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December 08, 2004

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Publication Date: Wednesday, December 08, 2004

Who's paying attention to public pensions? Cover story: Who's paying attention to public pensions? (December 08, 2004)

The increasing costs of public employee pensions continue to strain local government coffers. Is there a solution on the horizon?

By Renee Batti

Almanac News Editor

It's a problem that has led to cutbacks in public services and nagging headaches for number crunchers in public agencies: As tax revenues drop, flatten or show only slight gains in California's lackluster economy, soaring pension costs are placing a growing burden on the state and local governments.

Just a year ago, a number of public officials interviewed by the Almanac as part of its analysis of the public pensions issue warned that the increased pension costs to public agencies couldn't be sustained.

Those increases, in some cases, amounted to more than a million dollars in just one year. In Menlo Park, for example, the city's pension costs were about $260,000 in fiscal year 2003-04, but rose to about $1.75 million this fiscal year.

San Mateo County Supervisor Rich Gordon called the situation a "ticking time bomb," and state Sen. Jackie Speier, D-Hillsborough, likened it to "a firestorm brewing."

Even so, the silence on the part of state lawmakers has been deafening.

That is changing. A year later, a new firestorm appears to be brewing in the form of proposed legislation, introduced this week, designed to overhaul the pension system for state and local government employees.

Assemblyman Keith Richman, R-Granada Hills, introduced a bill on December 6 that would change the state constitution to prohibit the type of retirement benefits now awarded through the California Public Employees Retirement System, or CalPERS.

His plan would cost public agencies significantly less and put them at less financial risk. It would restrict the type of pension plan available to public employees to one modeled on the 401(k), although employees hired before July 2007 could remain on the current plan.

The proposal is likely to draw fierce resistance from employee unions because CalPERS-style pensions, known as "defined benefit," are clearly less risky, and hence considered by many more advantageous for a person who plans to work for a public agency until retiring. It guarantees that employees will receive, when they retire, a fixed amount in benefits every year until death.

By contrast, a 401(k)-style pension, known as "defined contribution," offers no such guarantee. The size of the retirement fund depends on the market performance of the assets the employee decides to invest in.

The bill will also face opposition from the League of California Cities, an association of officials from every city in the state that works to influence policy decisions in Sacramento that affect cities.

In spite of the anticipated opposition to the Richman bill, the proposal may at least force policy makers to take a serious look at a situation that has already led to cutbacks in services in many California cities and special districts. "And that's certainly a constructive thing," said Brian Moura, assistant city manager of San Carlos and chair of the San Mateo County City Managers Association.

Sen. Speier, whose district includes Woodside and Portola Valley, said Mr. Richman's plan "is not, in my estimation, the answer." She said the existing public pension plan is one of the ways to attract people in specialized positions -- such as lawyers in the attorney general's office -- to work for the government when they can make far more money in the private sector.

She noted that local governments can address the pension problem in part by renegotiating contracts that give enhanced retirement benefits to their employees. But she acknowledged that, with the state's pension costs soaring, the Legislature is going to have to do something as well, including considering the option of "sunsetting" the "3 percent at 50" and other enhanced retirement plans offered through CalPERS, offering new employees less generous pensions.

Assemblyman Richman said he intends to push his plan vigorously and, as a last resort, will launch an initiative effort "if the Legislature is unwilling to address the problem with a common-sense solution."
Bad economy, generous benefits

Under the CalPERS system, employees pay a fixed amount into the system through payroll deductions, while the annual cost to public agencies varies. The employers' annual rates depend on liability factors such as benefits contracted for and number of employees expected to retire in the near future.

The dramatic increase in pension costs to public agencies is primarily the result of the hit CalPERS investments took when the stock market soured, according to CalPERS spokesperson Darin Hall. That was in mid-2000, and the agency has been struggling to recover since then.

But the effects of negative returns, three years running, on the pension program's investments were exacerbated by changes the state Legislature made to CalPERS rules several years ago, allowing more generous pensions.

In 1999, with the economy booming, a new law increased allowable benefits for public safety workers -- police officers, prison guards and firefighters -- by 50 percent. Under the change, these employees could retire at age 50 with lifetime pensions up to 90 percent of their salary, depending on the number of years worked.

That plan, called "3 percent at 50," has been adopted by a majority of public agencies in the state, including all local agencies with public-safety employees.

Three years later, a new law opened the door for non-safety public workers to negotiate terms allowing them to retire at age 60 with pensions up to 90 percent of their salary, a plan known as "3 percent at 60."

Local governments started feeling the crunch in the last year or two, with the Menlo Park and Woodside fire districts, and the cities of Menlo Park and Atherton making significantly higher payments to CalPERS.

Woodside's and Portola Valley town employee pension costs have gone up as well, but not as dramatically. That's in large part because they contract with the San Mateo County Sheriff's Office for police services, so aren't hit directly with the higher costs of public safety employee pensions.
Fire districts

Both the Menlo Park Fire Protection and the Woodside Fire Protection districts adopted the "3 percent at 50" plan several years ago. That means that public safety workers in the districts -- most of their employees -- can retire at the age of 50 and receive 3 percent of their highest annual salary for each year of employment, up to a maximum of 90 percent.

The Menlo Park fire district's payments to CalPERS amounted to only about 3 percent of firefighter salaries in 2001-02. This fiscal year, that figure is expected to reach just over 36 percent, or about $3.5 million. That's about 19 percent of the district's $18.5 million budget.

The Woodside fire district contributed about 19 percent of firefighters' salaries in 2003-04, which amounted to 10.3 percent of the district's $7.7 million budget. This year, the contribution jumped to 31.3 percent, claiming 16.2 percent of an $8.3 million budget.

The Woodside district so far has been able to weather the jumps in its retirement costs by running a lean department. Two years ago, the district reduced by six its number of firefighter positions, and makes up the difference in overtime shifts.

"It's cheaper for us because we don't have to pay benefits for six more firefighters, and (the remaining firefighters) get higher salaries," said Chief Mike Fuge.

Local fire and police officials point to the physical demands of public-safety work, as well as the hazards, in defending the "3 percent at 50" pension plan.

Chief Paul Wilson of the Menlo Park fire district has suggested that few people would prefer a 55-year-old firefighter at their door instead of a 25-year-old when they are in need of being carried from their burning house.

And Harold Schapelhouman, a division chief with the Menlo fire district, notes that many firefighters would prefer to work rather than retire, but on-the-job injuries, high levels of stress and demand for peak physical performance make early retirement the best, if not only, choice for many.
Menlo Park

Officials in Menlo Park continue to be nervous about the effect retirement costs are having on the city's budget. City Manager David Boesch echoes Supervisor Gordon's likening of the situation to a ticking time bomb. And the ticking doesn't look as if it will quiet down next year, says Glen Kramer, the city's personnel director.

Earlier actuarial estimates from CalPERS had Menlo Park paying an amount equal to 6.3 percent of non-safety, or miscellaneous, employees' salaries into the retirement system in fiscal year 2005-06. CalPERS officials have since increased that number to 11.5 percent, Mr. Kramer said. For public safety employees, the number has gone from 24.9 to 29 percent.

That means the amount the city is expected to pay into the system next year is about $1.44 million for non-safety workers and $1.15 million for public safety employees, Mr. Kramer said. Mr. Boesch said that's an increase of about $853,000 over what was originally expected.

The city's 2004-05 general budget is about $29 million.

The percentages the city is paying in the current fiscal year are lower: 6.24 percent for miscellaneous and 21.6 percent for public safety.

The CalPERS increase will likely be felt across the board, as city officials continue to cut costs in whatever programs they can, Mr. Boesch said. The city is also working to attract new revenues with its business-development program, but sales-tax revenues have remained sluggish.

During the boom years, life was easier. The city didn't have to pay anything into the retirement system in 1998 because the costs were covered by the flush stock market. Contributions remained at zero until 2003-04, when the city started paying 5.51 percent of public safety employee salaries, but still didn't have to pay anything for miscellaneous staff.

The retirement costs to Menlo Park could have been higher in 2005-06, but the city's police officers and sergeants agreed in labor negotiations this summer to put off implementing a scheduled boost to their benefits. They have a "3 percent at 55" retirement formula now, which means that a retiring 55-year-old officer or sergeant could retire with 3 percent of his or her salary for every year, up to 30 years, of service.

The officers and sergeants were scheduled to switch to "3 percent at 50" on June 30, but they agreed to defer the switch until June 30, 2006, in exchange for a 4.3 percent salary increase.

Non-sworn police department employees such as dispatchers have a "2 percent at 55" plan, as do miscellaneous employees.

While Mr. Boesch remains concerned about retirement costs, he also said it's very difficult for a city to reduce the retirement benefits it offers -- especially when benefits in nearby cities remain high.

"An individual city trying to go it alone will place itself at a competitive disadvantage," he said.

Atherton's pension costs this fiscal year amount to about $1.1 million, or 13.2 percent of its approximately $8 million budget. That's up from last year, when it paid about 10 percent of its $7.4 million budget to CalPERS.

Atherton also picks up some of the pension costs normally paid by employees.

Change ahead?

Assemblyman Richman acknowledged that there will be "vehement opposition" to his bill, primarily from employee unions. But he predicted there will be much support as well because of the serious financial problems many cities and counties are experiencing, in part, because of increased pension costs.

"Money going to meet pension benefits is money not going to public safety, education, health care or infrastructure investment," he said.

The proposed constitutional amendment would create a ceiling on public agencies' contributions to pension funds as a percentage of payroll. Mr. Richman noted that his bill would still allow public safety employees and other classifications of workers to negotiate enhanced benefit packages within the new constraints.

The plan would set up a tiered system, allowing the state and other agencies "to maintain the promises (they) made to employees" already enrolled in the CalPERS pension plan, Mr. Richman said. Only those public workers hired after July 1, 2007, would be affected by the proposed plan.

Mr. Richman said he started looking at the pensions issue several years ago, and decided the problem has become too serious to ignore. He cites figures from the state's Legislative Analyst's Office that show a tremendous hike in pension-related costs to the state since 2001: That year, the total was $200 million. In 2004-05, it has climbed to $1.9 billion. The report projects a total of $3.42 billion in the state's retirement costs in 2009-10.

The assemblyman said he very much hopes "to resolve this pension crisis in the Legislature, ... but if it happens that the Legislature doesn't address the issue, it certainly doesn't mean the problem goes away." And that's why he's prepared to turn to the initiative process.

Even if the Legislature were to pass the Richman bill, voters would have the final say because the bill would change the constitution.
Other options

Dwight Stenbakken, deputy executive director of the League of California Cities, said his organization will not support a plan that converts public pensions to a 401(k)-style plan.

But, he said, local governments are looking for ways to change the existing system. One way might be to cut allowable benefits for non-safety employees, such as the "3 percent at 60" plan.

Meanwhile, Sen. Speier is focusing on one aspect of the pension problem: She is holding a hearing in the state Capitol on January 24 on disability pension abuse on the heels of a recent report on questionable benefits awarded to California Highway Patrol retirees.

Almanac reporters Rebecca Wallace, Andrea Gemmet and David Boyce contributed to this report.

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