CalSTRS gets new power to set state, school rates

As its pension debt soared after the financial crisis, CalSTRS struggled for years to get legislation needed to raise rates — meeting with legislators, looking at suing the state, and even issuing a $600,000 public relations contract to help sway lawmakers.

“Pay now or pay more later” was the refrain.

Actuaries calculated that during each year of delay, the total cost of the rate hike needed to project full funding in 30 years was growing at a rate of roughly half of one percent of pay.

But the century-old California State Teachers Retirement System was helpless for historical reasons, lacking a key power held by most California public pension systems. It could not set annual rates that must be paid by employers.

Then two years ago, after nearly a decade of CalSTRS pleading, the Legislature and Gov. Brown enacted a record rate increase. School district rates will more than double by the end of the decade, while teachers and the state have smaller increases.

Little noticed at the time, the legislation (AB 1469) also gave CalSTRS some long-sought power to raise employer and state rates — a big step toward normalizing the teachers’ pension system and a rare loosening of legislative control over the state budget.

“We were quite happy with the outcome,” Ed Derman, CalSTRS deputy chief executive officer, said last week as the new rate-setting power got a double dose of public attention.

The CalSTRS board approved a one-year delay in the “experience” study done every four years to help actuaries keep projections on track. The extra time will allow improved estimates of life spans before new rate-setting power begins.

The nonpartisan Legislative Analyst’s Office issued a review of the CalSTRS funding legislation suggesting tweaks may be needed to reduce the complexity, correct how debt is shared between employers and the state, and improve oversight.

In what could be a major change, the legislation lifted a cap that limited the basic CalSTRS state rate to 3.5 percent of pay. Now the CalSTRS board has the new power, beginning next year, to raise the state rate up to 0.50 percent of pay each year.

Another change gives CalSTRS the power, beginning in 2021, to raise the rate paid by school districts and other employers up to 1 percent of pay a year. But these rates are limited to a range of no less than 8.25 percent of pay and no more than 20.25 percent.

The Legislative Analyst thinks there is a “good chance” the state will not pay more under the new funding plan than it would have paid to CalSTRS under the previous funding law.

But like other California public pension systems, CalSTRS expects earnings from its large investment fund (valued at $186 billion last Dec. 31) to provide about two-thirds of the money needed to pay pensions in the future.

So, there also is a possibility that if the critics are right and investment earnings fall well short of the 7.5 percent annual long-term average expected by CalSTRS, new rate increases will be needed to fill the funding gap.

The uncapped state rates soon to be set by CalSTRS would have to cover most of a big new funding gap. Not only are school district rates capped at 20.25 percent of pay, but the legislation pushes them near the cap, going from 8.25 percent to 19.1 percent by 2020.

Depending on whether investment earnings exceed or fall below the CalSTRS forecast, said the Legislative Analyst’s report, the basic state rate in about 30 years could drop to zero or soar to 18 percent of pay.

“In the context of current statewide teacher payroll, the difference between these two extremes is roughly $5 billion — more than three times the state’s current contribution to CalSTRS’ main pension program,” said the analyst’s report by Ryan Miller.

“We note that the state’s share of CalSTRS’ unfunded liability would be higher than reflected in the figure (chart below) if CalSTRS lowers its assumption concerning future investment returns.”

Chart

The basic state CalSTRS rate increases to about 6 percent of pay in the new fiscal year beginning in July. It’s the last of three annual increases under the legislation, which tripled the state rate that was about 2 percent of pay three years ago.

The new power CalSTRS gets next year to raise the basic state rate does not include a separate state payment, frozen at 2.5 percent of pay, for a fund that keeps teacher pensions from falling below 85 percent of their original purchasing power.

As reported in a recent post, the Supplemental Benefit Maintenance Account had an $11.5 billion reserve last fiscal year for an annual payment of $193 million. There has been no analysis of whether the huge reserve is an efficient use of taxpayer funds.

The California Public Employees Retirement System provides similar inflation protection through a single employer-employee contribution rate that also covers the cost of pensions and annual cost-of-living adjustments.

And if the 85 percent guarantee is a “vested right” under state court decisions widely believed to mean that public pension benefits cannot be cut, there may be no need for a huge reserve to ensure inflation protection for many decades into the future.

Teachers got the smallest rate increase under the legislation two years ago because their contribution to CalSTRS was said to be a “vested right” that could only be cut if offset by a new benefit of comparable value.

For teachers hired before a pension reform in 2013, the rate went from 8 percent of pay to 10.25 percent. The offsetting new benefit was a provision in the rate legislation explicitly making a routine cost-of-living adjustment a vested right.

CalSTRS pensions get an annual 2 percent cost-of-living adjustment, a fixed amount based on the original pension. In the past this “improvement factor” has not kept pace with inflation, creating a need for the fund to protect original purchasing power.

Last week, the CalSTRS board was told that the life spans of retirees have been increasing faster than anticipated. Two years ago CalPERS increased employer rates to cover longer life spans expected for its retirees.

Rick Reed, CalSTRS chief actuary, said the same mortality table has been used for persons age 20 and age 60. A weighted average tends to estimate a life span that is too long for the 60-year-old and too short for the 20-year-old.

With new computer technology, Reed said, it’s possible to have a mortality table for each individual for each year. For a person age 20, there would be 70 mortality tables by age 90.

“Conceptually, it’s not new,” Reed said. “It’s just more doable now.”

By delaying the experience study until next year, the CalSTRS board hopes to have more accurate and stable mortality data, audited by an outside actuary, when its new rate-setting power begins.

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Calpensions.com. Posted 8 Feb 16

12 Responses to “CalSTRS gets new power to set state, school rates”

  1. john m. moore Says:

    Finally, Ed got it right: teachers pensions(STRS) are a vested right granted by statute–Cory case. For CaLPERS and CERL, there is only a vested right, if the statute or contract granting the benefit also made that grant in perpetuity(there is a presumption that it did not–Retired Employees of Orange County). If the statute or contract granting a benefit did not create a vested right, employees and retirees may try to show contemporanious evidence that a vested right was implied.
    Most states allow vested rights where proven by a statue or contract, for work already performed. The Ca. Rule provides that if a statute or contract has proven that the benefit is vested–In perpetuity–then it also applies to work not yet performed. That it applies to work not yet performed IS the California Rule.

  2. larrylittlefield Says:

    Sounds as if CALSTRS is now in a position to put though another pension increase.

    “The Ca. Rule provides that if a statute or contract has proven that the benefit is vested–In perpetuity–then it also applies to work not yet performed.”

    And just to show the disproportion in power between those who get that deal and the serfs, that amount paid for PAST work could be retroactively increased at any time — instantly becoming a right vested in perpetuity regardless of the consequences. Right?

  3. Bob Gloss Says:

    Whatever happened to the concept of equal contribution by employer and employee? District and state supplemental pension contribution is more than twice the amount that CalSTRS members are paying as pension contributions.

  4. SeeSaw Says:

    Read PEPRA Bob – The requirement in that statute regarding the employee-share automatically goes into effect in 2018 if the, respective, bargaining groups don’t come to agreement beforehand.

  5. Ken Churchill Says:

    In 2001 CalSTRS it appears retroactively increased pensions resulting in the average annual pension going from $40,854 in 2000 to $52,287 in 2001 for a $11,433 annual increase per retiree according to table 3 in this study.

    http://californiapolicycenter.org/how

    At $11,433 per year, a teacher living 25 years in retirement and receiving a 2% COLA will receive an additional $428,737 as a result of the increase. And that is for each teacher and 12,000 retire each year.

    What folks should also understand is that during their entire careers the teachers and their employer were paying into lower formula so these increased benefits just add to the unfunded liability, which falls onto taxpayers, it is not a cost shared with the employees. If the new benefits had been in effect their entire career, they would have paid much more towards them.

    I am not blaming teachers. It was their unions and the state legislature that were hoodwinked into the increase probably because they were told there would be no cost to taxpayers as they heard before they approved SB 400 because like the folks running CalPERS, the CalSTRS folks may have claimed to be investment wizards who would ensure their investment earnings would pick up the tab. We all know now how that worked out.

    It is hard to understand with the debt limits of our state constitution why retroactive pension increases that added billions of debt to the state’s balance sheet should not have required voter approval. Instead we hear that these increases are locked in and protected by the state constitution and can only go up.

  6. SeeSaw Says:

    @Ken Churchill – At the time of SB400 things were rosy in the stock market. Nobody knew what was going to befall the country in September 2008. When the principals made the mistake of SB400, they were sincere.

    On your question regarding the constitution’s debt limit: In 2010, the CA AG at that time (Jerry Brown) filed an Amicus Brief with the Court on behalf of the 900,000 CalPERS members who would have been impacted, if the court had ruled for Orange County in its case vs. the Orange Country Deputy Sheriffs. Following is exact wording from that document:

    “The payment due for a government agency’s future pension obligation is a contingent liability that falls within an exception to the constitutional debt limit”.

  7. SeeSaw Says:

    CA retirement law is governed by certain statutes regarding COLAs. Such are tied to the federal CPI. COLA’s may the maximum allowed in the contract between the Pension Plan and the Employer–or they may be less.

  8. SeeSaw Says:

    @Larry Littlefield — Retroactive pension increases were made illegal under PEPRA 2013.

  9. spension Says:

    Meanwhile, the University of California is not funding its liability, at about 6% a year. That liability resulted from 20 years of exactly zero employer contribution (the historical employee contribution was redirected into a DC plan for that 20 year time period).

    Currently, employees are contributing an additional 6-8% to cover the UC employer liability.

    Many UC employees are preparing for a small fraction of their pensions to actually appear… maybe that is OK.

  10. Berryessa Chillin' Says:

    “@Ken Churchill – At the time of SB400 things were rosy in the stock market. Nobody knew what was going to befall the country in September 2008. When the principals made the mistake of SB400, they were sincere.”

    Several hundred years of market capitalism have well-established the existence of a market cycle. That there would be a market correction was to be expected at some point. People lost their heads at the turn of the century and CalPERS and CalSTRS hucksters, who should have been the voice of reason, instead made outrageous predictions that the massive pension upgrades would cost nothing. The fact that those “experts” haven’t been thrown out of the pension industry is scandalous in the extreme.

  11. john m. moore Says:

    It was not just the 2008 crash that was in play. From 1999 to 2002, PERS declared a contribution holiday. In 2001, the market crashed(18% of liability). Most of the 3%@50 increases came after the 2001 crash. That is why it was so critical for cities and counties to corruptly ignore Govt. code 7507 because compliance would have revealed annual costs that were and continue to destroy local government services. The vast majority of pension bonds were issued before 2008, supporting what I have just said.

    Fiscal year 2015-16 is in the middle of another crash. It may easily be 20-25% of the present value of pension liabilities(for PERS another $100B in unfunded liabilities even assuming a 7.5% return, or, about $200B assuming a market return)

  12. SeeSaw Says:

    BC, I don’t know the name of one “expert” involved in the outrageous predictions, as you refer to them. Do you? Since you say it is a fact that they haven’t been thrown out of the the pension industry (a term I don’t use for pensions) clue me in.

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