consequently, if implementation requirements
change or election behaviors differ from the assumptions used in the
estimates, actual increases in funding needs will also differ from the
following estimates. For the two proposed changes, the DOD OOA estimated
that the SBP liability would have to increase by $12.9 billion, of which
Treasury would be responsible for about $12.3 billion and DOD for
approximately $645 million.

     o Currently, an unmarried DOD retiree without dependent children may
       elect to have another person with an insurable interest as the SBP
       beneficiary. Such a person could be a business partner or family
       member, with a valid interest in the retiree's life. Currently, the
       retiree cannot designate another insurable interest beneficiary even
       if the insurable interest beneficiary dies. To calculate the effect to
       SBP of allowing a second insurable interest beneficiary option, the
       DOD OOA assumed that the retirees electing this option would have
       below-average health and would select individuals with above-average
       health to be insurable interests. Further, the DOD OOA assumed that
       retirees electing this option would be those for whom, on a present
       value basis, expected SBP benefits would most exceed expected SBP
       premiums paid. In other words, the retirees who would benefit most and
       create the highest liability to the Fund would be the retirees who
       would elect the second insurable interest option. Further,
       implementation requirements currently in effect for electing a first
       insurable interest were assumed to also be in effect for electing a
       second insurable interest. Using such assumptions, the DOD OOA
       calculated that SBP liabilities related to adding an option for a
       second insurable interest would increase by an estimated $2.2 million.
       Of this amount, Treasury would be responsible for an estimated $2
       million and DOD for $231,000 ($211,000 for normal costs related to
       full-time employees and $20,000 for normal costs related to part-time
       employees).
     o DIC is paid to survivors of veterans who die from (1) injuries or
       disease incurred or aggravated in the line of duty while on active
       duty, active duty

Pub. L. No. 107-107 S: 642, 115 Stat. 1012, 1151 (Dec. 28, 2001); National
Defense Authorization Act for Fiscal Year 2004, Pub. L. No. 108-136, S:
644, 117 Stat. 1392, 1517 (Nov. 24, 2003).

training, or inactive duty training or (2) disabilities compensable under
laws administered by VA. The survivors of veterans who die because of
complications resulting from service-connected diseases or injuries are
entitled to DIC payments from VA; however, the survivor of a retired
veteran is currently not entitled to receive the combined total of full
SBP and DIC benefits. Instead, the SBP benefit is offset by the amount of
DIC payments received, with certain limitations.

To calculate the effect of eliminating the current offset of surviving
spouses' SBP benefits for the DIC benefits, the DOD OOA had to make an
assumption about the amount of refunded SBP premiums to be repaid for the
expanded SBP benefits. 23 Using this assumption, the DOD OOA calculated
that the SBP liability would increase by an estimated $12.9 billion. Of
this amount, Treasury and DOD would be responsible for an estimated $12.3
billion and $645 million, respectively. Of DOD's $645 million increased
responsibility, $617 million would be for normal costs related to
full-time employees and $28 million for normal costs related to part-time
employees.

  Effect of Potential Changes to the SBP Program on Actuarial Soundness of the
                                      Fund

Benefit and coverage changes to the SBP program usually require changes to
DOD and Treasury payments in order to maintain the actuarial soundness of
the Fund. If the proposed legislative changes are enacted, the DOD OOA
would be required by law to reflect the increased benefits in its
calculation of the required DOD and Treasury contributions to ensure that
additional appropriations are requested to cover all benefit payments to
eligible recipients each year and that sufficient Fund assets will be
available in the future to liquidate all current unfunded liabilities. The
Board would have to approve these calculations.

                                Agency Comments

In responding to a draft of the report, DOD did not have any objections or
substantive comments. DOD separately provided some technical suggestions,
which we incorporated as appropriate.

We are sending copies of this report to the Secretary of Defense; the
Under Secretary of Defense (Comptroller); the Deputy Under Secretary of
Defense for Program Integration; the Director, Defense Finance and
Accounting Service; and the Chief Actuary, Department of Defense Office of
the Actuary. Copies will be made available

Currently, surviving spouses who become eligible for DIC benefits are
refunded SBP premiums because of the reduction in SBP benefits by the
amount of the DIC benefits. With the elimination of the DIC offset, the
SBP benefits would be expanded, and the related SBP premiums that were
previously refunded would likely be recollected. Without legislation to
clarify whether such refunded SBP premiums would be 100 percent repayable,
the DOD OOA estimated that one-third of such previously refunded SBP
premiums would be recollected.

to others upon request. In addition, this report is available at no charge
on the GAO Web site at http://www.gao.gov.

Please contact me at (202) 512-3406 or at [email protected] if you or your
staffs have any questions about this report. Contact points for our
Offices of Congressional Relations and Public Affairs may be found on the
last page of this report. Key contributors to the report were Joseph
Applebaum, Chief Actuary; Molly Boyle, Assistant Director; Linda Garrison,
Assistant Director; Danielle Free; and Vera Seekins.

Enclosure I

                             Scope and Methodology

In conducting this work, we identified prior year audit and actuarial
reports related to the Military Retirement Fund (Fund) and other
background information to obtain a better understanding of the Survivor
Benefit Plan (SBP) program and the nature and extent of related audit work
performed. We visited the Department of Defense (DOD) Office of the
Actuary (OOA), the DOD Office of the Inspector General (OIG), and the
office of the Fund's independent public accountant (IPA). We also
contacted contract personnel at the Defense Finance and Accounting Service
- Cleveland Site (DFAS-Cleveland). We performed the following procedures:

     o Interviewed DOD OOA, OIG, and IPA officials to obtain a general
       understanding of the SBP and its relationship to the Fund.
     o Reviewed DOD OOA documentation related to its estimates of Department
       of the Treasury (Treasury) and DOD payments for certain recent and
       potential SBP program changes.
     o Reviewed selected OIG and IPA audit documentation supporting the
       fiscal year 2005 financial statements audit of the Fund.
     o Gathered data from DFAS-Cleveland on the numbers and status of SBP
       open season applications through April 19, 2006.

To determine the effect that recent significant SBP program changes have
had on the actuarial soundness of the program, we met with DOD OOA staff
to identify significant legislative changes that occurred within the last
7 fiscal years that have had a significant effect on SBP annual costs, the
related Fund liabilities, or both. We determined that the Fund liabilities
were required by law to be funded on an actuarially sound basis, 24 and
that the financial statements of the Fund, which included the annual
changes in funding requirements, were subjected to audit for each of the
last 10 fiscal years and were determined to be reliable. We determined
that it was not practical to determine the actuarial soundness of the SBP
separately from the Fund since the assets of the SBP cannot be readily
identified and segregated from the rest of the Fund. We obtained an
understanding of the DOD OOA's process for calculating the change in the
annual normal cost and Treasury payments needed to ensure actuarial
soundness of the Fund and the role of the DOD Board of Actuaries in
approving key economic assumptions used in estimating these payment
changes and reviewing DOD OOA's resulting payment change amounts. We
determined that under the fiscal year 2005 Defense Authorization Act, the
current open enrollment season for the SBP ends on September 30, 2006, and
that the impact of this ongoing SBP open season enrollment on the
increased cost to the SBP will not be fully estimable for at least 2
years. Therefore, current cost estimates may be subject to significant
changes once the enrollment period has ended. We reviewed the

10 U.S.C. S: 1461 (a). "The Fund shall be used for the accumulation of
funds in order to finance on an actuarially sound basis liabilities of the
Department of Defense under military retirement and survivor benefit
programs."

Enclosure I

reasonableness of preliminary estimates made by the DOD OOA using current
participant and cost information and certain assumptions considered likely
by actuarial staff.

To determine the effects that significant SBP program changes have had by
(1) the various categories of participants and in total on DOD normal cost
payments for the program and (2) in total on Treasury payments to amortize
the unfunded liability amounts, we gained an understanding of the DOD
OOA's process for calculating the cost of the SBP changes. We compared
this process and inputs to those tested by the IPA as part of its audit of
the Fund's fiscal year 2005 financial statements. In September 1997, 25 we
reviewed the process and model used by DOD to estimate the Fund liability
and concluded that they were reasonable. The same process and model
continue to be used for the estimated Fund liability and are subject to
audit annually. Since the same process and model were also used to
calculate the cost estimates of the significant SBP changes, we used the
work of other auditors performed for the fiscal year 2005 financial
statements audit where possible to gain assurance over the cost estimate
calculations. For the three significant SBP program changes in the last 7
fiscal years, we reviewed key assumptions, limited supporting
documentation, and the processes used to calculate changes in the normal
cost payments and to calculate and amortize the unfunded liability
amounts, which affect the amount of Treasury's annual payments into the
Fund.

To determine the potential increase to Treasury and DOD payments that
would be necessary if a law were enacted repealing the Dependency and
Indemnity Compensation offset (provisions now codified at 10 U.S.C. S:S:
1450(c), 1451(c)(2) for beneficiaries), we obtained supporting
documentation for the calculation of the potential increase and determined
that it was prepared using the same process and model as the long-term
pension liability of the Fund. Again, since the process and model used to
calculate the cost estimates were the same as those previously reviewed by
GAO and are subject to audit by the IPA in connection with its annual
audit of the Fund's financial statements, we used the work of other
auditors where possible. We reviewed selected key assumptions and
parameters that the DOD OOA considered likely and therefore used to
estimate the cost changes.

To determine the potential increase to Treasury and DOD payments that
would be necessary if legislation were enacted permitting participants in
the program to designate an insurable interest if a previous designated
beneficiary dies, we obtained an understanding of the payment estimation
process, which differed from the process referred to above; reviewed the
assumptions considered likely by the DOD OOA; obtained supporting
documentation; and recalculated selected formulas used in the calculation
of the estimated potential increase in payments prepared by the DOD OOA.

To determine the effect that each potential legislative change would have
on the actuarial soundness of the Fund, we obtained an understanding of
the process for

GAO, Financial Management: Review of the Military Retirement Trust Fund's
Actuarial Model and Related Computer Controls, GAO/AIMD-97-128
(Washington, D.C.: Sept. 9, 1997).

Enclosure I

calculating the change in the normal cost and Treasury payments from the
DOD OOA to ensure actuarial soundness and the role of the Board of
Actuaries in reviewing and approving key economic assumptions used in DOD
OOA's estimation of payment changes.

We requested comments on a draft of this report from the Secretary of
Defense or his designated representative. DOD's response provided by the
Deputy Under Secretary of Defense for Program Integration is reprinted in
enclosure II. DOD also provided us with technical suggestions, which we
incorporated as appropriate.

We conducted our work from February 2006 through June 2006 in accordance
with generally accepted government auditing standards.

                                  Enclosure II

                    Comments from the Department of Defense
*** End of document. ***