High cost of leaving CalPERS may get higher

The CalPERS board may make it more costly for struggling local governments to close their pension plans.

A pending change is driven in part by unusually low interest rates and the fear of an unlikely, but now not inconceivable, collapse of a large employer like the bankrupt city of San Bernardino.

The cost of closing a pension fund jumped last year when the CalPERS board lowered the earnings forecast for closed funds to 3.8 percent, well below the 7.5 percent used for most CalPERS funds.

The board continued work last week on a new investment allocation for closed funds that could drop the earnings forecast to less than 2 percent, which would push the closing cost for employers even higher.

Closed fund investments would be switched to some of the lowest-risk bonds with very low yields. The higher 7.5 percent earnings forecast for most funds (which critics contend is overly optimistic) is based on stocks and other riskier investments.

As the board of the California Public Employees Retirement System moves to ensure that closed funds do not run out of money, employers have to pay more to close a pension plan.

High exit costs helped stall a Pacific Grove move to leave CalPERS. An estimate of the high cost of closing current state worker plans was an argument used against Gov. Brown’s proposal for a switch to a “hybrid” plan.

When a pension fund is closed, the annual employer-employee contributions that can be adjusted to keep an active pension afloat stop. The contributions cannot be restarted again if money runs short.

So, a closed pension fund must get a lump sum from the departing employer that is large enough to invest and pay promised lifetime pensions, often for well beyond 30 years after the closure.

And the key factor in determining the cost of closing a pension fund is the estimate of what investments earn in the future. Earnings often are expected to provide two-thirds of pension revenue.

The roughly 110 closed CalPERS funds had $184 million in market value assets last year, paid about $4.2 million in benefits and had a funding level of 261 percent, far above the 70 percent funding level of most CalPERS funds.

But CalPERS worries that the surplus in the small fund (total CalPERS assets last week: $239 billion) could erode over the decades or vanish quickly if several small funds or one big fund entered the “Terminated Agency Pool,” diluting the total.

“Given that this is a relatively small pool, if San Bernardino were to come into it the 200 percent funding level would quickly evaporate,” J.J. Jelincic, a CalPERS board member, said during a meeting last week.

Bankrupt San Bernardino stopped making employer payments to CalPERS and owes more than $5 million. A plan to emerge from bankruptcy proposed last week would continue to defer CalPERS payments while negotiating repayment over time.

An in-depth look at San Bernardino by Reuters reporters last week said pay and pensions got richer as the city got poorer: unions helped elect the city council, CalPERS encouraged higher pensions, and Wall Street pushed pension bonds.

“No single deal or decision involving benefits and wages over the years killed the city,” said the Reuters story. “But cumulatively, they built a pension-fueled financial time-bomb that finally exploded.”

CalPERS asked the bankruptcy court to delay San Bernardino’s eligibility for bankruptcy until the city produces a credible plan for adjusting debt. The plan to emerge from bankruptcy proposed by city staff said ineligibility could have grim consequences.

“Without restructuring its finances or maintaining the protection of Chapter 9 (bankruptcy), the city could not pay its employees, retirees, bondholders or vendors,” said the plan. “This would result in uncontrolled default and, presumably, a collapse of public services.”

The San Bernardino city council is scheduled to consider the plan today and possibly again Friday. U.S. Bankruptcy Judge Meredith Jury reportedly has suggested the city could be found ineligible for bankruptcy if a plan is not presented on Nov. 30.

The bankrupt city of Stockton continues to pay CalPERS. As in the proposed San Bernardino plan, Stockton is cutting retiree health care not pensions, contending that pensions are necessary to be competitive in the local government job market.

A majority of the seven-member Stockton city council will be new after the election this month. Voters ousted three members, Mayor Ann Johnston, Diana Lowery and Dale Fritchen, and elected a fourth, Susan Eggman, to the state Assembly.

Whether the city manager who guided a structured bankruptcy, Bob Deis, will continue is not clear, the Stockton Record reported. Before filing for bankruptcy, Stockton went through a 90-day mediation with creditors required under a new state law.

San Bernardino bypassed mediation by declaring a fiscal emergency, which a union opposing the bankruptcy argues was planned. Mayor Pat Morris has a longstanding feud with the elected city attorney, Jim Penman, a union ally who twice ran against him.

The list of 111 closed CalPERS funds, mainly small special districts, includes four cities. In Imperial County, Westmorland, population 2,225, left CalPERS about a decade ago and now has no retirement plan.

Pittsburg switched from the Contra Costa system to CalPERS about a decade ago, a city official said, issuing a bond to cover the cost of leaving the county plan. San Rafael went the other way, switching to the Marin County system from CalPERS around 1977.

Coalinga left CalPERS two decades ago but has decided to rejoin, said the city manager, Darrel Pyle. The Fresno County city, population 13,380, has trouble recruiting, he said, and the quoted CalPERS rate is lower than current city retirement costs.

The closed funds have been an obscure footnote for CalPERS, which covers 1,576 local governments in addition to state workers and non-teaching employees in 1,488 school districts and other education agencies.

Now CalPERS is preparing what apparently will be the first publicly available report on the closed funds. The CalPERS board, after lowering the earnings forecast in August of last year, struggled with the asset allocation at the May and June meetings.

Staff was directed last week to come back with another tweak of the bond-based allocation. During a lengthy discussion, board member Bill Slaton asked if the cost for terminating a fund would be based on an earnings forecast of a little more than 1 percent.

“Yes,” replied Alan Milligan, the CalPERS chief actuary.

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 19 Nov 12

2 Responses to “High cost of leaving CalPERS may get higher”

  1. Tough Love Says:

    Quoting …”The roughly 110 closed CalPERS funds had $184 million in market value assets last year, paid about $4.2 million in benefits and had a funding level of 261 percent, far above the 70 percent funding level of most CalPERS funds.”

    Wow …. I don’t see CalPERS rushing to return that excess to the cities/towns that paid for it. With the 261% valued at the very low discount rate used for closed Plans neither CalPERS, their actuary or anyone else could effectively argue that all of it is needed to pay off all obligations due to the closed-Plan members.

    I suggest that the Cities/Towns associated with that excess consider suing CalPERS for a return of any Plan assets in excess of of 150% funding … still a VERY substantial margin for CalPERS even if interest rates drop further.

    Quoting further …”“Given that this is a relatively small pool, if San Bernardino were to come into it the 200 percent funding level would quickly evaporate,” J.J. Jelincic, a CalPERS board member, said during a meeting last week.”

    That argument is beyond disingenuous. The assets of closed Plans should be treated INDIVIDUALLY with no cross-city commingling or cross-subsidies. In no way should surpluses associated with current closed Plans be diluted by a default by San Bernardino. If San Bernardino cannot pay the excessive pensions promised it’s workers, those pensions should be reduced to the level that Plan assets can support. If not, the withdrawal liability nightmare now effecting Private Sector Multi-employer Plans will infect Public Sector Plans with a vengeance.

  2. spension Says:

    I can’t see where it is said that the 261% funded calculation assumed a 3.8% rate for present value calculations.

    In any case, 4.2 million $ payout per year on savings of $184 million is a 2.3% withdrawal rate. Current best estimate of the maximum save withdrawal rate is <2%:

    The present value calculations done in the standard way are misleading and over-optimistic. They do not account for the small probability of unlikely downturns, like that 1929-1945 or 2009-present. So I'd ignore them, and save enough to supply a 2% safe withdrawal rate.

    Which means: for the closed-plan fund, leave it alone. Only uncautious folks would do otherwise.

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