States and Municipalities Have Attempted to Enact Legislation to Reduce or Eliminate Pension and OPEB Underfunding to Address the Problem
by James Spiotto
- State and local governmental workers are 12% of the nation’s workforce, and since 1970 have increased 60% in number.
- According to the U.S. Department of Labor, state and local government workers averaged $42.09 in total compensation per hour (pay and benefits), compared to $29.11 for private industry employees. (2014)
- The 2014 Wilshire Report noted of the 134 state retirement systems that reported actuarial data, 2012 pension assets were $2.509 trillion, and liabilities at $3.496 trillion, with an average funding ratio of 72% down from the 2008 high of 81%. This is however more than the 2009 low of 64%.
- State and local government unfunded pension obligations have been estimated at $730 billion to $4.4 trillion. (Healey, Hess and Nicholson “Underfunded Public Pensions in the United States: The Size of the Problem, the Obstacles to Reform and the Path Forward” Harvard Kennedy School 2012)
- Over 43 states between 2009 and 2013 have addressed pension reform (for example, 5 in 2009, 15 in 2010, 22 in 2011, 8 in 2012 and 20 in 2013). Between 2009 and 2013, at least 27 states have increased employee contributions and 28 states have reduced pension benefits. Also, between 2009 and 2013, 23 states have increased the retirement age and service requirement and at least 18 states have reduced post-retirement benefit increases such as COLA. Since 2008, at least 8 states have allowed for at least some public employees optional, hybrid or mandatory defined contribution plans providing a fixed payment with no risk of loss on the employer as compared to traditional defined benefit with the risk of loss on the employer.
Notable examples of pension reform efforts
Wisconsin Pension Reform in 2011: Act 10 holds wage increases to rate of inflation and requires public employees to pay part of the cost of pensions (increased contributions) and healthcare premiums among other provisions. It is claimed that pension reform helped turn a deficit budget of 2010 to a balanced budget. According to Pew Charitable Trust fact sheet of March 2014, the funded ratio for Wisconsin pensions has been 100% and at least 100% of Actuarially Required Payments (“ARC”) for 2010-2012.
Tennessee Pension Reform in 2014 and 2013: The Pension Employee Defined Benefit Financial Security Act of 2014, written by State Treasurer David Lillard Jr., passed by the legislature and signed into law by the governor in May 2014 requires all local government entities that operate pension plans in Tennessee to pay the payment recommended by their actuaries each year (ARC). There is a six-year ramp up to 100% payment of ARC and the state will have authority to withhold funds the state provides to local governments and use those funds to make the required contribution. In 2013, the state passed reform for new hires after July 1, 2014 for certain state and local government positions. Tennessee has a long history of fiscal support for pension funding.
Ohio Pension Reform of 2013: As of January 2013, Ohio pension reform legislation provides increased pension contribution rates, higher retirement age requirements, new guidelines for cost of living adjustments and new formula to calculate benefits. The reform legislation for the most part did not affect current retirees or increase pension contributions for public sector employees.
Florida Attempted 2014 Pension Reform: SB114 would have required elected official except judges to enroll in 401(k) styled investment plans that are already offered. Other employees would have nine months to decide with a default to the 401(k) style plans. The Bill was defeated in the last days of the legislative session in May 2014.
Utah Pension Reform of 2010: Utah passed pension reform while it had a AAA bond rating and a fairly well funded system to prevent future financial challenges. It increased and capped government employee contributions at 10% of salary (12% for public safety employees). The reform was directed to new hires after July 1, 2011. If actuarially required funding was necessary above the 10% cap, the employee would be required to provide the contribution to maintain the defined benefit plan. Current employees could opt into the 401(k) style plan that was available to new hires. This prevents the public employer from paying more than 10% of salaries and ensures funding without pension funding holidays or short payments.
New Jersey Pension Reform of 2011: New Jersey enacted a number of reforms in 2011 that increased the retirement age and workers’ contributions, mandated the state to make its annual pension payment (which is not a source of a pension controversy) and suspended its COLA. There was no structural changes to create a hybrid plan/401(k) style plan or defined contribution.
California State and Local Government Pension Reform Initiative: State passed pension reform in 2012 pension reform estimated to save the state between $42 billion to $55 billion over 30 years for CalPERs and $22.7 billion for CalSTRs.
California Pension Reform Initiative of 2014: To add language to California Constitution that would “enable the people of California to take action necessary to attain fiscal sustainability and provide fiscal responsibility and adequately fund pension and retiree healthcare benefits for all government employees and retirees.” The initiative permits government employers to reduce benefits and increase employee contributions for future work if plans are substantially underfunded or government declares fiscal emergency.
A dispute over the ballot summary of the initiative and an adverse court ruling caused San Jose Mayor Chuck Reed and his supporters to withdraw the initiative for 2014 promising a 2016 effort.
Rhode Island’s Pension Reform Regulation: Suspends new cost of living adjustments to retirees until pension funds and systems are better funded but provides for intermittent COLA every five years until 80 percent fully funded in aggregate; moves all but public safety employees to hybrid pension plans; increases minimum retirement age for most employees not already eligible to retire; preserves accrued benefits earned through June 30, 2013; and begins to address independent local plan solvency. Labor’s court challenge to the constitutionality of this reform now appears headed for trial given the breakdown in the mediation resulting from the police union rejection of a proposed settlement. It is always possible that mediation efforts could resume.
Illinois Pension Legislation of 2010: While more extensive reforms are needed, Illinois in 2010 took a step to stem the draconian increase in state pension underfunding. While the 2010 legislation did not solve the Illinois or local government pension crises, leaving untouched the benefits of current employees, the legislation creates reduced pension benefits for new state employees hired after January 1, 2011, including the following modifications:
- Raises the retirement age to 67 with ten years of service for full retirement. Some retirement plans currently allow full retirement at age 55 or even lower.
- Raises the early retirement age to 62 with ten years of service for a reduced benefit.
- Limits the maximum pensionable salary to the 2010 Social Security wage base of $106,800. Previously, there was no limit to the salary from which a worker could draw a pension for any of the pension plans included in the reforms.
- Eliminates “double-dipping” by suspending the pension of any retiree who goes to work for a government that participates in another pension system until that employment ends.
Illinois Pension Reform 2013: Provided supplemental contributions and funding guarantee by state, reduction of 1% of contributions by workers, and annual COLA adjustment for a cost reduction of state pension by $160 billion over 30 years.
Illinois Pension Reform Litigation: There are five lawsuits by state public workers and their representatives that have been consolidated. Public workers claim the Illinois Supreme Court decisionKanerva v. Weems, 2014 IL 115811, 13 N.E.3d 1228 (July 3, 2014) ruling healthcare benefits are covered by the Illinois Constitution’s pension clause and cannot be “impaired or diminished” should be extended to declare unconstitutional the reform legislation. However, the right of the state to ensure public services to its citizens (health, safety and welfare) cannot be abridged, surrendered, abdicated or interfered with necessitating reform for a higher public purpose was not argued in Kanerva and U.S. Supreme Court precedent supports pension reform and the sovereign’s right and mandate to adjust provisions that prevent it from providing essential government services. See Spiotto, How Cities in Financial Distress Should Deal with Unfunded Pension Obligations and Appropriate Funding of Essential Services, Willamette Law Review Symposium, 50 Willamette Law Review 515 (2014). Also see Interests of All, MUNINET GUIDE (December 6, 2014) www.muninetguide.com/articles/Illinois-pension-reform-legslation-is-legally-justificable-a-724.
City of Chicago Municipal Laborer Pension Reform Legislation:
- COLA reduced to 3% or 50% of CPI (which ever is less) for Tier 1.
- COLA pause 2017, 2019 and 2028 with an additional one year delay for Tier 1 and 2.
- Retirement age for Tier 2 reduced to 65 from 67.
- Increase of 2.5% for total of 11% employee contribution.
Further Legislative Efforts
Maine, Minnesota, New Jersey, Rhode Island, South Dakota and Colorado have enacted legislation and in some cases litigated and won COLA reform and adjustments. In February of 2014, Arizona Supreme Court struck down as unconstitutional pension reform legislation that reduced COLA because it affected judicial pensions that were not to be altered under the constitution from what was earned.
San Diego, San Jose and other cities have imposed pension reform for new hires and current employees to reduce cost and expense. The San Jose pension reform legislation was challenged in state court and while the court agreed pensions could be adjusted, the court struck down portion of the legislation as violating vested rights of workers but provided that the City could cut pay in the face of financial distress.
In 2012, the cities of Stockton and San Bernardino, California filed for Chapter 9 protection due to unaffordable and unsustainable costs including pension and OPEB costs. The Stockton bankruptcy court has noted like the bankruptcy court in the Detroit bankruptcy that pension obligations can be impaired in bankruptcy. There has been no bankruptcy court in a Chapter 9 proceeding ruling contrarily.
California League of Cities has noted:
- Pension costs have risen 25% or more in the last three years for California municipalities ending 2013.
- By 2013-2014, it will be common for California municipalities to pay 50% of a policeman’s salary, 40% of a firefighter’s salary and 25% of other worker’s salaries for pensions.
Most cities since 2007 and the economic recession have had to resort to layoffs, furloughs, reductions in work force, deferral of preventative maintenance on infrastructure and use of one time reserve to get by.
If pension costs are not mitigated and there remains increasing underfunding and if pension obligations are not reduced, California cities as well as similar cities in other states will be financially unsustainable and politically untenable.
James E. Spiotto, Co-Publisher © James E. Spiotto. All rights reserved (2015).