Civil servants and other government employees should be feeling nervous this week following news about the financial state of their pension fund. But taxpayers should be frightened.

That's because their pension scheme, the Public Service Superannuation Fund, is is in trouble, and some hard choices are going to have to be made about it.

The fund faces three major difficulties.

The first is the fund's poor investing record. In 2000, the fund had assets of $289.6 million, in 2001 this dropped to $242.5 million, in 2002 it rose to $281 million before dropping to $238 million in 2003. The fund now stands at $307 million, halfway through the 2004 financial year.

According to Finance Minister Paula Cox, this is a reflection of the uncertainties of the investing market. Ms Cox is right: investing in stocks, as opposed to other forms of investing, is uncertain. The rewards can be high, but so are the risks.

According to the PSSF accounts, pensioners' funds are invested 75 percent in stocks and 25 percent in bonds. This is a high risk portfolio by most measures and has been subject to some dramatic rises and falls.

Because of the nature of the PSSF, it is an unwise allocation. That's because, unlike most pension funds in Bermuda, the PSSF is a "defined benefit" fund, in which the size of retirees' pensions is guaranteed depending on their length of service and seniority. At the same time, contributors have no say in how their money is invested.

This is different from the defined contribution plans that most private sector employees have. In that case, there is no guarantee on the size of the pension; it depends on how the money has been invested, over which the employee has a good deal of control.

Because the PSSF is a defined benefit plan, it would seem to be wise for its managers to be much more conservative than they have been; a far greater portion of the fund should be invested in fixed income investments like bonds, which have less potential for growth but are less risky.

But this is easy to fix: the portfolio should be rebalanced to reflect the conservative nature of the fund now that it has recovered all that has been lost since 2000.

The second problem lies in the fact that the PSSF's unfunded liability ? the money that the fund owes in the future to pensioners that it does not have ? has been ballooning, in part because of the fund's poor investment record.

But it is also because the fund inherited a number of other Government pension schemes in the early 1980s which were previously paid out of Government's current account ? in other words, by the taxpayer. These obligations have not gone away and are likely to continue for some time.

But this could be settled by determining exactly what the obligations are and making a one-time settlement on them from Government funds.

That will not solve the third problem the fund has, which is that it is now paying out more each year ($30 million) than it is taking in each year ($20 million).

That ratio is likely to worsen over time as more public servants retire and live longer. Assuming the Government workforce does not grow, the amount going into the fund will not change.

So, unless the fund's investments produce stellar returns year over year, and they have not and cannot guarantee that they will, the fund is slowly but surely going to go broke. That does not mean that pensions will stop; the fund is guaranteed by the Government, meaning any shortfalls are picked up by the taxpayer.

The only ways to fix the problem are to cut benefits, which is politically difficult, to raise contributions, which will cause problems with current employees.

Ms Cox has a reputation for building a consensus on controversial issues and she will need all of her skill to solve this problem. In the end, she is going to have to make tough choices which must cause someone pain. It will be a difficult test.