California’s boldest pension reform: five years in

If you don’t give city employees a pension, what happens?

San Diegans voted five years ago this month to switch all new city hires, except police, from pensions to 401(k)-style individual investment plans, becoming one of the first big cities to take the plunge.

Jacksonville, Fla., took a bigger step last April, switching all new employees including police and firefighters to 401(k)-style plans. Last week, Pennsylvania’s governor signed legislation switching new state employees and teachers to three 401(k)-based options.

The Michigan legislature approved legislation last week that puts new teachers in a 401(k)-style plan unless they opt for a “hybrid” pension-401(k) plan. Michigan was the first to switch state employees to 401(k)-style plans two decades ago, followed later by Alaska and Oklahoma.

As one of the city forerunners of what public pension advocates hope does not become a trend, San Diego will be watched. The 401(k)-style plan is the radical reform, avoiding all pension debt for new hires, unlike milder California reforms that curb future pension costs.

Gov. Brown’s pension reform five years ago, requiring new hires to work longer to earn full pensions and making other modest changes, covers CalPERS, CalSTRS, and 20 county systems — not UC and a half dozen big cities with their own pension systems, like San Diego.

A key part of a reform approved by San Jose voters five years ago, cutting the cost of pensions earned by current workers, was blocked by a court. As the police force decreased, a plan preserving some savings was negotiated with unions and approved by voters last fall.

While the number of private-sector pensions, usually offered only by large companies, continues to drop one of the issues is whether the switch to 401(k) plans, originally designed to supplement pensions, will provide an adequate retirement.

An additional issue for local governments that switch is a job market where government pensions are standard. Remaining competitive, particularly for police, is the reason San Bernardino and Stockton did not try to cut pension debt while in banrkuptcy.

So, how’s San Diego doing five years into the switch?

Little information was readily available last week from the office of Mayor Kevin Faulconer, a signer of the ballot argument for Proposition B, or former Councilman Carl DeMaio, an author of the measure, or the San Diego City Employees Retirement System.

A union official said offering new hires a 401(k)-style plan rather than a pension is having an impact on recruitment, particularly for middle and upper management and skilled positions such as engineering and surveying.

Michael Zucchet, San Diego Municipal Employees Association general manager, said the switch reduces services by contributing to an overall vacancy rate in city positions of about 10 percent, rising to 15 to 20 percent in some positions.

He cited the example of a staffing crisis for city 911 dispatchers on emergency calls. A survey found the total compensation of San Diego dispatchers was 30 percent below the regional average, resulting last June in a 26.6 percent pay raise over three years.

Firefighter positions (represented by a different union) still attract many applicants, said Zucchet. But a high failure rate raises questions about quality, and a loss of new firefighter suggests the city is a “training grounds” for other fire departments.

For persons pursuing a career in public service, said Zucchet, pensions are offered by San Diego County, 17 cities in the county that contract with the California Public Employees Retirement System, and other government agencies throughout the region.

“Because of that, to be perfectly frank, you would have to be sort of crazy to choose the city of San Diego,” Zucchet said. “There must be reasons other than compensation and benefits to choose here, and that’s still being felt.”

One of the twists in the San Diego reform is that the city’s independent budget analyst said in the ballot pamphlet that switching to a 401(k)-style plan is not projected to save money over the next 30 years.

Savings from ending pensions for new hires, except police, would be offset by the cost of the new 401(k)-style plan that allows a maximum city contribution of 9.2 percent of pay for most employees, 11 percent for safety employees. City employees do not receive Social Security.

But the analyst projected potential Proposition B savings of $963 million over 30 years from a freeze on pay counted toward pensions until June 20, 2018. Salaries could be increased during the freeze, but the increase would not count toward pensions.

Zucchet said because the freeze on pensionable pay was “locked in four or five years ago, the pension system was able to change its projections, and there was a realized long-term savings.”

About $200 million is expected to be saved over 15 years by increased early payments of the debt for closing pension plans, a government accounting requirement said the latest actuarial report.

Proposition B was said to be needed to curb a projected $100 million increase in city pension costs during the next decade. Zucchet said costs had already been cut by steps such as an agreement in 2009 to give many employees a much lower pension.

San Diego was fertile ground for radical pension reform because two city deals that cut payments into the pension fund while increasing pension benefits resulted in soaring debt, budget cuts, a federal bond probe, lawsuits, and national notoriety.

Now the annual city payment to the pension system is scheduled to jump to $324.5 million in July, up from $261.1 million this fiscal year. The actuarial report said the increase is mainly due to a new estimate that retirees will live longer.

Longevity also is the primary reason the pension funding level dropped to 71.6 percent as of last June 30, down from 75.6 percent the previous year. The pension debt or unfunded liability jumped from $2 billion to $2.56 billion, largely for the same reason.

The actuarial report shows a very high weighted total city contribution rate, 88.7 percent of pay. The pension contribution exceeds pay in three plans: “police old” 114.5 percent of pay, “fire old” 122.6 percent, and “elected” 153.2 percent.

A San Diego County Taxpayers Educational Foundation report in March said the current fiscal year city pension contribution was 10.94 percent of the operating budget, amounting to $233 per capita. The foundation is planning a new study on Proposition B.

There is still a chance that Proposition B may be repealed. An appellate court overturned a state labor board ruling that Proposition B was invalid because city officials did not bargain the issue with unions.

Last month, unions asked the state Supreme Court to review the appellate ruling. If the initiative is overturned, the city may face the cost of giving retroactive pensions to more than 3,000 employees that now have a 401(k)-style plan.

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 18 Jun 17

9 Responses to “California’s boldest pension reform: five years in”

  1. John Moore Says:

    The actuary report showed a city contribution rate of 87.7%. The new IRA plan limits City contributions to 11% and prevents deficits.

    Yes, as the only agency on the block to require a DC plan for new hires, there will be recruitment problems until other agencies see the light. The “light” BTW is guaranteed “cash insolvency” over time. Even with the DC plan fire applicants were numerous. So it will vary among skill groups.

    It is insanity to argue that the DB plan may be comparable in cost to the DC plan. Assume a 20% market correction and do the math. JMM

  2. June Van Wingerden Says:

    Now I know why so many “big ticket” employees have relocated to Santa Barbara County. Great employees, but we can’t afford them either.

  3. Ken Churchill Says:

    According to the City of San Diego’s 2016 actuarial report on page 19 it indicates that the present value of future benefits for retirees and beneficiaries is $6.5 billion.

    On page 16 it indicates the market value of pension assets is $6.3 billion. In other words there is no money in the system to pay for the already earned benefits of the active employees.

    Why would anyone want to be pay into a system that already has committed all its assets to retirees. It would probably be wise to let current employees move their account balance into a 401k plan and move out of a system that is going to not meet its promises to employees. Current retirees should be supporting this option too.

    Here is a link to the actuarial report:

    https://www.sdcers.org/Forms-Publications/Actuarial-Valuations/Current-Year/2016/City.aspx

  4. rstein171 Says:

    It’s unfortunate that future generations, unable to vote today, will bear the costs of many enacted pension programs, entitlements and boondoggle projects, requiring them to pay higher taxes and work later into their lives to pay for these promises. It’s the inmates running the pension Asylum that are loading up system with lucrative packages for themselves, to be paid for by taxpayers.

    The international business world is intelligent enough to know that DEFINED BENEFITS, neither capped nor precisely quantifiable in advance, financial disasters to any business, thus all businesses focus on the known, i.e., defined CONTRIBUTIONS alone.

    Stealing from the young who have no votes, but silently shoulder the costs and bear the burden of unfunded promises of these programs to enrich the old seems to describe the Governments expansion of entitlement benefits and other government services, along with the taxes young people will have to pay to support them, mostly to subsidize older Americans.

    The inmates know that debt for our future generations buys votes. Over the decades, the proven “concept’ practiced by voters is to defer as much financial responsibilities as possible from our current financial responsibilities to future generations, that have no votes on the subject. Simply stated, if we cannot afford it today, pass it off to the future generations to minimize any impact on our current lifestyles.

    Another insult to the taxpayers and future generations paying their pensions is that many of those early retirements collect their guaranteed pensions, and then take a second job.

    Virtually all elected officials are heavily financed by unions which are focused on entitlements for their current members. The unions, government, and other bureaucrats have been very successful in manipulating the system to enrich themselves. Thus, no changes can be expected in the foreseeable future for elected officials to ever abandon their source of votes.

    Even before those young folks can vote our Golden State schools are on track to force substantial budgetary cutbacks on core education spending, as public schools around California are bracing for a crisis driven by skyrocketing worker pension costs that are expected to force districts to divert billions of dollars.

  5. skippingdog57 Says:

    Five years later, the San Diego police department is understaffed by over 200 officers and can’t compete with surrounding agencies for qualified candidates. The Fire Department and other city offices continue to lose qualified employees, and the quality of San Diego public services continues to deteriorate. Nice job….

  6. Jeffrey Davis Says:

    Two things to add.

    1) The $963M savings projection made for Prop B was made by the Prop B team using a very poor assumption about the freeze: that pay would otherwise increase at a 3.75% annual rate from 2012-17 and would not revert to market over the 25 years following. That’s the basis of the entire savings. Of course, pay hasn’t increased at a 3.75% rate in 30 years and inflation has been below 2% for 10yrs. (All approx.) It was and is a nonsense estimate.

    2) Worth noting that part of SD’s current budget difficulty comes from the predicted challenge of adding defined benefits (current) on top of having to close out 100% funding of older non-PD pensions in medium term.

  7. Henry Fung Says:

    Also, for new employees, they not only do not pay into Social Security, but are subject to the Government Pension Offset/Windfall Elimination Provision. At least for private sector employees, Social Security is there as a backstop to provide basic benefits to those who take the benefit.

    Leaving everything in the DC basket is risky as those employees, with a bad beat like legal trouble, poor investments, or high medical expenses, could end up on SSI or welfare if they drain their DC account. San Diego could have moved to DC but they should have rejoined Social Security.

  8. S Moderation Douglas Says:

    Then what is this?

    Governor Signs Bill Providing Social Security Benefits to City of San Diego Employees

  9. JERRY W. CLEMONS Says:

    I read your columns regularly and find them very informative. Thanks. I am retired CHP sworn.

    It is reported that the funded ratio of CALPERS is about 63% and that the ratio measures what percentage of 30 years worth of pension obligations can be covered by the fund’s assets at a given moment.

    I am not sure that I understand that and I doubt that many other readers are in the same boat.

    I suggest that you explain it in laypersons terms in a future column.

    Is this correct?

    CALPERS currently has assets totaling $325B. If that represents only 63% of necessary assets to pay out obligations for 30 years, $445B is required.

    That would mean that an average of $14.8B per year need to be paid out with no further contributions received. Is that correct?

    Jerry Clemons

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