Pension reform: giving workers low-cost option

Unions and management in San Jose have bargaining proposals aimed at making a rare triple play in public pension reform — big cost cuts, done quickly and without a legal battle.

Current workers would be given the option of switching to lower pensions.

It sounds simple enough, but city staff says there are two major problems: How many workers would take the low-cost option? Would the IRS continue to allow pre-tax pension contributions?

San Jose is on the front line of pension reform. The state’s third largest city, located in Silicon Valley, has had budget shortfalls for 11 years in a row, cut 2,000 staff positions, laid off 66 young police officers this year and given staff a 10 percent pay cut.

The general fund, facing another deficit, is expected to have revenue of $801 million this year. The city retirement costs, $73 million in 2002, have more than tripled to $245 million now and are projected to reach $430 million by 2015.

“Skyrocketing retirement costs are destroying our ability to provide basic services,“ Mayor Chuck Reed said in a news release last month responding to an option-based proposal from police and firefighter unions and three of nine non-safety bargaining units.

“Reforms are needed to break the never-ending cycle of budget cuts and restore essential services like police patrol, fire response, street maintenance, libraries and community centers,” he said.

Reed and the city council delayed action in June on a ballot measure that would cut the pensions promised current workers. If approved by voters, the measure could trigger an important court test.

The courts are said to have ruled that pensions promised on the date of hire are “vested” rights protected by contract law and can’t be cut. But the Little Hoover Commission and others say the rulings, some predating collective bargaining, should be revisited.

As in the private sector, the argument goes, governments should be able to control costs by cutting pensions earned by current workers in the future, without cutting pension amounts already earned through years on the job.

The standard bargaining “givebacks” are inadequate for governments in deep financial trouble. Raising employee pension contributions does not save enough, and giving new hires lower pensions can take decades to yield significant savings.

So in this view, cutting the pensions of current workers is the only way back to solvency.

Reed’s original proposal would cap city contributions for future pensions at 9 percent of pay. Current workers could choose to earn lower pensions in the future or pay more to continue earning the previous pension amount.

Current worker pensions would be cut in a different way under a proposed initiative in another pension-troubled city, San Diego. The “pensionable” pay used to determine pension amounts would be frozen for five years, a method also likely to trigger a court test.

Councilman Carl DeMaio and others submitted signatures to place an initiative on the June ballot in the state’s second largest city that also would switch all new hires, except police, to a 401(k)-style individual investment plan.

In San Jose, giving current workers the option of switching to lower pensions was suggested by firefighters in February. Firefighters, police and three other bargaining units hired an actuary, Thomas Lowman, and proposed an option plan late last month.

City staff proposed an option plan, following council directions in June. An update last week from Alex Gurza, deputy city manager, raises questions about a union claim that their proposals would save the city $467 million over five years.

San Jose has two retirement systems. The unions assume that the low-cost pension option would be chosen by all members of the nine bargaining units in the non-sworn “Federated“ system, if given unspecified incentives.

The incentive in the city’s option plan is a hammer: much higher employee pension contributions for those who do not choose the lower pension. Other incentives mentioned but not proposed are sweeteners: lower employee contributions or higher wages.

In the “Police and Fire” system, unions assume that 66 percent of the members would opt for lower pensions. Management of the lower pensions chosen by current members and given new hires would be switched from the city to CalPERS.

The employee contribution in CalPERS police and fire plans is 9 percent of pay, which would be increased to 10 percent in the union proposal. Gurza said that’s less than the employee contribution in the city system.

The California Public Employees Retirement System has some experience with option plans.

In 1984 legislation gave most state workers the option of switching to a lower pension. Instead of “2 at 60” (2 percent of final pay for each year served age 60) they would drop to “1.25 at 65.”

“It was a way to help bridge a budget gap,” recalled former Assemblyman Dave Elder, D-Long Beach, the author of AB 529. “It was also a way to provide an increase in pay.”

Workers opting for the lower pension would no longer have to contribute 5 percent of their pay to pensions. And money contributed to CalPERS in past years could be returned with interest.

Under current rules, said Elder, the previous contributions would probably have to go into the worker’s tax-deferred retirement account, rather than returned in a lump sum. How many workers chose the lower pension is not clear, but it was attractive to new hires.

“CalPERS found that 47 percent of new workers from 1984 to 1988 chose the lower pension tier, which did not require any payroll deductions from employees,” a Little Hoover report said in February.

(Legislation during a state budget crunch in 1991 gave all new hires “1.25 at 65.” A massive pension increase sponsored by CalPERS, SB 400 in 1999, allowed state workers to switch to “2 at 55.” New cost-cutting contracts this year dropped new hires to “2 at 60.”)

A current option plan for most state workers, producing a split similar to the option in the 1980s, was created during a budget crunch in 2004. It’s called the Alternate Retirement Program.

As part of a deal to pay off a never-issued pension bond blocked by a Howard Jarvis Taxpayer Association lawsuit, legislation puts the employee pension contributions of new state workers into a 401(k)-style investment plan during their first two years.

After four years, the worker has a 90-day period to choose one of three options for the two years of contributions: transfer the money to CalPERS and get two years of pension credit, take the money in a lump sum or leave the money in the 401(k)-style plan.

If the worker makes no choice, the money stays in the 401(k)-style plan. A CalPERS report last May said an average of 45 percent make no choice, 45 percent choose CalPERS, 9 percent take the lump sum and 1 percent choose the 401(k)-style plan.

The tax issue mentioned by the San Jose staff has stalled an option plan bargained by Orange County employees in 2009 and then authorized by state legislation, SB 752.

Current Orange County workers and new hires could choose between the regular pension and a new “hybrid” plan that combines a much smaller pension with a 401(k)-style investment plan.

But the IRS has not authorized the new Orange County plan to receive pre-tax contributions. A San Jose staff report said about 22 similar requests also are awaiting a decision by the federal tax agency.

U.S. Rep. Loretta Sanchez, D-Santa Ana, announced legislation last month to authorize the new Orange County plan. But even if San Jose officials agree on an option plan, IRS approval could delay prompt implementation needed for budget savings next year.

The San Jose city council has scheduled an option-plan study session Oct. 17. Their goal is to conclude bargaining by the end of the month, allowing a cushion for impasse or other snags before the early December deadline for putting a measure on the March 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 https://calpensions.com/ Posted 10 Oct 11

13 Responses to “Pension reform: giving workers low-cost option”

  1. john moore Says:

    What the law says,is that if a city has granted employees “vested rights” then on the first day of employment,the new employee has vested pension rights. One of the lead cases,Allen v. City of Long Beach reinforced that rule,but it was conceded that the employees has vested rights in that case. But read that case Carefully. It also emphasized that the vested rights rule for pensions does not apply when the pension costs have created a financial emergency. Read it. All you need to do is Google Allen v. City of Long Beach

  2. spension Says:

    Obviously pension costs are out of control and something must be done.

    Can the emergency be applied to coupon payments on municipal bonds as well? Fair is fair, why should promise A (to City Workers) be more breakable than promise B (to bondholders)?

    It is just that Wall St., Moody’s, Fitch, S&P etc would get hurt by a bond restructuring and they’d scream bloody murder, and raise interest rates on future San Jose borrowing?

    For a city worker expecting >$100K/year pension, they are no more sympathetic than Wall St.

    But cutting into the pensions of any group of lower paid city workers to give 100 pennies on the dollar to Wall St. ain’t right. Maybe there are few such workers these days…

  3. Rex The Wonder Dog! Says:

    What the law says,is that if a city has granted employees “vested rights” then on the first day of employment,the new employee has vested pension rights.
    ==
    The law doesnt say that John, ANYWHERE. Stop trying to spin the law.

    That is just a public employee whopper. The issue has never been addressed by the courts, but the courts have ruled near the issue and they have said that pension rights for future years of service CAN be changed.

    Here is the leading case law, I have highlighted the important points;

    The employee does not obtain, prior to retirement, any absolute right to fixed or specific benefits, but only to a “substantial or reasonable pension.” (Wallace v. City of Fresno (1954) 42 Cal.2d 180, 183 [265 P.2d 884].) Moreover, the employee’s eligibility for benefits can, of course, be defeated “upon the occurrence of a condition subsequent.” (Kern, supra, at p. 853.) 864*864 (3) However, there is a strict limitation on the conditions which may modify the pension system in effect during employment. We have described the applicable principles as follows: ( “An employee’s vested contractual pension rights may be modified prior to retirement for the purpose of keeping a pension system flexible to permit adjustments in accord with changing conditions and at the same time maintain the integrity of the system. ( [Citations.] Such modifications must be reasonable, and it is for the courts to determine upon the facts of each case what constitutes a permissible change. To be sustained as reasonable, alterations of employees’ pension rights must bear some material relation to the theory of a pension system and its successful operation, and changes in a pension plan which result in disadvantage to employees should be accompanied by comparable new advantages.
    http://scholar.google.com/scholar_case?case=17080363232227008395&hl=en&as_sdt=2&as_vis=1&oi=scholarr

  4. john moore Says:

    Rex: Read Allen v city of Long Beach. In that case,the court disallowed three different changes that would have reduced the value of vested rights. But,it went on to say,that if the pensions had created a financial emergency for the city,that would be different. In every case I know of,including San Jose,the pension promises have created a financial emergency,so reducing pensions for current workers,for work not yet performed should be allowed. You and I are on the same wave,but you are confusing the issue of whether there is a vested right at all(which depends on the facts of each separate case),with,if there are vested rights,can they be modified?Two totally different issues.For example, In my city,the Charter specifically prohibited vested pension rights. Employees only have time limited pension rights,that expire with each contract. .

  5. Tough Love Says:

    Quotig …”As in the private sector, the argument goes, governments should be able to control costs by cutting pensions earned by current workers in the future, without cutting pension amounts already earned through years on the job.
    The standard bargaining “givebacks” are inadequate for governments in deep financial trouble. Raising employee pension contributions does not save enough, and giving new hires lower pensions can take decades to yield significant savings.
    So in this view, cutting the pensions of current workers is the only way back to solvency.”

    PERFECTLY STATED.

  6. Tough Love Says:

    Quoting spension …”Can the emergency be applied to coupon payments on municipal bonds as well? Fair is fair, why should promise A (to City Workers) be more breakable than promise B (to bondholders)?”

    The promise to bondBUYERS is more important because (even though you do not seem to understand it) cities cannot operate without debt. They CAN operate without “employees” (who get these ridiculously excessive pensions) …. just outsource everyone (ZERO future pension growth).

  7. spension Says:

    Private sector companies default on their bonds all the time.

    Got a GM bond? How about US Leather bonds?

    Surely San Jose can go bankrupt and a new city can be reinstated.

    That new city, like a new company, can start over on its debt.

  8. Tough Love Says:

    Spension ……….. Won’t work … lenders will lend money only at very high yields.

  9. Rex The Wonder Dog! Says:

    you are confusing the issue of whether there is a vested right at all(which depends on the facts of each separate case),with,if there are vested rights,can they be modified?Two totally different issues.For example, In my city,the Charter specifically prohibited vested pension rights
    ==
    Future years, not worked, are not “vested”. They can be changed. Future years not worked and not part of the current contract cannot be vested because they are not part of a contract.

    No public employee has a “vested right” to any future work or future benefites because they have not been bargained for. Public employees have no right to any benefit or any wage not yet bargained for.

    All public employees are ONLY “vested” into the contract they are hired under, the one in existence when they start day 1, and nothing more. That contract does not last their entire working career, it covers a specific period of time. Not forever. If the contract is for 2 years, they have a vested pension under that contract for 2 years. Nothing more. These are bargaining issues for the contract, not forever.

    Now the public employees have stated forever that they are “vested” in the pension they are hired under at Day 1, but that is simply not true. In fact any first year law student with just “Contracts I” under their belt would know that is just a public union “talking point”. There is no legal support for the claim that a public employee is entitled to a pension the day they reitre based on the day they were hired. Just not not true. They ARE be “vested” in a time period that it takes to vest, but that is in the written contracts.

    There is no language in any public employee contract expressely stating that a pension in place on Day 1 lasts not only through that contract, but through the employees entire employment period. Public employees are simply making that wild, completely unsupported and specious claim to keep their gravy train running, nothing more.

  10. spension Says:

    Tough Love… high yields didn’t kill Argentina, Russia, Thailand, etc… memories are short.

    The truth is that government financial mismanagement has been so extensive low yields are not justified anyway.

    Default on the bonds and on pensions, give the same 60 cents on the dollar to each, and start over.

  11. john moore Says:

    Rex: Again,you are partially right. If there is only a contract,rights are not vested.(like my city) But if the pension rights are laid out in a statute,or,a charter,without a reservation that allows the city to diminish the rights,they are vested. But,even if the rights are vested,Allen,supra,says they can be diminished if the pension levels have caused a financial crisis. So San Jose, Stockton,San Diego,Pacific Grove,et al(every city in financial trouble because of pension levels)can reduce pensions to a reasonable level.

  12. Ted Steele Says:

    LOL Looks like Rex the Poodle is in waaaaay over his head out here ! LOL…hmmmmm….can’t spew your hate like you do on the oc register blog because they require an id now !! LOL god bless ya little buddy !

    Citing 1/3 of the relevant and distinguished or de published legal authority to support the dull-normal legal view that obligations vested, bargained for, consideration executed and relied upon etc etc etc— do not have to be paid….lol……zzzzzzzzzzzzzzz— brilliant!

  13. Chris Says:

    Let San Jose just go bankrupt.

    Orange County did it back in the early 90s. It worked will and the county is back in the black now.

    Stop trying to put a band-aid on a dam burst of debt. Just do it! Go bankrupt and reorganize the pension debt and payments. City services are more important than a few selfish retired people!

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