CalSTRS: on the road to ruin or recovery?

An annual look at CalSTRS, the nation’s second largest public pension system, once again raises the question of whether there is an urgent need to begin putting more money into the pension fund.

Actuaries estimate that the total annual contribution to the pension system, 19.4 percent of payroll, would have to be increased by an additional 12.9 percent of pay (about $3.25 billion) to fully fund pensions promised over the next three decades.

Each year that a contribution increase is delayed, the additional amount needed for full funding is expected to grow roughly half of one percent of pay, Milliman actuaries Nick Collier and Mark Olleman told the CalSTRS board earlier this month.

“Each year we defer there is an additional cost . . . all other things being equal,” Collier said.

Unlike nearly all public pension systems in California, the California State Teachers Retirement System lacks the power to set annual contribution rates that must be paid by employers, needing legislation instead.

So arguably CalSTRS, continuing a five-year quest for a rate increase, might have a tendency to paint a bleak financial picture, hoping to prod legislative action without unduly alarming teachers, who rely on pensions and receive no federal Social Security.

A CalSTRS news release on the actuarial report, based on data as of last June 30, focused on a growing pension shortfall. The projected assets only cover 69 percent of costs expected over the next three decades, down from 71 percent in the previous year.

The funding shortfall is $64.5 billion, up from $56 billion. The gap widened, despite stellar investment earnings last fiscal year (23 percent), due in part to lowering the annual earnings forecast from 7.75 percent to 7.5 percent in the decades ahead.

The funding level and the shortfall or “unfunded liability” are standard measures of pension fund health. And CalSTRS is indeed underwater: The fund peaked at $180 billion in 2007, dropped to $112 billion in 2009 and was $152 billion last February.

But it’s important to remember that the new “unfunded liability” of $64.5 billion is only a floating estimate of the shortfall, not an actual debt that must be paid like a 30-year mortgage.

The big variable is the earnings forecast. The huge CalSTRS shortfall is mainly due to earnings that averaged 5.5 percent during the last decade, well below the old forecast of 7.75 percent.

Critics say a CalSTRS board decision in February to lower the earnings forecast to 7.75 percent is still overly optimistic, concealing massive debt. Whether earnings targets can be hit is part of the debate about “sustainable” public pensions.

Just as being 2 percentage points under the target created the CalSTRS shortfall, the Milliman actuaries estimate that earnings averaging 2 points above the target, 9.6 percent, would fully fund CalSTRS in 30 years without a contribution increase.

More dramatically, CalSTRS could be fully funded without a contribution increase in five years if earnings averaged 16 percent.

“It’s not impossible,” said Collier. “But it’s not realistic to expect investment returns to bring us out of it.”

CalSTRS building in West Sacramento

CalSTRS, one of the nation’s oldest public pension funds, was formed in 1913 and has its centennial next year. Part of its long history is recovering from funding levels less than half of the current 69 percent — a scant 29 percent in 1975.

“One of the things that has come up when we have had discussions with stakeholders and the Legislature about the issue is ‘Why can’t you invest your way out of it?’ You did it before,” Ed Derman, CalSTRS deputy chief executive, told the board.

Among the changes as CalSTRS matured, said the actuaries, is the value of the investment fund compared to the size of the payroll. The ratio was about one to one in 1975, but now the investment fund assets are about six times greater than the payroll.

The Milliman actuaries, following the lead of the California Public Employees Retirement System and a new state actuarial advisory panel, included an “asset volatility ratio” in the new report to show how small losses create the need for bigger contributions.

For example, said Olleman, in 1975 a loss of 10 percent below the 7.5 percent earnings target could have been covered by a contribution increase of half of one percent of pay over 30 years.

“Now in 2011 with the volatility index going up from one to 5.8, that 10 percent loss instead of a half percent increase in pay would imply a 2.7 percent increase in pay,” he said.

If you don’t have the burden of trying to persuade the Legislature to begin a contribution increase, it’s possible to pick out some positive trends in the new actuarial report.

CalSTRS spreads gains and losses over three years, the shortest of the conventional actuarial methods used to “smooth” the need for contribution increases. At the other extreme is CalPERS, virtually alone with a 15-year smoothing period.

Because big losses from a previous year offset the 23 percent gain last fiscal year, the CalSTRS funding level dropped from 71 to 69 percent. But at unsmoothed market value rates, the funding level increased from 60 to 67 percent.

The amount of the contribution increase needed to fully fund CalSTRS in 30 years dropped from 14.2 percent of payroll to 12.9 percent. If there is no contribution increase, the estimate of when the CalSTRS fund runs out of money moved from 2041 to 2046.

Although rarely mentioned by CalSTRS, two old laws triggered a contribution increase last year of 2.5 percent of pay, more than double the old state rate of 2 percent of pay. (The state puts another 2.5 percent into a separate inflation-adjustment fund.)

For a decade ending Jan. 1 last year a quarter of the teacher contribution to CalSTRS, 2 percent of pay from the total 8 percent of pay, was diverted into an individual investment plan. (School districts and other employers contribute 8.25 percent of pay.)

The “cash balance” investment plan is like a 401-k plan, but with an important difference. It guarantees a minimum return based on the 30-year Treasury bond, 4.25 percent last year, and expects to hit the CalSTRS earnings target, now 7.5 percent.

The Defined Benefit Supplement, as it’s called, still gets pay beyond regular salary such as overtime, summer school and bonuses. But it no longer gets 2 percent of teacher pay, which was redirected to the pension fund after a decade-long diversion.

Another law triggered a state contribution increase of half of one percent of pay because a 1990 benefit increase is no longer properly funded. Now it’s expected to increase a quarter of one percent each year until reaching a cap of 1.5 percent.

If they weren’t automatic, a total contribution increase that could reach 3.5 percent of pay seems unlikely to get approval now: A time of deep state budget cuts, teacher layoffs and pay freezes, and what some say has been a $20 billion reduction in school funding over the last four years.

A long-term CalSTRS funding solution may await the future attention of powerful teacher unions, who hold sway over school funding at the Capitol. After years of being awash in the triage of cuts, the unions are now preparing for a battle over tax increases on the November ballot.

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at http://calpensions.com/ Posted 23 Apr 12

40 Responses to “CalSTRS: on the road to ruin or recovery?”

  1. Tough Love Says:

    Taxpayers should not be on the hook for Public Sector Pension shortfalls. Nobody backstops Private Sector workers when their 401K’s drop. If Civil Servants want to continue with Defined Benefit Pensions, fine, but THEIR (not Taxpayer) contributions must go up and down as earnings rise and fall. Reform must include FUTURE service of CURRENT (not just new) workers.

    With “cash pay” no less in the Public Sector than in the Private Sector, Taxpayer contributions towards Public Sector pensions should be a fixed % of pay comparable to what Private Sector employers offer their employees … typically 3-6% ….PERIOD.

    We appreciate hard-working and honest Civil Servants, but there is absolutely no reason to overcompensate them via excessive pensions & benefits on OUR dime.

  2. SeeSaw Says:

    Its time to stop dwelling on this issue of funding for CalSTRS. Get off the stick, CA Legislature! Find out what needs to be done and do it.

  3. Tough Love Says:

    I agree with sEEsAW ….. freeze THE db PENSION FOR ALL CURRENT EMPLOYEES AND REPLACE IT WITH A dEFINED coNTRIBUTION pLAN WITH A MODEST TAXPAYER MATCH (OF ABOUT 3-5% OF PAY) …. JUST LIKE WHAT 90+% OF tAXPAYERS GET.

  4. SeeSaw Says:

    That isn’t what I had in mind.

  5. Tough Love Says:

    SeeSaw, WHat not, it’s the SAME as what Taxpayers get?

    Are Civil Servants “special” and deserving of greater pensions ?

  6. Theodore Steele IV,Adjunct Profesor Says:

    TLover– A freeze and change would end up costing you waaaay more.The term unfunded liability is a complete misnomer. The entire state budget even in black years is unfunded in this sense. What needs to happen is increased payments from employees and the same from the state.And…Seesaw is correct…the time is now.

  7. Tough Love Says:

    Theodore Steele, Your comment that freezing the DB pensions would cost more is absurd …and you (as one riding this gravy train know it.

    Freezing the pensions would SAVE a HUGE HUGE HUGE amount of money …… which is exactly why almost every Corporation that HAD a DB Plan has frozen it.

    FREEZE ALL Public Sector DB Plans now. Taxpayers have been financially raped by the Public Sector Unions (their members) and cooperating politicians long enough.

  8. SeeSaw Says:

    If the legislature must act to fund the CalSTRS pension plan, then act! Take your thumbs out of your mouths and act!

  9. Theodore Steele IV,Adjunct Profesor Says:

    Lovey– Do you mean a “freeze” as in no one pays the thousands of current pensioners? Or a freeze in the sense that no future annuitants get paid?

  10. Tough Love Says:

    Ted, I thought you were familiar the terminology. While actually there ARE several versions of Plan “freezes”, I meant the version where the accrued benefit to date is frozen, meaning there are no further pensions accruals for future service and future salary increases (post-freeze) do not increase increase the pension based on past service. This is the common form in Private Plan “freezes”. Generally when Corporations have done that …which is ALL THE TIME, the Plan is replaced (for FUTURE service with a new plan costing the employer a LOT less, such as a 401K with a company match usually capped at 3-6% of pay.

    So essentially, a future retiree get a combination of a frozen DB Plan (for service pre-freeze) and a DC Plan (for post-freeze service).

  11. Theodore Steele IV,Adjunct Profesor Says:

    You are correct, there are several definitions of the concept. I think I understand what you’re saying. I get your view of freeze. So in this definition, no one continues to pay in contributions to the db fund?

  12. Keen Observer Says:

    Tough Love forgets Social Security. Private sector employers pay 6.2% SS plus the 3-6% 401(k) match he mentioned. That totals 9.2% – 12% How is that a better deal than the 8.25% that school districts currently pay into STRS?

  13. Tough Love Says:

    Ted., I didnt say that Ted, but if the aleady accrued benefits are going to be paid and there is an accrued unfunded liability that cannot be satisfied solely via investment earnings on existing Plan assets, then additional contributions are need or benefis must be reduced…… or the fund will simply run out of money (as did Prichard AL’s Plan).

    For Plans with significant unfunded laibilities and very generous formulas, you can bet there will be a fight about who pays what (actives, rertirees, taxpayers) or if the benefits get reduced.

  14. Theodore Steele IV,Adjunct Profesor Says:

    Ah ha! Lovey…..that’s my point, thank you. The system has ben working fine for 80 plus years, now you want to freeze it. YOU sir in the case of calpers will pay much more because that is what the law requires. Versus lowering payouts, adjusting up employee contributions, raising retirement age, tweeking about 10 more things and soon problem solved or mitigated.

    Be careful what you wish for.

  15. Tough Love Says:

    Ted, You think the system has …”…been working fine for 80 plus years”. Please …. between the scandals, the phony accounting, and stepping WAY out of their mandate (to administer Plan rules and protect/invest Plan assets) by ADVOCATING for bigger pensions.

    By-the-way, I likely will pay more but it will be to NJ not CA. (similar problem and causes) ….. and hopefully the excessive pension & retiree healthcare promises will be significantly reduced (and not just for new workers).

  16. SeeSaw Says:

    There have been no multiple scandals. There has been one case of possible fraud on the part of two people, and acceptance of bribes on the part of three Board Members–all these people are part of the same situation, during a very small time frame of about five years–not comparable to the 80-year life of CalPERS. Bring forth your proof of phony accounting.

  17. Tough Love Says:

    Seesaw. It doesn’t get more phoney than discounting strongly-guaranteed Plan liabilities using high investment return artes assumed on the asset portfolio.

    I don’t expect you will understand the issue. Let’s just say just that about every economist in the country things Gov;t Plan accounting rules are absurd.

  18. Theodore Steele IV,Adjunct Profesor Says:

    Lover you made my point!

    and…..what I mean by running fine for 80 years is……80 years of supporting hard working families and public servants—- never missed a payment….that is pretty good in my book.

    I think you overstate the problems they have had and nothing has effected the bottom line– supporting hard working men and women…..love it!

  19. Tough Love Says:

    Ted, Don’t you think that the interested parties, in addition to the “hard working families and public servants” should include the Non Civil Servant Taxpayers since their contributions and the investment earnings thereon pay for 80-90% of total Plan costs?

    Do to the extraordinarily generous Plan benefits (obtained by bribing the Unions bribing our elected official with campaign contributions) the Plan has indeed been “running fine” for those on the receiving end of these excessive benefits. But has it also been fine, or fair to the Non Civil Servant Taxpayers paying for it ?

    Significant change for CURRENT workers is coming.in the not to distant future.

  20. Theodore Steele IV,Adjunct Profesor Says:

    lovey I could agree with you if your premise wasn’t built on error.

    The fund of investment pays 75% of the pensions, nearly no competent observer disagrees.

    Of course there are other “interested parties”— taxpayers. But remember in EVERY single case the taxpayers (us) have already received the services we paid for from the gov employees.

    Which brings us back to the start– lawful promises made and kept.

    You don’t need to threaten that change is coming. It always comes. I am 75. I have seen it time and again. And I will tell you– it is the only constant dependable thing there is. I embrace it.

    Carry on with your one note samba….cha cha cha…..ole! I am off to watch a netflix …..Semper paradis

  21. Tough Love Says:

    Ted, You show your complete misunderstanding of economics and finance by stating that “investment earnings” funds pension Plans. Perhaps Girard Miller’s very on-point Half-Truth #5 (quoted between the stars below) will help you understand.
    ***************************************************************************
    Half-truth #5: “Public employers and thus taxpayers only pay about 15 percent of the cost of public pensions. The rest comes from employee contributions and the investment income.”

    The idea that investment income comes out of thin air to pay the bills is disingenuous and deceptive. I’m all for actuarial pre-funding and using the power of compounding investment earnings to achieve intergenerational equity, but “interest follows principal.” If employers/taxpayers hadn’t made their contributions, there would be no investment income in the pension fund. Instead, the employers/taxpayers could have invested the money themselves and pocketed the earnings. Especially for police and fire funds and the majority of pension plans with serious underfunding, most public employers today continue to make the lion’s share of total contributions — even though we are beginning to see worthwhile incremental increases in employee contributions toward normal costs in some states. But when you count employer contributions to pay for unfunded liabilities that are required (because investments didn’t earn what these same pension advocates expect them to earn as part of this myth), the employers’ share dwarfs most employees’.

    If interest does not follow principal, then why do plans pay interest on refunds on unvested participants’ contributions, and retirees’ deferred retirement “DROP” accounts?
    ********************************************************************************

    As to your comment that …”the taxpayers (us) have already received the services we paid for from the gov employees.”…. while those services have been received, the COST of those service has been unfairly (and fraudulently via the Union-politician collusion) ratcheted up over time. A good example is CA’s SB400, the totally unjustifiable 50% increase in the pension formula, retroactively applicable to PAST service years …. a theft of taxpayer money for which zero “consideration” was given.

    Ah, you’re 75, and certainly a Public sector retiree. I guess the coming changes will give you lucky old geezers a pass ….(assuming being very old is lucky).

  22. Theodore Steele IV,Adjunct Profesor Says:

    Lovey— Again you reveal a total disregard for reality. If I am your employer and pay you, would you say that I can still claim the money once you have preformed the service we contracted for?

    No, you would not.

    Of course I read Miller’s gibberish. (please don’t cut n paste his weak work…)

    His junk is based on the notion that once contributed by the employer as compensation for contracted work, the fund contribution of the employer is STILL the employers!

    LOL

    Silly gibberish.

    No one says that pension payments to the annuitants “come out of thin air”.

    But we all know that 75% come from the fund. The fund by the way made up of employee money and employer money—- all of which was part of the employees compensation for past work-done.

    So save the bs for Mr. Miller and his ilk. It’s intellectually dim witted…….

  23. Tough Love Says:

    Ted, Most community Colleges let “seniors” audit (i.e., sit-in) classes w/o charge. I suggest you audit a basic finance class.

  24. Theodore Steele IV,Adjunct Profesor Says:

    I won’t even bother to address your “fraud” theory….re SB400….weak.

    and your crack about “assuming being very old is being lucky”…what does that mean?

  25. Theodore Steele IV,Adjunct Profesor Says:

    lovey– honestly— is all you can do make fun of my age?

    Really?

    Wow.

  26. Tough Love Says:

    Ted, It’s the old and older folks who have taken (and are STILL taking) WAY more than their “fair share” and have left quite a financial mess for their children and grandchildren.

  27. Captain Says:

    “Keen Observer Says: Tough Love forgets Social Security. Private sector employers pay 6.2% SS plus the 3-6% 401(k) match he mentioned. That totals 9.2% – 12% How is that a better deal than the 8.25% that school districts currently pay into STRS?”

    Who gets anything above a 3% match? I can only think of two companies.

    KEEN OBSERVER, the Structural Problem with your claim that districts only pay 8.25% is that it ignores what CalSTRS wants to charge – needs to charge the school districts. What they need is an additional 16% of payroll which triples the districts cost from 8.25% to 24.25% of payroll. That should pretty much drive our failing California school system into oblivian.

    Maybe CalSTRS can help by eliminating the accelerated pension
    calculation that increases the pension multiplyer to 2.4%@63, and also eliminate the $400 per month additional retiree compensation/longevity bonus. When you add it up CalSTRS 2.4@63 is probably closer to 3@63.

    Maybe the teachers union can get out of the way of…

  28. Captain Says:

    “SeeSaw Says: If the legislature must act to fund the CalSTRS pension plan, then act! Take your thumbs out of your mouths and act!”

    Sounds simple when you put it like that. Unfortunately, you have no idea where the money will come from to to fund your simple minded – clueless, solution.

    I’m reminded of a time when my four year old daughter wanted to go somewhere and I had to tell her daddy was broke. She said, “you can just go to the money machine (ATM).”

  29. Keen Observer Says:

    Captain, you exaggerate the impact of the longevity bonus. It’s actually 2.58 @ 63 for a teacher with 30 years and a final salary of $75,000. But you guys fudging numbers by 16% is par for the course.

  30. Theodore Steele IV,Adjunct Profesor Says:

    Lovey— So now it is YOU who decides what older people “should” have or have not. YOU decide what my fair share is? Instead of the bargain your rep. made with me 35 years ago before I gave my life’s work to you on that promise? You fit in well with the modern Republican party.

    Unreal.

    But it looks to me that you don’t have the courage to justify the real comments you just made and that I have called you out on.

    Your posts attempted to make light of my age in a pretty junior high school way. Is that how you roll playa?

  31. SeeSaw Says:

    Simple minded? really? With 700 bills a year to consider, it should be simple enough to allocate the funds needed for CalSTRS–first things first.
    We were all children once–I am not a child now, Mr. Insult King!

  32. Tough Love Says:

    SeeSaw, You seem to have either missed (or are ignoring) “Captain Says” point.

    You appear to think the answer is as simple as the Gov’t bodies just paying CalSTRS first…… but you are ignoring the consequence of the lost revenue to OTHER recipients of those current allocations … like parks, libraries, road maintenance, etc.

    While you may feel that Public Sector pensions (which many consider excessive) to be the first priority, most citizens not employed in the Public Sector don’t agree with you.

  33. The Gigantic Ted Says:

    I love the way we crap on teachers…probably the most important societal job for our future. Discuss:

  34. SeeSaw Says:

    I am not privy to the books TL–I don’t know what parks or infrastructure needs have not been met, because of the costs of the CalSTRS pensions. But, it doesn’t take extrordinary brain power to understand that in any financial transaction, the overhead must be taken care of first. The workforce is certainly part of the overhead. I voted to pay the extra $18/yr. on my auto registration to support the CA State Park System. I don’t suppose you would have done that, if you lived in CA.

  35. Tough Love Says:

    Quoting SeeSaw …”I don’t know what parks or infrastructure needs have not been met, because of the costs of the CalSTRS pensions”

    Well, if current needs “have not been” met under current Park/infrastructure revenue allocations, just imagine how much more poorly met will be these needs if $ Billions is diverted to top up these excessive pensions.

  36. The Gigantic Ted Says:

    Seesaw– Lovey’s comments are consistent with a new right wing paradigm unheard of even in the Nixon era from conservatives— he is unwilling to keep his word, his bond, regarding promises made.

    That’s all it is sadly.

    The red herring of “what other budget item needs to go so we can meet our obligation to you”…is just that — a red herring….

    What the heck happened to Republicans????

  37. Tough Love Says:

    Wrong Ted, What I represent is the forefront of an awakening Citizenry as to how the Public Sector Unions have bought thier way (via bribing cooperating politicians with campaign contributions and election support) to grossly excessive pensions yielding total compesation (pay + pensoions + benefits) far in excess of their Private Sector counterparts and far in excess of what is necessary to attract and retain qualified workers, and is grossly unfair to Taxpayers who pay for almost all of it.

    Change is coming fast ……Provident RI workers just lost their COLAs in a vote today. And please, if a judge reverses it, they still won’t get paid as the money is not and will never be there.

    A wave of long-justified reform …. read that as significant pension reductions for CURRENT workers (and for retirees as well where needed) is just beginning.

  38. The Gigantic Ted Says:

    T Lovey– again you are having delusions of adequacy. Your over inflated view of what you represent is funny. From reading your drivel out here and other places I would say you represent narrow minds, jealousy, dull wit, and un worked anger.

    Your non terrifying examples beat a dull mantra of nothing.

    Of course reform is coming, it always does…so what?

    I guess you can’t explain your hateful comments in your last few posts to me? LOL

  39. Tough Love Says:

    What hateful comments …. oberly sensative about the decaying grey matter between the ears?

  40. The Gigantic Ted Says:

    hateful? Lovey– just calling my comments what yours have been for months does nothing for you.

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