The CalPERS board yesterday raised the annual state payment for state worker pensions $213 million to a total of $3.7 billion, rejecting Gov. Brown’s request for a bigger increase to avoid a “loan” costing “$145.9 million over the next 20 years.”
Unions asked the board to spread out higher pension costs mainly caused by a lower investment earnings forecast. Paying part of the new rate over two decades, instead of the full amount now, makes an extra $149 million available for worker pay and other programs next fiscal year.
Although the amount of money may be relatively small, compared to the $16 billion state budget deficit revealed this week, the issue is the big one facing public pensions.
Like former Gov. Arnold Schwarzenegger, who also unsuccessfully urged CalPERS to adopt higher state rates, Brown is asking the Legislature to enact cost-cutting pension reforms.
Painful increases in annual employer pension costs might increase public pressure for pension reform. But paying more now to avoid higher costs later also reflects the view that pensions are seriously underfunded.
Most pension funds expect to get about two-thirds of their revenue from investment earnings, not annual employer or employee contributions, and critics say the earnings forecasts are too optimistic.
Alarm grew when a deep economic recession, and a stock market crash in 2008, punched a big hole in pension investment funds. The CalPERS investment portfolio, still well below its peak of $260 million in 2007, was valued at $229.4 billion Tuesday.
CalPERS state worker plans were on average 70 percent funded last June 30 with an “unfunded liability” of $38.5 billion. That’s the shortfall in projected assets needed to pay for pensions over the next 30 years.
The state has a much larger debt for retiree health care promised current state workers over the next 30 years — $62 billion according to an actuarial report done for state Controller John Chiang.
There is no dispute about whether strong investment returns will help close the retiree health care funding gap. Legislation by former Assemblyman Dave Elder, D-Long Beach, created a retiree health care fund two decades ago.
But lawmakers chose not to put money in the fund. Now state worker retiree health care is a pay-as-you-go plan, up more than 60 percent in the last five years and costing the state general fund about $1.5 billion in the current fiscal year ending June 30.
Pension and other retirement costs are still a relatively small part of the current state budget, which is expected to spend $87 billion from the general fund and $34 billion from special funds for health, transportation and other programs.
The state is paying CalPERS $3.5 billion ($1.9 billion general fund), retiree health care $1.5 billion, California State Teachers Retirement System $1.3 billion, Social Security $500 million and Medicare $240 million.
In contrast, cities spend most of their budget on personnel, not on a range of programs like the state, and some cities are already overwhelmed. San Jose spends 20 percent of its general fund on retirement, an argument for a pension reform on its June ballot.
The state could have a much bigger pension problem if CalSTRS was properly funded, not to mention retiree health. Officials estimate that CalSTRS needs an additional $3.25 billion a year to be fully funded in 30 years.
Unlike the California Public Employees Retirement System and most public pensions, CalSTRS lacks the power to set annual contribution rates that must be paid by employers, needing legislation instead.
CalSTRS, about 69 percent funded, has been seeking a rate increase for five years. It’s offered legislators a half dozen scenarios that begin to phase in a rate increase in 2016, only one of which is projected to get CalSTRS to 100 percent funding.
The power of CalPERS to give the governor and the Legislature an annual bill that must be paid can be a friction point. In the dispute over paying off part of the new rate increase over 20 years, board members said they were giving lawmakers an option.
“We voted for the phase-in option to make things less painful for all employers during these difficult economic times,“ said Rob Feckner, the CalPERS board president. “If the Governor feels the state can make the payment in full, then I’ll be happy to have someone come pick up his check today.”
The revised budget proposed by Brown has full funding for the CalPERS rate increase. But as the Democratic-controlled Legislature struggles to close much of the $16 billion deficit, there will be pressure to spend the $149 million on other needs.
Neal Johnson of SEIU Local 1000, the largest state worker union, urged the CalPERS board to give the Legislature the option of phasing in part of the rate increase. He referred to a Brown proposal for a 5 percent pay cut through a work schedule change.
“The 95,000 members we represent, including employees in your own organization as well as the other 120,000 or so state employees, are being asked to take another compensation cut,” Johnson said. “Yet here is another block of money that would be foreclosed on.”
On a 9-to-2 vote the board adopted a plan to pay a third of the rate increase in the new fiscal year and pay off the rest over the following 19 years. Without the phase in, said CalPERS, the $213 million rate increase next year would be $149 million higher.
Brown said in a letter to the CalPERS board yesterday that his Department of Finance estimates that as part of the rate increase is paid off over 20 years, interest payments will add $145.9 million to the total cost.
“In essence, phasing in the change would be the equivalent of the state taking a 20-year loan at 7.5 percent interest — not a prudent decision,” the governor said.
Most of the rate increase is due to a CalPERS board decision in March that lowered the earnings forecast from 7.75 to 7.5 percent a year. The earnings forecast is a key part of the calculation of money expected to be available to pay future pensions.
The action yesterday was the third time in recent years that the CalPERS board has eased employer rate shock by delaying payments. An actuarial “smoothing” policy adopted in 2005 spreads gains and losses over 15 years.
After the investment fund lost 24 percent during the fiscal year that included a stock market crash in 2008, CalPERS phased in a rate increase over three years and treated the huge one-year loss as an isolated event to be paid off over 30 years.
“Your vote today to institute a phase-in period reinforces the same practice of prior years — to not pay our pension bills when due,” Brown told the board.
In closing his brief letter, the governor said: “Given the outlook for long-term investment performance, the system may well choose to lower its return assumption again in the near term. Whether CalPERS implements a phase in or not, it is my intent that the state fully pay for the change in investment return assumption this year.”
Ed's Note: Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at http://calpensions.com/