PENSIONS: A brief history
California’s pension system got its start in 1932, as an incentive for older, less efficient workers to leave public service. At that time, workers could expect to retire with about half of what they earned in their final years of service. But that has changed, according to a pension reform report issued by the state’s Little Hoover Commission in February.
The report details how public pensions became increasingly generous through the decades, at the same time that CalPERS – the nation’s largest pension fund and the one Alameda invests in for its city employees – adopted increasingly risky investment strategies in order to increase returns. Its authors say the 2008 market crash and real estate bust helped expose what they see as the pension system’s flaws.
The crash also forced local governments to cover the system’s losses in order to meet their obligations to retired employees. This year, the city is looking at increased pension rate payments of about $1.75 million, a presentation delivered to the City Council on March 29 shows. Locally, opinions differ on how dramatic the increases will be and how long they will last.
Benefits increased gradually over the years since CalPERS opened for business, rising from a retirement age of 65 and 1.43 percent of an employee’s salary for each year served to retirement at 63 with 2.5 percent of a worker’s salary for each year in 1999. But a key turning point came in 1999 when the state Legislature – which sets parameters for benefits, retirement formulas and eligibility ages, according to the report – overwhelmingly approved SB 400.
The new law allowed local governments and the state to lower retirement ages and increase benefits for public safety workers. CalPERS, which was overfunded at the time – meaning they had more money than they needed to cover benefit payouts – had argued they had enough money to keep payments into the system below 1999 levels for the next decade. And they even gave the state a rate “holiday,” lowering its contribution into the fund.
The changes, the report says, caught on like wildfire, with cities quickly boosting benefits in order to retain workers. Benefit changes account for close to half of governments’ increased pension costs, the report says; rising pay and increased workforces make up the other half.
In December 1990, Alameda decided to move its public safety workers from its self-funded pension plans into the CalPERS system, a move that Jeff DelBono, a firefighter/paramedic and the political director for the local firefighters union, said ultimately saved the city $3 million. (Some cities, like San Francisco and San Diego, manage their own pension funds.) But after SB 400 passed, the city changed its retirement plan for public safety workers so that they could retire at age 50 with 3 percent of their top salary for each year served. Other city workers get 2 percent for each year served and can retire at age 55.
Meanwhile, the city’s workforce grew dramatically: Alameda had 594 workers in 1993-1994, including workers at Alameda Municipal Power, the Housing Authority and other agencies. By 2003-2004, the city’s workforce had grown to 738 workers (it has since declined to 659). The fire department saw its ranks grow from 99 workers in 1993-1994 to 119 in 2004-2005 (falling to 110 in 2009-2010), while the police department grew from 149 workers in 1993-1994 to 161 in 1999-2000 (the department had 144 staffers in 2009-2010).
It’s not clear what the city’s average pension payout is; the city’s controller, Fred Marsh, said that would be tough to calculate because many of the city’s employees have worked at other agencies, and their PERS pensions include those years of service. (A CalPERS spokesperson did not respond to a request for more information.) DelBono said Alameda’s firefighters serve an average of 27 years. Public safety workers – who make up a third of the city’s workforce – account for $1,335,000 of its increased pension payment for next year, while the rest of the city’s workers account for an additional $413,000 payment.
In 2008-2009, the city paid $11.1 million into CalPERS that year, the city’s 2009 comprehensive annual financial report shows. Overall, the city paid 30 percent of its public safety employees’ salaries toward their retirement, while the employees pay nine percent; for the city’s other employees, contribution rates were 13.2 percent and seven percent, respectively. (The city’s payment rates are forecast to grow to 45 percent for public safety workers and 19 percent for other municipal employees by 2015-2016, a chart presented to the council shows.)
But as the city added more workers and increased benefits, they entered a pension fund that had adopted increasingly risky investment strategies since its founding.
CalPERS originally invested in government bonds, a stable but low-yield investment. But over the years, additional investments were added, allowing the fund to put money into the stock market, foreign markets and real estate.
The 2008 stock market crash and a plummeting real estate market hit CalPERS heavily: The fund’s assets dropped 30 percent, from an October 2007 high of $260 billion, the report says. (The fund’s assets have rebounded to $234.4 billion, its website shows, but its earnings are reliant on a smaller asset base, the report says.)
Still, the losses were so bad that the fund looked for ways to continue paying pensions without bankrupting the cities and other public agencies that invest in it. If the fund loses money and has less than it needs to cover employees’ pensions, it reaches out its member cities to make up the difference.
It hit upon a “smoothing” formula that spread the losses out over 15 years so that its members wouldn’t be hit with massive bills all at once in what have been challenging economic times. City Treasurer Kevin Kennedy said in an interview last week that he thinks this will mean high pension payments for Alameda for years to come, though DelBono said the pension fund’s returns have been higher than its target of 7.75 percent since the crash. (Marsh said that the increased returns still won’t make up for PERS’ recent losses, which are reflected in the city’s rising rates.)
The pension fund’s board considered lowering its return target to 7.5 percent but opted not to in March on a 10-3 vote.
The city has been talking about how to manage its growing pension costs – and the cost of retiree health benefits, which it has not been paying for – for several years, with Kennedy detailing the problems in a 2009 report of the fiscal sustainability committee he chaired. Still, city leaders have yet to hit upon solutions, though Mayor Marie Gilmore and union leaders say they are coming.
Alameda isn’t the only city grappling with pension and benefit costs, and CalPERS isn’t the only pension fund facing financial troubles. San Francisco, which manages its own retirement fund, reportedly has competing proposals from Public Defender Jeff Adachi and a group headed by investor Warren Hellman that includes union leaders that could trim benefit costs by between $100 million and $200 million; officials in San Jose, facing a $110 million deficit by June 30, 2012, are looking at cutting salaries by 10 percent. City leaders in Oakland, which gave itself a 15-year break from paying into its pension fund for public safety officials and is facing a $42 million deficit, are trying to figure out how to pay the $46 million bill that comes due on July 1.
Across California, city leaders are demanding cuts and labor leaders are considering concessions, though others are arguing that the existing pension system needs a radical restructure. The Little Hoover Commission report’s authors recommend rolling back existing benefits, adding a 401(k)-style plan to the mix and providing the public more information about retirement benefits and their costs. (The federal government introduced a 401(k) plan in 1986; they also give their employees Social Security, something Alameda’s employees don’t get).
“California’s pension plans are dangerously underfunded, the result of overly generous benefit promises, wishful thinking and an unwillingness to plan prudently. Unless aggressive reforms are implemented now, the problem will get far worse, forcing counties and cities to severely reduce services and layoff employees to meet pension obligations,” the report’s authors said.
More to come.
Previously: Peril is in the eye of the beholder