Cities jolted by a new CalPERS rate increase laid out in their annual pension reports this fall are finding few options for cost relief. Basically, they can pay more now to avoid higher costs later or curb the growth of employees and their pay.
As rising pension costs squeeze funding from government services, a big change could come from a state Supreme Court decision. Two unanimous rulings by appellate court panels allow cuts in pensions earned by current employees in the future.
Appeals of the two rulings have yet to be heard by the Supreme Court. How the high court will rule, and what might follow if the groundbreaking appellate rulings are upheld, is far from clear.
The California Public Employees Retirement System, like many public pension plans, has not recovered from huge investment losses a decade ago. Last year CalPERS only had 68 percent of the projected assets needed to pay future pension costs.
The funding level now is several percentage points higher. Investment earnings in the fiscal year ending in June, 11.2 percent, exceeded the 7 percent target. A $6 billion extra payment for state workers is expected to save $11 billion over two decades.
But a lengthy bull market that began in 2009 after a stock market crash may be coming to an end. And CalPERS is forecasting that its investment portfolio, valued at $340 billion last week, will earn a below-target 6.2 percent during the next decade.
The failure to recover from big investment losses, as CalPERS has done in the past, leaves no cushion to absorb large losses. A downturn could drop the funding level below 50 percent, a red line experts think makes a return to 100 percent unlikely.
“Frankly, if it falls below 50 percent it’s a hole that’s almost impossible to get out of,” Brad Pacheco, CalPERS deputy executive, told the Salinas city council on Sept. 26. “So we needed to inject cash into the system, and that’s one of the reasons they lowered the discount rate.”
The CalPERS investment earnings forecast used to offset or discount the cost of future pensions was lowered from 7.5 percent to 7 percent last December. The resulting employer rate increase for local governments begins next year and won’t be fully phased in until 2024.
CalPERS lowered the earnings forecast from 7.75 percent to 7.5 percent in 2012, triggering the first employer rate increase. A second increase from a reform of actuarial method will be fully phased in by 2019, a third increase for longer life spans by 2020.
Pacheco and Randall Dziubek, CalPERS deputy chief actuary, spoke at a Salinas study session on the recent fourth rate increase. A CalPERS review of investments done every four years could result in a decision on another rate increase as soon as December.
A fifth rate increase is considered unlikely at this point. CalPERS has been holding a series of meetings with local government groups this year to explain the rate increases and to get their views about the upcoming decision on investment allocations.
Some cities in CalPERS have been getting an outside opinion. Actuary John Bartel gave an analysis to a Pacific Grove city council pension workshop on Oct. 3 that differed from the CalPERS Salinas presentation in at least one notable way.
Bartel suggested the former CalPERS policy of delaying employer contribution rate increases added to the current funding shortfall. CalPERS had been spreading the recognition of investment losses over 15 years and paying them off with a 30-year “rolling amortization.”
The policy “smoothed” employer rates, avoiding sudden big increases that would strain or shock local government budgets. Rolling amortization is a kind of annual refinancing that pushes debt into the future, and theoretically might never pay it off.
Bartel praised CalPERS for adopting a new policy in 2013 that phases in a rate increase over five years and in 30 years will pay off the debt or “unfunded liability” from below-target investment earnings.
“The old minimum (rate) was not sufficient to pay the unfunded liability,” Bartel told the Pacific Grove council. “The new minimum will be once it kicks in.”
(The CalPERS chief actuary, Scott Terando, told the board last month he is considering a change that would pay off new debt from investment losses in a shorter period, perhaps 20 years. He said some employers want to pay down more quickly, saving money in the long run.)
Other causes of the CalPERS shortfall mentioned by Bartel and the CalPERS Salinas presentation are investment losses, lower earnings forecasts, generous retroactive pension increases around 2000, and a maturing pension system.
As retirees outnumber active workers, more investment funds must be used to pay annual pensions. Replacing losses in the massive investment fund requires larger contribution increases. More of the debt is owed retirees, leaving less time to replace losses.
One way mentioned to cut long-term costs is extra payments to CalPERS, like the $6 billion for state workers, or on a smaller scale a lump sum annual payment rather than monthly payments, like Salinas this year.
Another way to cut or manage pension costs and lower reportable liabilities is setting aside money to make future CalPERS payments. Bartel estimated that more than 100 local governments have set up prefunding trust funds with several private firms.
The CalPERS board voted last year to seek legislation allowing it to create a prefunding pension trust fund for employers. But the proposal stalled when employers would not agree to get union agreement before contributing to the fund.
Bartel said Pacific Grove is facing “crazy high” employer rates, well over 100 percent of pay, because the safety plan has a small number of active workers and a comparatively large number of retirees.
Some said it’s the expected result of merging the city fire department with Monterey a decade ago, which will save money in the long run. A Pacific Grove initiative in 2010 capping payments to CalPERS was overturned by a court as a violation of employee vested rights.
The CalPERS actuary, Dziubek, told the Salinas Council CalPERS is recommending that employers begin talking to unions about having employees hired before a cost-cutting pension reform in 2013 pay half of the pension normal cost.
Employees hired after the reform on Jan. 1, 2013, earn a lower pension formula and are required to pay half of the normal cost of a pension, covering the pension earned during a year but not the unfunded liability from previous years paid only by the employer.
Pension reform legislation was limited to new hires because of the “California rule” now before the state Supreme Court. Under a series of previous court rulings, the pension offered at hire becomes a vested right under contracrt law that can’t be cut unless offset by a new benefit.
More cost-cutting pension legislation seems unlikely. A dozen cities unsuccessfully urged the CalPERS board last month to analyze suspending annual cost-of-living adjustments and giving current workers lower pensions for work done in the future.
The Salinas city manager, Ray Corpuz Jr., said his four-point pension strategy is faster payment of debt, considering a prefunding trust, outsourcing some jobs and services if possible, and urging all employees to pay more of their pension cost.
“But in order to make this sustainable, organized labor, the employers, PERS, the Legislature and the courts have to kind of work together,” Corpuz said. “Otherwise we will have a catastrophic economic future that nobody wants for this state and certainly for this city.”
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 16 Oct 17
Calpensions 
October 16, 2017 at 1:32 pm
Thank you for this more factual report. Your opening paragraph stating curbing new employee pay makes the most sense to me. That occurring both at the bargaining table and for those who are not subject to bargaining i.e. city managers down. Impairing those already retired is just mean. Setting up funding accounts for retirement payment should have been done many years ago when the contracts were signed. Interesting the 2 discussions could not have been held together (CalPERS and the other, seems both have some good ideas). I have no sympathy for the employers who did not do their budgets properly nor fund their employees they promised retirement plans to. All those should be held accountable for this and go to jail. Stephanie
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October 16, 2017 at 4:22 pm
who is going to fix the problem. Cannot tax your way out of it.
October 16, 2017 at 5:57 pm
Stephanie H,
“go to jail” is a bit extreme.
The idea of a prefunding pension trust fund for employers is one I just heard of lately, but the cities do not need CalPERS for this. As the article states, over 100 local governments already have such funds.
One of the biggest complaints from so-called experts is that CalPERS should have lowered the discount rate years ago. When asked, I could never get a response of when and how much the rates should have been cut. One answer (sort of) is in a recent article: in 1999, when the 10 year Treasury yield dropped below 8%.
https://paloaltoonline.com/news/2017/10/13/behind-the-headlines-transcript-palo-altos-pension-problem
Apparently, anyone who knows anything about pension funding should have known this (except for myself and CalPERS).
Why is “go to jail” extreme?
1) “proper funding” requires 20/20 hindsight.
2) Even if any one person can predict the future with absolute certainty, she/he then requires the ability to persuade the majority of the city council or the BOS to allocate scarce funds to (possible) future needs.
October 16, 2017 at 6:02 pm
Correction…
Discount rates should been cut when the 10 year Treasury yield dropped 1989, not 1999.
October 16, 2017 at 6:31 pm
Discussions like this one are all B.S.. Unless an Agency elects a majority of true reformers to its legislative body, the pension costs and debt will continue to go sky high. Both Marin and Sonoma county had grand jury reports indicating that large pension raises were void for illegality.
Neither BOS for Marin and Sonoma suggested reform, but obtained phony legal opinions that failed to even note the Ca. supreme court case that proved the increases were illegal(Voter’s v. Bd of Supervisors 1994).
In Pacific Grove the city atty. and outside counsel, instead of defending the citizen ordinance joined with the unions in convincing the judge to strike down the reform(even as to new hires???).
So if the Supreme court upholds the cases finding that pensions may be modified, like the grand jury reports, nothing will happen in cities, counties et al. That is because the legislative majorities are in cahoots(in pari delecto)with staff, the unions, district attorneys, counsels and in my view, the trial courts(except for the one in San Diego).
Pension reform is at the ballot box, but it will take real patriots with the guts to take on the criminal pension gangs now in charge.JMM
October 16, 2017 at 8:09 pm
Please Mr. Moore, these people are not criminals! Nobody foresaw the global financial collapse of 2008. I worked in the public sector for 40 years–unions are simply bargaining groups trying to do the best they can for the workers. It is up to each individual entity to sit down with its groups and determine how to move forward. The state of CA enacted PEPRA 2013 and that was the first step forward toward pension reform. You are not going take anything already earned away from the CA retirees. Criminals they are not! Criminals, the union leaders are not! CAlPERS is not criminal!
October 17, 2017 at 12:29 am
See Saw: If it walks like a duck? Talks like a Duck? Please See Saw, every one of you know that since about 1995, the whole govt. pension system is crooked. It was under water in 2002 and then 2008. The next recession will drop the funded rate well below 50%. The pension mess has destroyed the declaration of independence for Californians, except for govt. workers. If you had an ounce of compassion you would volunteer to support a moral pension system.
We depend on govt. workers for govt. services, but they are now public enemy number one. For our children and grand children’s sake I wish that it was not true. But look at the Sollano county pension mess; every county govt. agency was and is actively complicit in a pension fraud now approaching a billion dollars. They refuse to come clean, no matter what.JMM
October 17, 2017 at 4:54 am
Hey Johnny Moore, I guess we can take comfort that your unhinged comments simply reflect your utter and complete failure to convince anybody that matters of your idiotic viewpoints.
October 17, 2017 at 5:39 am
Pension reform is not necessarily pension reduction.
“New York state pension systems are better funded than California state pension systems, currently take a smaller bite out of state and local government budgets, and still provide pension benefits well above the national average.”
https://www.google.com/url?sa=t&source=web&rct=j&url=https://calpensions.com/2017/05/01/new-york-pension-systems-outperform-california/amp/&ved=0ahUKEwiAuobZ9PbWAhVP1WMKHWgQBewQFgglMAA&usg=AOvVaw1rfO6g_Evk-hIw_BPztUf1&cf=1
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“well above the national average” meaning total compensation higher than California, at a lower cost.
I would volunteer to support a moral pension system, as I think most public workers would. But that does not mean exclusively pension reduction.
October 17, 2017 at 5:52 am
Pete Smith ………. why am I NOT surprised by your (ridiculous) comment attacking John. Moore.
How does it feel to be such a Public Sector “moocher”?.
October 17, 2017 at 12:27 pm
Pete Smith: John Moore has written some excellent cogent articles about the pension mess in Pacific Grove. He is a voice of reason in the wilderness as they say, albeit no one wants to listen.. If you think he has idiotic viewpoints you should read pensiontsunami.com for a reality check. What he is saying will come to pass if something isn’t changed. When the next downturn occurs you will see more BKs than we have had, e.g. Stockton, Vallejo, and this time someone is going to pull the trigger on pensions because there won’t be any other way out. I don’t know what the solution is but saying John has idiotic viewpoints is not one of them. What John has said in his past articles is convincing so I guess I must be an idiot also. Cheers.
October 17, 2017 at 6:35 pm
Hey Toughy Love, you have a soulmate in Johnny Moore. Like him, you have been rambling and spewing on message boards and news forums for years and haven’t convinced anybody. With you as an opponent there is certainly nothing to fear.
October 17, 2017 at 6:53 pm
Really, Paul Greenfield? Johnny Moore’s statements–and let’s just take some he posted on this story—public employees are “public enemy number one,” pension funds are “criminal pension gangs” —are the “voice of reason in the wilderness.” LOL!!
October 18, 2017 at 2:36 am
Cutting salaries won’t lower pensions. In most cases a pension is based on the highest year’s salary. When you cut their salary you DO lower the amount paid into the pension system since it is simply a percentage. You are also encouraging early retirement since the pension amount will be that much closer to their current reduced salary AND they will be getting COLA increases.
October 20, 2017 at 7:46 pm
Mickey Finn, the first COLA, if there is one does not arrive until the second year after retirement and such is not always a “given”. It goes according to CA Retirement Law and the CPI. I have received no- COLA for some years and less than the maximum amount of 2% contracted by my employer in other years. The only thing I am sure about is that public employees are not criminal and neither is CalPERS. Opinions are one thing and facts are just that.