How would Stockton bankruptcy cut pensions?

Bond insurers who want CalPERS to share the financial pain of the Stockton bankruptcy do not answer a key question in lengthy court filings: How would “bloated” and “overly rich” pensions be cut?

The insurers backing $250 million worth of Stockton general fund bonds argue that the city’s bankruptcy plan gives them major cuts but spares the largest creditor, CalPERS, whose annual bill to the city is expected to nearly double in the next 10 years.

During a 90-day mediation with creditors required under a new state law before filing for bankruptcy, Stockton did not negotiate with CalPERS, say Assured Guaranty and National Public Finance Guarantee.

Instead, National said in a filing last month, Stockton chose “to protect the unsustainable CalPERS pensions that it awarded, but that the city itself cannot now afford, while forcing its other creditors (including National) to foot the bill.”

How negotiating with the California Public Employees Retirement System before filing for bankruptcy would be expected to significantly cut Stockton’s soaring pension costs is not clear.

CalPERS has served notice, notably in Vallejo and San Bernardino, that it will dip into its deep pocket for an all-out legal battle to prevent bankruptcy from being used to cut pensions.

Stockton does not want to cut pensions, arguing that its proposal to eliminate retiree health care is how debt reduction in bankruptcy is shared by employees, who are the actual creditors while CalPERS is just the middleman.

The federal bankruptcy judge handling the case, Christopher Klein, told a UC Berkeley conference the court cannot impose a plan to adjust debt, but does rule on eligibility for bankruptcy and whether the plan to adjust debt is fair to creditors.

The judge appointed a mediator in August, U.S. Bankruptcy Judge Elizabeth Perris, to meet with creditors in an attempt to reach a “consensual plan of adjustment.” An eligibility hearing, originally scheduled Jan. 8, was pushed back to Feb. 26.

Filing for bankruptcy in June gave Stockton an automatic stay on debt collection. Now in the view of some, the creditors will lose much of their leverage if Stockton is found to have met the eligibility standards required for bankruptcy.

The carefully structured Stockton bankruptcy plan appeared to be following the Vallejo model, where the main cuts in bankruptcy were to retiree health care and bond debt.

In addition to facing heavy losses if they have to pay bondholders, the insurers may fear a trend that could affect their industry and the bond market. Stockton has responded to the bond insurer decision to contest the city’s eligibility for bankruptcy.

The insurers say it was not until they contested eligibility that the city met with a consultant to develop a “business case” for not impairing CalPERS and inquired about cutting an unusually generous 5 percent cost-of-living adjustment for pensions.

And it was not until Dec. 4, say the insurers, that Stockton asked CalPERS for a “hardship” rate reduction, which could save the city $1.25 million this fiscal year and a total of $4.5 million over three years.

The hardship rate would give Stockton some short-term relief, but presumably increase the long-term debt. The annual city CalPERS payment, $16.8 million this fiscal year, is expected to be $30.2 million in fiscal 2020.

Movement by CalPERS seems unlikely. The state constitution (amended by labor-backed Proposition 162 in 1992) makes the CalPERS top priority protecting pensions. Minimizing taxpayer costs, which had equal standing, became a secondary priority.

A 17-page statement issued by CalPERS last July spelled out the widely held legal view that a series of court decisions mean pensions promised on the date of hire are “vested” rights, protected by contract law, that can be cut only if offset by a new benefit.

Beyond the legal obstacle, CalPERS only administers pensions: collecting, investing and paying out the money. Pension amounts are set through legislation or, before reform legislation for new hires last year, bargaining with public employee unions.

If CalPERS were given a fair share of Stockton debt reduction, a financial “haircut” along with other creditors, how would CalPERS pass that along to the Stockton employees and retirees?

Some guidance might come from procedures used when private-sector pensions fail and the federal Pension Benefit Guaranty Corp. takes over pension payments. But it’s not mentioned in the bond insurer court filings last month.

The Assured Guaranty filing last month cited testimony from a city official who said she was unaware of any attempt “to study alternative benefit structures with other pension administrators or agencies” to replace CalPERS.

“Nor did the city ever consider withdrawing from CalPERS and placing its existing pension funds on deposit with another pension administrator, such as what was done in San Francisco,” said the Assured filing.

The brief mention of a switch to another retirement system (San Joaquin is one of the 20 counties with an independent retirement system operating under a 1937 act) did not explain how the change would reduce pension costs.

Stockton has a “monumental” unfunded liability, said the Assured filing. estimated by CalPERS on a market value basis to total $322.5 million for both plans, safety and miscellaneous.

If in the future Stockton is not in bankruptcy and unable to “satisfy” its unfunded liability and needs to withdraw from CalPERS, said Assured, the city “could face a draconian termination liability” ballooning to $946 million and a lien on its property.

“Unless the city is willing to tackle its pension liabilities and obligations to CalPERS, there is no legitimate purpose served by permitting it to remain in Chaper 9 (bankruptcy),” Assured argued.

The National filing said Stockton is ineligible for bankruptcy for three reasons: a failure to seek concessions from CalPERS, a “self-interested” decision by staff and council members who are CalPERS members, and a lack of “good faith” negotiations.

A broader Assured filing goes beyond the CalPERS issue and argues that the city budgeted itself into insolvency, continues to overspend, has not tried to maximize revenue, has no grasp of its finances and cannot produce accurate and timely reports.

Assured supports its argument with four reports from experts. City officials are said to have acknowledged that city wages and benefits have been excessive, inflated in some cases by an estimated 25 percent.

The Assured filing rebuts a city contention that lower pensions would result in a “mass exodus” of police officers, noting among other things that 1,300 persons took a police agility test last month.

A statewide pension reform signed by Gov. Brown in September gives all new hires the same low pension, Assured said, further weakening the city contention that high pensions must be maintained to remain competitive in the marketplace.

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 17 Jan 13

27 Responses to “How would Stockton bankruptcy cut pensions?”

  1. Tough Love Says:

    Ed, Nice article, but when you said …”A statewide pension reform signed by Gov. Brown in September gives all new hires the same low pension, Assured said, further weakening the city contention that high pensions must be maintained to remain competitive in the marketplace.” …. I almost choked.

    Is this YOUR quote or are you quoting someone else ?

    Did you really mean that …” all new hires the same LOWER pension,” but not a “LOW” pension.

    Private sector workers would jump for joy to get that new LOW pension.

  2. Michael Genest Says:

    I recall coming across a provision in CalPERS law in a different context some years ago that provided for a pro rata reduction in payments to retirees if the fund set up by their employer with CalPERS ceased to receive new payments and the balance was inadequate, actuarially I presume, to meet the costs of full payments to retirees.

    That involved a case in which a city simply ceased to exist and its fund was left stranded. I’m no lawyer, but I thought the lawyers involved in that case felt they were on solid footing. I believe I actually saw the code section. Ed, is any of this ringing a bell? If so, why is it not applicable in this case?

  3. Dream On Says:

    Because Stockton is not dissolving and is trying to use bankruptcy to stiff everyone including retirees but not impose any kind of haircut on current employees.

  4. Robert Mitchell Says:

    Sadly, CalPERS consistently lies about the cost of pensions in their actuarial calculation. Their pitch is: “If you stay with us, you can use 7+ percent interest for your pension costs, but if you leave, we charge you at 3% interest rate.” That is why $300+ million is really $900+ million. If they had use 3% all along, then the funds would have already been there, and the benefits would have been negotiated at a much lower rate. The CalPERS lies only benefited the employees.

  5. Tough Love Says:

    Quoting Robert Mitchell ..” If they had use 3% all along, then the funds would have already been there, and the benefits would have been negotiated at a much lower rate. ”

    I disagree. If Calpers had used 3%, the MUCH MUCH MUCH larger Taxpayer contributions would have resulted in loud Taxpayers demand for material Plan reductions … even if via Constitutional change.

    The Unions, the Workers, the politicians, and CalPERS maintain these inflated return assumptions to fend off that demand for material Pension reform.

  6. Dream On Says:

    Calpers is effectively a Ponzi scheme because currently working public sector employees are paying into the system to enable current retirees to get everything that was promised whereas the current workers don’t have much of a chance to get what is being promised to them due to the demographics and the high tax CA regime. Prop 30 was a good win for Moonbeam but the state will have to win many many more of these to have a chance at meeting the promised obligations. A clash is inevitable and so are the possibilities of future retirees being forced to accept big cuts.

  7. spension Says:

    Actually a fair case can be made for the 7+% returns… they agree with the 200-year averages.

    What the actuaries at CalPERS, CalSTRS, etc messed up on was that the returns are lumpy and volatile. There have been 30-year periods where there was effectively 0 gain (relative to inflation).

    They didn’t prepare for that.. they assumed smooth, regular 7+ % gains. They didn’t study the consequences of fluctuations, particularly the consequence that taxpayers had to make up for the fluctuations. Also, when the funds were rich in the 1990′s, politicians of all stripes (including Gov. Wilson) wanted to raid the pension funds… which is very ignorant. Because of the lumpiness of gains, an apparent surplus can disappear in 10 years.

    Of course the state employee unions argued for higher benefits when the funds were rich. Again, the same stripe of ignorance… they should have held tight and not raised benefits. And when they did, wiser heads should have intervened and stopped them.

    As for Stockton: the whole think is ignorant lawyers running amok. All they know is how to try to win for their party (bond insurers or CalPERS).

    The obvious solution is: needs test for all debts of Stockton. That is obvious for pensioners… pensions above $100,000 per year should get a haircut, and maybe a smaller haircut for >$75,000 and a stricter haircut for >$150,000 and stricter for higher. Years of service should also be factored in.

    Same for bondholders, though. A rich banker on Wall Street who holds a Stockton bond and earns >$1,000,000/year should get a giant bond haircut. A retiree in Tracy who survives on Social Security but holds a few Stockton bonds should not lose anything.

    But somehow bond debt is viewed as inviolable because of ratings agencies etc. Too bad in my opinion. Bond holders shouldn’t have privileges that pensioners don’t have, and vice versa. Everyone should take a hit for trusting Stockton when Stockton proved untrustworthy.

  8. Robert Mitchell Says:

    So your response is all about class warfare, and nothing about the bait-and-switch pricing CalPERS uses. Why does $300 million become $900 million – please answer that.

  9. Tough Love Says:

    Spension says 7% and Moody’s say 5.5%.

    Who do you think is a better at this (maybe 1000-fold better) ?

  10. Dream On Says:

    Spension
    Why is a rich bankers pay relevant for determining a bond holder haircut? The banker is a medium in most cases, not the final party holding the bond. I agree that holders of the bonds should take a haircut, that is not the issue at play in Stockton. The issue here is that the employees/pensioners are taking ZERO haircut and the bond holders are being forced to take the entire haircut. The issue is of proportionality. The most amazing thing is the gall here. Part of the bond proceeds were used to shore up the pension so in effect by stiffing the bond holders, the city and its employees have directly stolen from the bond holders.

    Given that the equivalent happened at GM and given that Dems are a-ok with this kind of theft it is possible that Stockton will get away with this but the win will be hollow. Because Stockton will be cut off from the bond markets and borrowing costs will rise for ALL of CA not just Stockton. Given the rather precarious nature of CA finances, this will be very expensive for the entire state. That said, hey this is CA, is it possible that in reaction to all of this, CA will pass regulation that allows the borrower to set the rates, terms and conditions for bond proceeds and if necessary authorization to hold the private sector at gunpoint and force the private sector to finance bonds – hell yes, this is CA after all!

  11. Tough Love Says:

    Quoting Spension …”The obvious solution is: needs test for all debts of Stockton. That is obvious for pensioners… pensions above $100,000 per year should get a haircut, and maybe a smaller haircut for >$75,000 and a stricter haircut for >$150,000 and stricter for higher. Years of service should also be factored in.”

    No. Few in the Private Sector get pension anywhere near these figures, and NONE would have automatic annual CPI adjustments (which increases the value of their pension by 1/3). The haircuts should begin at the Maximum Social Security a Private Sector worker can get (about $30K annually) and be capped at double that.

  12. Dream On Says:

    As they say, “Statistics are like a bikini. What they reveal is suggestive, but what they conceal is vital.” Numbers can be used to support any kind of argument so whether the number is 5.5% or 7% is irrelevant. There is certainly the possibility(minute as it may be) that the returns of the next decade surprise all of us and say come in at 10%+. What matters much more is capping the maximum exposure(as TL states above), structuring the system such that the maximum exposure is known and can be planned against AND most important not setting the taxpayer to be the fall guy if things do not go as planned. As we all know, unions and Dems don’t really want this and want to continue with the smoke and mirrors that result in not knowing what the true exposure is.

    There was a quote I read today that quoted an amazing stat(no idea if true but even if mostly true is revealing). I believe it was specific to some counties in CA. Money spent on pensions over the next few years will be 5 TIMES, YES 5 TIMES the amount spent on Social Security for the same population base. Yes I realize that some of the difference can be explained away but very likely not 5 TIMES the amount. So approximately about 20% of the population is receiving pensions that are 5 TIMES larger than the Social Security that the other 80% are receiving.

  13. Tough Love Says:

    Dream On, I believe you have that wrong, although what I have read is still very telling….. that the cost of pension for the 20% of all workers that are Public Sector workers, exceeds the cost of Social Security for the entire 80% that are Private Sector workers.

    When considering that the average Public Sector contribution to their pension is no greater than the Private Sector worker’s SS contribution, why should Public Sector workers get ANY greater pension (let alone one 4 times greater)…. especially when considering that their “cash pay” is on average also no less than that of comparable Private Sector workers.

    P.S. the “4″ times greater pension comes from the ration of 80%/20%.

  14. spension Says:

    Tough Love… 6.6% real for stocks… including inflation…. 8.6% prior to inflation… source is Siegel… here is a link to the figure…

    http://www.dbusiness.com/DBusiness/November-December-2010/Solving-the-Retirement-Income-Crises-hellip-Important-and-Knowable/

    The extremes for 30 year holding period are 10.6 and 2.6%, averaging to 6.6%. But the worst 30 year period got only 2.6% (after inflation). Prior to inflation would be 4.6%.

    Dividends are a substantial portion of the gain, and it may well be that Moody’s neglected them.

    Maybe the haircut needs to be a strong as you say. Maybe not. I’d let the numbers decide that… I don’t think either of us has done the math to really know.

  15. Dream On Says:

    TL I agree that your explanation does make sense. I was bit skeptical too both at the quoted stat and my recollection of it.

  16. Marten Purdy Says:

    On the east stockton, you will find trailer park white trash, cholos and ghetto thugz, with very few nice & quiet areas. On the south side, you will find cholos and thugz. In the downtown area, one will find Southeast Asians, poor white, black & latino. On the northside, you will find Southeast Asian gangs, thugz, cholos and even some poor whites. This is the reason for white flight.

  17. spension Says:

    Social Security produces lower gains than pre-funded DB pensions for 2 reasons: 1)SS is partly pay-as-you-go (as, by the way, are military pensions), and the benefit is just dead reckoned by politics; 2)SS’s trust fund returns federal treasury rates, which are historically lower than the stock market…. see

    http://www.dbusiness.com/DBusiness/November-December-2010/Solving-the-Retirement-Income-Crises-hellip-Important-and-Knowable/

    … after inflation, the real rate of return of treasuries is 2.9%, which is substantially lower than the 6.6% of the stock market.

    So for a well-prefunded DB pension with equivalent contributions to SS, a fair amount more payout is possible. Not as much more as CalPERS, etc, have programmed in… they overdid it by a lot.

    But one part I agree on… if any business (bank, investment fund, etc) holds Stockton bonds, if that business’s income exceeds the SS max (total, not per employee), big haircut on bond returns. Corporations are people, right?

  18. Dream On Says:

    White and retiree flight too I would imagine. Retirees don’t give a damn as long as they got theirs, Stockton could burn down to the ground but as long as the moolah keeps flowing, party is on. Since SB took on the rather dire step of cutting payments to Calpers and facing Calpers legal wrath, things are likely much much worse in SB that Stockton. Same story there, Calpers does not give a flying fig as long as the moolah keeps flowing to Calpers. SB is headed for dissolution if Calpers continues on its current path and forces SB’s hand.

  19. SeeSaw Says:

    That is very unfair to say about pension beneficiares, Dream On. What do you care about on payday? Your check so that you can pay your bills? Of course! I look for my pension check every month for the same reason. That does not mean that I do not give a damn!

    CalPERS is state-constitutionally charged with the fiduciary duty to represent its members. Its as simple as that–and unfair also to accuse CalPERS of not giving a damn.

    The issue of SB is with the courts right now. The judge did mention that before the bankruptcy, if it goes through, is settled, SB will be liable for all of its debts to CalPERS. My take is that SB will be given more time, but the debt will stand until it is paid.

    The reason that Stockton and SB are in the position that they are now in was due to their, respective, poor managment, added to by the Wall Street fraud with mortgages that brought down the whole world economically. CalPERS is not the reason.

  20. Tough Love Says:

    Quoting SeeSaw …”The reason that Stockton and SB are in the position that they are now in was due to their, respective, poor managment, added to by the Wall Street fraud with mortgages that brought down the whole world economically.”

    Baloney, The REASON is that they promised pensions that are FAR FAR too generous and hence extremely costly.

  21. Dream On Says:

    I am always part amused and part puzzled at a standard union/public employee pensioner talking point – blame it all on Wall St. Wall St ain’t no angel and I am not going to defend the many wrongs it has done BUT here is the rub. Pension funds around the country including Calpers have anywhere from 7-8% as the assumed rate of return in order to fully pay out promised benefits. They rely on Wall St to deliver these returns because bonds/fixed income/Treasuries ain’t gonna cut it in today’s world. Even a rudimentary reading of financial history(and Calpers supposedly hires many investment experts and consultants) reveals that stock market returns can and have been lumpy often times for long stretches(more than 10 years). So just like with everything else, unions want absolute certainty in life and any disconnect causes 2 reactions – Wall St is evil, taxpayers owe us. Amazing dynamic around relying on an institution for funding one’s retirement, knowing that stock market returns can have peaks and valleys and then bitching about the institution when valleys are encountered.

    The Hostess Brands union’s act in killing Hostess(Twinkies) is representative of union thinking and math skills where zero is worth more than pay. I got a real good laugh too when I read that the Bakers Union has hired an investment bank to represent them. Said investment bank is going to try and convince new buyers to hire former Hostess employees AND honor pension obligations. HAH. Good luck is all I can say. Unions do live in a different universe I must say.

  22. Dream On Says:

    SeeSaw – yes paycheck is important to everybody and so is retirement security but unlike public sector pensioners we have to suck it when our paycheck reduces and our 401k’s become 201k’s. We do not have the liberty to look around to figure out who to nail to make up the difference.

  23. Dream On Says:

    News flash for anybody concerned – you know who you are! Public sector entities can and have been dissolved and pension obligations frozen/ terminated. This should be rudimentary but I will still state it because one can never assume. Only going concerns can pay promised benefits, dissolved entities cannot especially in a Ponzi kind of scheme. SB would be a very large dissolution but is not a zero probability outcome at this point.

  24. Robert Mitchell Says:

    “CalPERS is state-constitutionally charged with the fiduciary duty to represent its members. Its as simple as that–and unfair also to accuse CalPERS of not giving a damn.”
    For those who don’t understand this, it means” “The inmates are in charge of the facility.” CalPERS gives a damn about their voters, but does not give a moment’s concern about the failure to price their product correctly, to assume actual liability for the benefits promised, nor to consider the employer’s ability to pay.
    Sadly, they are also not accountable. If the contributions stop, then CalPERS should be solely responsible for paying the benefits of people earned to that point in time. They refuse to do so.

  25. Tough Love Says:

    Quoting Robert Mitchell …”If the contributions stop, then CalPERS should be solely responsible for paying the benefits of people earned to that point in time. ”

    CalPERS “pays” with others money (mostly the Taxpayers), so no, if contributions for a city stop, the pensions of that city’s Plan participants should be paid for ONLY from exiting Plan assets (and future earning on those assets) from THAT city.

    If at the time contributions stop, the Plan is underfunded by say 40% (based on a valuation with appropriate assumptions, not assuming 7.5 % earnings forever) then all pensions should immediately be reduced by 40%.

  26. Dream On Says:

    The Calpers model in CA is ludicrous at best and criminal negligence of responsibility by the legislators at worst. No good for the voters can come from an institution that is allowed to set contribution rates with zero oversight or accountability. The purpose of Calpers is pretty simple – fleece the voters on behalf of Sacramento so that Sacramento does not have to do the dirty deed itself.

  27. Captain Says:

    “Dream On Says: The Calpers model in CA is ludicrous at best and criminal negligence of responsibility by the legislators at worst… The purpose of Calpers is pretty simple – fleece the voters on behalf of Sacramento so that Sacramento does not have to do the dirty deed itself.”

    Crooked CalPERS and the Democrat controlled state legislature are tied at the hip.

    From the article: “A 17-page statement issued by CalPERS last July spelled out the widely held legal view ..”. Reading about another “17 page” anything from CalPERS (The seventeen page Brochure promoting SB 400 – NO risk SB 400) conjures up a bad memory of just how deceitful this corrupt CalPERS organization actually is. As far as their widely held legal view is concerned, it is only widely held because CalPERS, the public employee unions, our state legislatures, and city government officials continue to regurgitate the Old Wives Tale that pensions can’t be reduced – even going forward. CalPERS and their corrupt union dominated Board of Directors is perpetuating the myth while threatening any broke city – their customers really, with the threat of burying them in endless legal fees. CalPERS just doesn’t view the taxpayers as customers.

    While most businesses would look for a different supplier CalPERS has just recently enacted what I refer to as their “Hotel California” clause: “you can check in but you can never leave”. Essentially they claim a discount rate of 7.75% (it is still 7.75% for everyone except the state) to help minimize (HIDE) the true dollar amount of unfunded liabilities reported. But, if you choose to opt out of CalPERS they discount the rate at a more conservative 4.8% to minimize their own risk at something closer to a risk free rate (which they didn’t like (completely dismissed) when the Stanford Study was published. So, the net effect to any city, county, etc… is an instant recognition of the massive debt burden CalPERS has been trying to hide, which the entity trying to opt out can’t possibly afford, but which locks those that want out – IN.

    Daniel Borenstein: CalPERS planning to gut a key cost-control provision of new pension law:

    http://www.contracostatimes.com/daniel-borenstein/ci_22356695/daniel-borenstein-calpers-planning-gut-key-cost-control

    On a side note, wannabe governor, Senate President pro Tem Darrell Steinberg (D), is blocking any and all attempts at meaningful pension reform.

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