CalPERS has released (or someone has leaked) a draft set of comments about the governor's 12-point pension plan. Much of what is questioned is not relevant to UC which has its own problems with the plan. (See prior posts on the legislative hearings on the plan and other aspects of it.) However, the CalPERS draft makes it clear that there is much more to be resolved than just okaying the governor's proposed 12 points.
The fact that the proposal has different implications for the various plans that CalPERS administers - something clear from the document - opens the door to the idea that there should be separate policies for different plans. That, in turn, opens the door to UC having already adopted changes suited for its plan and opting out of some statewide solution.
Audio of Dec. 1, 2011 hearing by the legislative Conference Committee on Public Employee Pensions on Gov. Jerry Brown's proposals for state and local public pensions in California.
Click on link above. If you don't want to listen to the full four and a half hours, scroll towards the bottom to hear the governor's testimony and UC's testimony.
Testimony by representatives of the Dept. of Finance, the Legislative Analyst's Office, Gov. Jerry Brown in person, CalPERS, CalSTRS, State Assn. of County Retirement Systems, University of California pension system, Employer groups (League of California Cities, California State Assn. of Counties, California Special Districts), Employee union groups (CTA, California School Employees Assn., Professional Engineers & Scientists, AFSCME, Peace Officers Research Assn.), Public Comments. See earlier post for agenda of this hearing. Gov. Brown was not on the original agenda.
Dept. of Finance: The governor’s 50-50 sharing of contributions idea refers to the normal cost, not the unfunded liability. The 75% notion is not a cap but a kind of goal. There was vague reference to a dollar cap. But much was unclear. It was said that the Dept. of Finance would be hiring a consultant to work out details. There would be a minimum early retirement age but it is not clear what that will be. There was an allusion to a 6-month period to get an actual hybrid plan in shape. There was some discussion of legal issues surrounding “impairment of contracts” but again there was fuzziness. It came up in the context of what the governor wanted to put on the ballot in the way of constitutional changes. The only clear cut response was that it would be necessary for voters to approve changes in the CalPERS board.
Legislative Analyst’s Office (Jason Sisney): Noted there are thousands of pension plans and occupations so putting together a plan will be complicated. There was reference to the total compensation idea (if you cut pensions, other forms of compensation may need to rise so the savings may be offset). The details are not yet in the governor’s plan. Legal doubts raised about changes for current employees, even changes in contributions. Recommended not fiddling with current workers. Thus, changes would be for new hires so there would be little short term savings. Specifically cautioned about high paid workers and need to be competitive, particularly university professors who are recruited in a national market.
Gov. Brown: Philosophized about debt, Greek financial crisis, Europe. At one point, referring to a statement by CalPERS that freezing its plan would cut off incoming contributions from new hires, said that seemed like a Ponzi scheme. That is, if a plan depended on new people coming in, it sounded like a Ponzi scheme. This remark could be a media sound bite. Told the Democrats that there will be taxes on the ballot they would like voters to pass but unless there is a pension reform also on the ballot, the taxes won’t pass. So there needs to be compromise, balance, etc.
Note: The Ponzi scheme quote has already hit the news:
CalPERS: Prefers pure defined benefit to hybrid of defined benefit and defined contribution. The latter is more expensive to administer and will earn less. Said the proposed ban on contribution holidays when plans become overfunded could violate tax rules and lead to loss of tax-exempt status. Tried to respond to governor’s Ponzi comment without using the word Ponzi. Said what was meant was that if a pension plan such as CalPERS is frozen (closed), it no longer gets cash from new hires and it needs cash for paying benefits. Need for cash flow would cause it to invest in assets that throw off a lot of cash and therefore have lower rates of return. The answer was not great since if the plan were really 100% funded, you could in theory freeze it and pay off the obligations. CalPERS problem (and the reason for the governor’s proposal) is largely a matter of unfunded liabilities.
CalSTRS: CalSTRS is recognized as the most problematic state plan. Spokesperson noted that the governor’s plan doesn’t deal with CalSTRS’ unfunded liability. Complained about fuzziness in governor’s plan as to who pays for the defined contribution component. But polite language that the governor’s plan was a good “starting point.”
County Systems: Noted that there were many plans. They are already negotiating two-tier arrangements and other features such as increased contributions similar to the governor’s plan. Doubts raised about hybrid proposal. Total compensation point made (if you cut pensions, you have to raise something else).
University of California: (Nathan Brostrom and Gary Schlimgen) Some history of the UC system. Discussed the two-decade contribution holiday. The other sources of funding are paying but not the state. Regents have been ramping up contributions but must pay for state share out of operating budget funds. Defined benefit model helps retain mid-career faculty but encourages retirement so that there is faculty renewal at older ages. Discussion of Regents’ pension changes of 2010 after PEB report. Many features of the governor’s plan have already been adopted by UC such as two tier. We already have 3-year HAPC to prevent spiking. UC doesn’t offer “airtime” purchases of past service unlike CalPERS. Regents are not plan members so no conflict of interest in serving as plan trustees. UC doesn’t make retroactive improvements. UC is less generous than the state on retiree health care. UC has problems with 50-50 contribution proposal for current employees. Hybrid model is problematic. 75% replacement target is too low for retention/recruitment. Some UC unions have already agreed to two tier. The constraints in the governor’s plan would make collective bargaining more difficult. UC plan has the right balance. (Note: brief break in audio stream towards end.) In Q&A period, pointed to current projection of full funding by 2039. Notes that contributions of current employees are rising as part of that projection.
Local Employer groups: There was again reference to the idea that the tax status of plans could be at risk if an overfunded plan could not have a contribution holiday.
State and Local Employee groups: No unexpected points.
Public comment: Included some external groups pushing pension reforms.
Governor Brown has now held his press conference on public pensions.His proposals clearly covered CalPERS and CalSTRS.Coverage of UC was not mentioned.But the governor did make an off-hand reference to UC’s long pension holiday, i.e., the two-decade period of zero contributions.
The governor released a 12-point plan but one element, a kind of total cap on pension amounts, was not mentioned on the list of the twelve. [A cap is mentioned but not linked to defined contributions.] Yet, in response to a reporter’s question, he said a cap was intended but that it was complicated because of his proposal for a “hybrid” plan for new hires.A hybrid plan means a combination of defined benefit and defined contribution.It was vague but the governor seemed to want the likely payout from the defined contribution part of the system to be factored into the calculation of the cap.Lots of uncertainty remains in this aspect of the proposal.
Let’s assume that UC is not covered officially.Might there nonetheless be elements in the governor’s plan that would potentially push the Regents to follow suit?
The plan for new hires puts 67 as the age of normal retirement.There could be pressure on the Regents – if the plan is adopted – to set the normal retirement age in our lower-tier plan at 67.
More significantly, the governor’s proposal has as one of its points a 50-50 split in contributions to the plan; employee pays half and employer pays half.CalPERS figures suggest that right now only about one third of the contributions are from employees.So 50-50 would be a significant bump up in employee contributions under CalPERS.And the higher contribution applies to ALL employees, not just new hires.The Academic Senate’s position has been that the employee contribution should be no more than 7%.Seven percent, or even the 8% that has figured in some discussions, would not be half of the long-term contributions planned for UC.
Another concept that might raise pressure for emulation by UC is the idea – mentioned by the governor in the news conference – that career retirees should have an income equal to 75% of final salary with one-third coming from each of Social Security, defined benefit, and defined contribution. Exactly how this would be applied and how it would mesh with a cap is unclear. [It may be that the 75% is what is meant by a cap.]
It might be noted that the proposal needs legislative approval.A KPCC radio program (embedded below) after the governor’s conference featured comments by Democratic and Republican leaders in the legislature as well as yours truly.The Republican was surprisingly positive.Elements of the plan will require a vote of the people, including some restructuring of the CalPERS board.The legislature could put a proposition on the ballot, but bipartisan support would be needed to do so.In theory, a proposition could be put on the ballot via the initiative process.But initiative signature gathering requires $1-$2 million for signature gathering firms.The governor doesn’t have that kind of money lying around.
As more info becomes available, we will update you via this blog.
Bits and pieces of Governor Brown’s public pension plan are leaking out ahead of his news conference later today.UC or not UC, that is the question, as Hamlet might say.But the leaked reports don’t provide the answer so we will have to wait a few hours more.The Capitol Alert report from last night and another from KCAL indicate that the reason Brown wants a ballot prop is to change the CalPERS board.Excerpt from Capitol Alert:
Gov. Jerry Brown will propose a higher retirement age and a less generous pension system for newly-hired state workers, sources familiar with Brown's pension plan said this afternoon.The Democratic governor, who is expected to release his pension plan Thursday, will also propose prohibiting the purchase of additional retirement service credit, or "airtime," for existing employees. And he will call for a ballot measure to reshape the governing board of the California Public Employees' Retirement System, requiring changes to Proposition 162, the 1992 initiative that strengthened the retirement board.
The proposal includes some of the same ideas Brown discussed with Republicans in failed budget talks in March. At the time, however, Brown was thought to be considering for new employees a "hybrid option" involving 401(k)-style benefits, not making that hybrid mandatory for new employees.
The hybrid option Brown will propose for new non-public safety employees will be a three-pronged plan that combines a smaller, defined benefit with Social Security and a 401 (k)-style benefit.The plan, as presented privately by the Brown administration to labor leaders this afternoon, also includes increasing the retirement age from age 55 to 67 for most new, non-public safety employees, the sources said…
However, the KCAL story says ALL employees – not just new hires - will pay half of pension contributions.Even if UC is not included, that contribution formula could put pressure on the Regents to follow.Stay tuned.
An article in today’s calpensions.com indicates that both CalPERS and CalSTRS have asked GASB – the Governental Accounting Standards Board – for a delay in its proposed new rules on public pension accounting.The rule would allow public pensions such as UCRP to continue with their projections of earnings on their assets (7.5% for UCRP) but would require a much lower discount rate for unfunded liabilities.The net effect of the proposed change would boost the accounting value of unfunded liability.
Buried at the end of the report is an indication that GASB is moving towards doing the same for retiree health care.Note that at UC, as in most public systems, there essentially is no trust fund with assets for retiree health – the system is pay-as-you-go.Hence, everything is unfunded liability.The impact on reported unfunded liability for retiree health would be much bigger than for pensions.
There is also a final sentence that indicates GASB is looking at “financial projections.”It is not clear to what that phrase refers, but it sure sounds like GASB is looking at whether assumed future earnings rates on assets, e.g., 7.5% for UCRP (and higher at CalPERS and CalSTRS), are too high.
Here are the last few sentences of the article:
Other speakers at the hearing said the new accounting rules should require government employers to report their retiree health debt. The state, for example, owes an estimated $60 billion over the next 30 years for retiree health care.Like most government employers, the state has not set aside money to invest and help pay for retiree health care promised current state workers. The state is paying about $1.5 billion for retiree health care this year, a rapidly growing cost.
“I think I can offer you some hope,” …the GASB chairman, told a speaker. “Dealing with OPEB (other post-employment benefits), primarily retiree health benefits, is something that’s on our agenda. We will be looking at that going forward.”
(He) told another speaker that GASB has “another project that is looking at financial projections.”
UPDATE: Academic Council chair Robert Anderson adds the following note re UCRP via email (in italics below):
The actual GASB proposal for pensions is to project the liabilities year by year; then project the assets forward, including future contributions according to your actuarial plan (which you must be actually following, not just planning to do at some indefinite point in the future) and your assumed rate of return on assets and see if you ever run out of money. If you do, all liabilities beyond that point are discounted back at a lower rate, most likely a corporate bond or a taxable municipal bond rate. If not, all liabilities are discounted back at the assumed rate of return. We have an actuarial plan that restores us to full funding in 30 years, and we are currently following it, so the new GASB rule on pensions should make no difference to us.
It would make sense for (GASB) to apply that to retiree health. But note we are already discounting retiree health at (if I recall correctly) 6%, precisely because we are not prefunding it. Thus, I think there would be little change in our retiree health liability. I presume CalPERS and CalSTRS are also currently required to use the lower rate also. Thus, I am not sure it would make much difference.
In short, the impact on retiree health accounting would depend on whether GASB insisted on a rate below 6%.
Faithful readers of this blog will know that in late July it contained a report of a pension initiative that might have had traction.The reason was that the initiative's author had a track record in getting support for past propositions, including especially the recall of Governor Gray Davis.
That said, the initiative itself was a confusing amalgam of various ideas including creating a pension for private sector employers and workers that would mirror CalPERS.The author appeared to be fishing for some financial angel to provide support, after which some new version of the initiative would have been submitted.
Apparently, no fish was hooked.The Legislative Analyst’s Office – which is required to make a fiscal analysis of initiatives before they go into circulation - effectively says the whole thing is so confusing and raises so many legal problems that it (the LAO) is unable to provide any dollar estimates.With that kind of analysis tacked on to the initiative, it isn’t going anywhere.
Readers of this blog will know that Lanny Ebenstein – who has some affiliation with UC-Santa Barbara’s Econ Dept. – seems to like to file public pension initiatives.It only costs $200 and for that you get the Legislative Analyst's Office (LAO) to give a summary and analysis as well as a title from the Attorney General.What a bargain!
Ebenstein has been leaving UC’s pension system out of his initiatives.His efforts refer to CalPERS and CalSTRS.But the LAO’s write ups do serve a useful purpose in pointing to the legal issues that tinkering with pensions pose.They also raise the usual issues of amateur legislating via initiative.
Here is the latest below. Key points are in bold italics:
LAO Analysis, August 19, 2011
Pursuant to Elections Code Section 9005, we have reviewed the proposed constitutional initiative regarding changes to pension benefit retirement ages for certain public sector pension systems (A.G. File No. 11‑0022).
Background
California Has Both Statewide and Local Public Pension Plans. The two largest entities managing state or local pension systems in California are the California Public Employees’ Retirement System (CalPERS) and the California State Teachers’ Retirement System (CalSTRS). Combined, CalPERS and CalSTRS serve 3.1 million members (about 8 percent of California's population), including around 750,000 members and beneficiaries who currently receive benefit payments. Members of CalPERS include current and past employees of state government and the California State University (CSU), as well as judges and classified public school employees. In addition, hundreds of local governmental entities (including cities, counties, special districts, and county offices of education) choose to contract with CalPERS to provide pension benefits for their employees. Members of CalSTRS include current and past teachers and administrators of California's public school and community college districts. Members of CalPERS and CalSTRS receive differing levels of pension benefits. Many CalPERS members also participate in the federal Social Security program; in general, CalSTRS members do not.
In addition to CalPERS and CalSTRS, about 80 other defined benefit state and local pension systems (such as the University of California [UC] Retirement System, the Los Angeles County Employees' Retirement Association, and the Los Angeles City Employees' Retirement System) serve about one million other Californians, including about 300,000 who currently receive benefit payments.
Defined Benefit Pensions. CalPERS and CalSTRS both provide "defined benefit" pensions to their members. Defined benefit pensions provide a specific monthly benefit after retirement that is generally based on the employee's age at retirement, years of service, salary at or near the end of his or her career, and type of work assignment. Defined benefit pensions are one part of public employees' total compensation, along with salaries, health benefits, and other employment benefits. In general, both public employees and their employers (and, in the case of CalSTRS, the state government as well) contribute to public retirement systems to finance future pension benefits during the employees' working years. Public pension systems invest these contributions to generate returns that, over time, pay for a significant portion of these pension benefits. The pensions of CalSTRS members are established in state law—specifically, in the state's Education Code—and generally are not the subject of local negotiations between districts and teachers' unions. The pensions of CalPERS members also are established in state law—generally, in the state's Government Code—with some aspects of state or local employee pensions delineated in memoranda of understanding (MOUs) or labor contracts with unionized public employees' bargaining units.
Typical Retirement Age. In most cases, public employees with several years of service become eligible for a pension benefit at age 50—even though the employee may be able to earn a greater pension benefit if he or she delays retirement until a later age. In CalPERS and CalSTRS, the average state or local employee retires at about age 60… Due in part to recent changes in benefits for newly hired state employees and some local employees in CalPERS (generally the result of negotiations between governments and public employee unions), average retirement ages will tend to increase somewhat in the coming decades…
Retiree Health Benefits. Many state and local governmental entities in California also provide health benefits to eligible retired employees and/or their spouses, registered domestic partners, dependents, and survivors of eligible retirees. Generally, public employers offering such benefits contribute a specific amount toward a retiree's health premiums each month. The level of these benefits and the eligibility of groups of retirees to receive the benefits vary considerably among governmental entities. In January 2008, a state commission estimated that public entities in California—including those with employees in CalPERS and CalSTRS, as well as other governments—spent about $3.5 billion per year, as of that time, on retiree health benefits. (About 55 percent of those costs were attributable to the state government, CSU, school districts, and community college districts, with the rest attributable to other local governments and UC.) State costs for retiree health benefits have since increased about 50 percent above the level cited in the January 2008 commission report. Accordingly, we estimate that current statewide retiree health benefits expenses total around $5 billion annually for California governments, most of which is attributable to entities with employees in CalPERS and CalSTRS.
Legal Protections for Public Employee Pension Benefits. Article I, Section 10 of the
U.S. Constitution prohibits any state from passing a "law impairing the obligation of contracts." The State Constitution also prohibits the state from passing any law impairing the obligation of contracts. These clauses are known as the "Contract Clauses" of the U.S. and State Constitutions, respectively.
In various instances over the past century, California governments have made attempts to alter or reduce pension benefits for current and past employees and to reduce payments to pension systems. In a number of cases, California courts have held that such actions violated the Contract Clauses of the U.S. and/or State Constitutions. Courts have held that a public employee's pension constitutes an element of their compensation, that a vested contractual rights to pension benefits accrues upon acceptance of employment, and that such a pension right may not be destroyed, once vested, without impairing a contractual obligation of the public employer. In general, California courts have declared that it is difficult to modify or alter public employee pension benefits to reduce governmental costs unless that change is accompanied by comparable new advantages for affected public employees and retirees.
Proposal
This measure provides that "no new memorandum of understanding or other contract or agreement" between any public agency and employees in CalPERS or CalSTRS may allow their retirement with "full retirement benefits" at an age younger than 65, except for sworn public safety officers, who would be able to receive full retirement benefits starting at age 58.
Significant Uncertainty About What This Measure Means. This measure raises several significant legal and implementation issues that make it uncertain as to how its provisions would be implemented. For example, it is unclear to us exactly what "full retirement age" would be construed to mean in practice. There are at least two possible interpretations of this provision. One interpretation would prevent service retirements (retirements not related to disability) by current public employees prior to age 65 (or age 58 for sworn public safety officers). A second interpretation would prevent pension benefits from reaching their maximum level until at least age 65 (or 58 for public safety officers). For example, many public safety officers now work under the 3 percent at 50 pension benefit formula, where they are able to retire at or after age 50 with an annual benefit equal to 3 percent of their "final compensation" multiplied by their number of years of service. (Therefore, an officer who worked for 30 years and retired at 50 could be eligible for a retirement benefit equal to 90 percent of his or her highest annual salary—3 percent of the highest year's pay multiplied by 30.) Under this second interpretation of the measure, a government might be able to comply by reducing this pension benefit to 2.99 percent at 50, while allowing the retiree to work for eight more years and retire with a 3 percent at 58 benefit formula. If this second interpretation were adopted, the measure could result in only de minimis benefit changes for affected CalPERS and CalSTRS members.
The measure would be applied only to "new" MOUs negotiated with employee bargaining units. As described above, however, many pension contracts are not included in MOUs, but rather are derived from statutes, such as those in the Government Code or the Education Code. Moreover, managerial and supervisorial employees generally are not members of bargaining units and thus are not subject to any MOUs at all related to their current period of service. It is unclear to us whether the word "new" in this measure applies only to MOUs or whether it also applies to other pension contracts or agreements, such as those delineated in statute or those applicable to managers and supervisors. Courts could determine that this measure applies only to new MOUs or new pension contracts. For CalSTRS members, for example, this interpretation might mean that this measure has no substantive effect to the extent that current Education Code provisions related to the pension system are never changed in the future. There might, in other words, never be a new contract or agreement for CalSTRS members and some or all CalPERS members.
The measure does not address specifically how it would be applied to disability retirement benefits of the two pension systems. It also does not address specifically how or if it would be applied to current CalPERS and CalSTRS retirees.
Finally, as described above, a long history of case law makes clear that it is difficult to change pension benefits for current and past public employees without offering comparable new advantages. There are no apparent comparable new advantages provided to current and past public employees in CalPERS or CalSTRS who otherwise would be affected by this measure. Accordingly, litigation is likely that would seek to invalidate this measure's provisions with regard to current and past public employees.
Fiscal Effects
This measure could result in major changes to how the state and some local governments compensate their employees. The fiscal effects of these changes would depend on how the measure is interpreted by the courts and the Legislature and implemented by both state and local governmental entities. In particular, if the courts determine that the measure's increase in retirement ages would apply only to public employees hired after the date it is approved by voters, the full fiscal effects of the measure would not emerge until several decades after its passage. Below, we discuss the potential effects of this measure on state and local government costs in the short run (the next few years) and over the long run (perhaps 20 or more years in the future), respectively.
Short-Run Fiscal Effects
Significant Potential Cost Reductions if Applied to Existing and/or Past Employees. If the measure is allowed by the courts to be applied to existing and/or past public employees, it could result in substantial reductions in state and local government pension contributions beginning almost immediately—potentially amounting to billions of dollars per year. The most substantial decreases could result from lowered state and local pension contributions. This is because delaying public employees' retirements by several years—assuming the measure prevents all service retirements until age 65 (or 58, for sworn public safety officers)—could perhaps result in substantially lowered costs for California governments. To the extent this measure delayed the retirement date of current employees, governmental payments for retiree health benefits also could be reduced in the short run. If, on the other hand, this measure is interpreted in a way that requires only de minimis changes of public employees' pension benefits, it might result in minimal short-term savings.
Little Short-Run Savings if Applied Only to Future Public Employees. If courts do not allow this measure to be applied to existing and past public employees at all, it might result in little savings in the short run. While the measure might, in this case, tend to reduce significantly the required employer pension contributions for future public employees, such employees would be a relatively small portion of the workforce for most public agencies in the short run.
Increases in Other Compensation Costs. In order to offset the decreased retirement benefits resulting from this measure, governmental entities with employees enrolled in CalPERS and CalSTRS likely would increase other forms of compensation for some employees in order to remain competitive in the labor market. These other forms of compensation include salaries and contributions to employee retirement funds other than the defined benefit pension plans addressed by this measure. These cost increases would offset any short-term reductions in pension contributions described above to an unknown extent. The overall magnitude of these added costs would be determined by various factors, including labor market conditions and choices made by governmental entities.
Some Local Agencies Might Terminate Their Contracts With CalPERS. To avoid the limitations of this measure, local governments—following negotiations with public employee unions, in some cases—could choose to terminate their pension benefit contracts with CalPERS and instead provide pension benefits through another existing or newly established public retirement system. To the extent that local governments choose this option, the savings described above could be diminished, and in certain cases, taxpayer costs to service CalPERS' unfunded liabilities might increase.
Bottom Line. In the short run, public employer defined benefit pension contributions and retiree health contributions could decline by billions of dollars per year if this measure's limitations are interpreted to apply to current and/or past public employees in CalPERS and CalSTRS and to require significant reductions in benefits. These cost reductions, however, would be offset to an unknown extent by increases in other compensation costs for some public employees. If, on the other hand, this measure’s limitations on retirement ages are applied only to future employees and/or require only small changes in benefits, then there would be little short-term savings for public employers.
Long-Run Fiscal Effects
Significant Potential Cost Reductions in the Long Run. If the measure is interpreted to require significant benefit changes for future public employees, it could result in substantial reductions in state and local government pension contributions in the long run, potentially amounting to billions of dollars per year (in current dollars). As described above, the most substantial decreases could result from lowered state and local pension contributions. Governmental payments for retiree health benefits also could be reduced by billions of dollars per year (in current dollars). If, on other hand, this measure is interpreted in a way that requires only de minimis reductions of public employees' benefits, it could result in minimal savings over the long run.
Increases in Other Compensation Costs. In order to offset the decreased retirement benefits resulting from this measure, governmental entities with employees enrolled in CalPERS and CalSTRS likely would increase other forms of compensation for some employees in order to remain competitive in the labor market, as described above. These cost increases would offset reductions in pension contributions described above to an unknown extent. Some local agencies still might terminate their contracts with CalPERS, as described above.
Bottom Line. In the long run, public employer defined benefit pension contributions and retiree health contributions could decline by billions of dollars per year if this measure's limitations are interpreted to require significant reductions in benefits. These cost reductions, however, would be offset to an unknown extent by increases in other compensation costs for some public employees. If, on the other hand, this measure's limitations on retirement ages are interpreted to require only small changes in benefits, then there might be little savings for public employers.
Fiscal Summary
This measure would have the following major fiscal effects on the state and local governments:
* In the long run, possible reductions in state and local pension and retiree health costs. The magnitude of the savings would depend on a variety of legal, implementation, and behavioral uncertainties and would be offset to an unknown extent by increases in other state and local employee compensation costs.
An initiative was submitted in July to the Attorney General proposing to tax public pensions above $100,000.It applies only to CalPERS and CalSTRS and not UC.As noted in this blog, anyone can submit and initiative (anyone with $200).But as a practical matter, you need $1-$2 million to pay signature gathering firms if you want to get it on the ballot.And, if the measure is controversial, you may need tens of millions for TV ads, etc., thereafter for a campaign.
The submitter of this particular initiative is Lanny Ebenstein whose CV is at http://www.sbcta.org/lannyebenstein.html It seems unlikely he has a handy $1-$2 million, despite being treasurer of the Santa Barbara County Taxpayers Association.He also has some kind of affiliation as a lecturer with UC-Santa Barbara’s econ department so maybe that is why UC is omitted.
However, for your $200 investment, you get a title from the Attorney General and a fiscal analysis from the Legislative Analyst.Below is the Leg Analyst’s review of the proposed initiative.The analysis is significant because use of taxation might seem to be a way to circumvent the legal prohibition on changing pension benefits of retirees.Some future initiative might sweep UC into such an approach but the same legal analysis would apply.
Apart from pointing to some sloppy drafting, the Leg Analyst points to some legal problems in the tax-pensions approach. It italics below, it is noted that are problems in trying to tax pensions of non-residents.California pensioners may become non-residents if they move out of the state.(Of course, taxing their pensions would add to the incentive to move.)The Leg Analyst notes that there is a federal law that prohibits taxation of non-resident pensions.
What about resident pensions?The Leg Analyst is less sure of the legalities.The analysis is in bold italics below.Such a tax might be construed as a de facto reduction of pensions – which would be illegal.The Leg Analyst is also unsure about the implications of taxing some public pensions but not others.
Below is the Leg Analyst’s discussion:
August 19, 2011:Pursuant to Elections Code Section 9005, we have reviewed the proposed constitutional initiative regarding taxation of certain public sector pensions above $100,000 per year (A.G. File No. 11‑0021).
Background
Public Employee Pensions in California
California Has Both Statewide and Local Public Pension Plans. The two largest entities managing state or local pension systems in California are the California Public Employees’ Retirement System (CalPERS) and the California State Teachers’ Retirement System (CalSTRS). Combined, CalPERS and CalSTRS serve 3.1 million members (about 8 percent of California’s population), including around 750,000 members and beneficiaries who currently receive benefit payments. Members of CalPERS include current and past employees of state government and the California State University, as well as judges and classified public school employees. In addition, hundreds of local governmental entities (including some cities, counties, special districts, and county offices of education) choose to contract with CalPERS to provide pension benefits for their employees. Members of CalSTRS include current and past teachers and administrators of California’s public school and community college districts. Members of CalPERS and CalSTRS receive differing levels of pension benefits. Many CalPERS members also participate in the federal Social Security program; in general, CalSTRS members do not.
In addition to CalPERS and CalSTRS, about 80 other defined benefit state and local pension systems (such as the University of California Retirement System, the Los Angeles County Employees’ Retirement Association, and the Los Angeles City Employees’ Retirement System) serve about 1 million other Californians, including about 300,000 who currently receive benefit payments.
Defined Benefit Pensions. CalPERS and CalSTRS both provide “defined benefit” pensions, to their members. Defined benefit pensions provide a specific monthly benefit after retirement that is generally based on the employee’s age at retirement, years of service, salary at or near the end of his or her career, and type of work assignment. In general, both public employees and their employers (and, in the case of CalSTRS, the state government as well) contribute to public retirement systems to finance future pension benefits during the employees’ working years. Public pension systems invest these contributions to generate returns that, over time, pay for a significant portion of these pension benefits.
Pension Benefits Over $100,000 Per Year. A small percentage of CalPERS and CalSTRS retirees and beneficiaries currently receive pension benefits totaling over $100,000 per year. About 2 percent of CalPERS and CalSTRS retirees currently receive such payments. Payments to the retirees receiving over $100,000 of pension benefits per year now equal around 7 percent to 9 percent of total pension payments from the two systems. During their working lives, these retirees generally were among the longest-serving and highest-paid public employees—for example, senior executives and managers of some state and local agencies, school districts, and community colleges. The percentage of CalPERS and CalSTRS retirees that receive over $100,000 in annual pension benefits—as well as the percentage of the systems’ pension payments going to these retirees—likely will grow in the future for several reasons. These reasons include the effects of inflation (which will tend to increase all employees’ pay and pension benefits over time) and the effects of increased pension benefit provisions put in place about one decade ago for many current public employees.
Other Programs Administered by CalPERS and CalSTRS. In addition to their defined benefit pension programs, CalPERS and CalSTRS offer a number of other benefit programs for eligible public employees. CalPERS, for example, administers health plan benefits for the state and many other public agencies and offers tax-deferred retirement savings plans, including the Supplemental Income 457 Plan that employees of participating public agencies and schools can use to save money for retirement. The CalSTRS Pension2 program provides 403(b), 457, and Roth 403(b) savings plan services to school employees.
Taxation of Pension Income
California Residents Are Taxed by the State. In general, recipients of public employee pension benefits pay federal income taxes on those benefits. California residents also generally are subject to state income taxes on most income, including pension income received from California and out-of-state sources.
Federal Law Prevents California From Taxing Pension Income of Non-Residents. California requires nonresidents to pay income taxes on many types of income they received from California sources. Prior to 1996, for example, California taxed non-residents on pension income received from California sources. This became a source of controversy for some individuals who had earned pensions from employers in California and subsequently retired and moved out of state. (At the time, 15 other states had pension tax policies similar to California’s.) In response to requests from such retirees, Congress passed and President Clinton signed Public Law 104‑95, which prohibited, beginning in 1996, any state from imposing income taxes on pension income of a non-resident. In September 1996, Governor Wilson signed Chapter 506, Statutes of 1996 (AB 850, Morrissey), which inserted a similar provision in state law prohibiting California from taxing non-residents for pension income received from California sources. The prohibition of Chapter 506 (codified as Section 17952.5 of the Revenue and Taxation Code) is in effect only so long as the federal prohibition in Public Law 104‑95 remains operative.
Limited or No Case Law on Taxes Focused on Select Groups of Public Sector Retirees. Decades of case law place substantial limits on the ability of California governments—and of voters through the initiative process—to reduce pension benefits of current and past public employees. Because public pension benefits generally represent contracts between governmental entities and the employees or retirees, the U.S. Constitution’s “contract clause” also limits the ability of governments and voters to alter pension benefits for current and past public employees. We are not aware, however, of any substantial case law on (1) whether California may institute taxes on public employee pension benefits specifically or (2) if so, whether pensions of only a few public pension systems (but not those of other pension systems) may be taxed.
Proposal
New State Tax on Certain CalPERS and CalSTRS Pension Income. This measure amends the State Constitution to institute a new state tax on pension benefits paid to an individual by CalPERS and/or CalSTRS that exceed $100,000 per year. Because the language is somewhat ambiguous and relies on undefined terms, it is not clear how this change would be implemented. Our best interpretation, however, is that this tax would be in addition to existing state income taxes and would be levied as follows:
*For individuals receiving CalPERS and/or CalSTRS benefit payments between $100,000 and $149,999 per year: an additional tax equal to 15 percent of the benefit payments over $100,000.
*For individuals receiving CalPERS and/or CalSTRS benefit payments above $150,000 per year: an additional tax equal to $7,500 plus an amount equal to 25 percent of the benefit payments over $150,000.
The measure specifies that the tax would apply to “all” public sector pensions paid by CalPERS and CalSTRS. Pensions paid to current and past public employees, therefore, are not excluded from the proposed new tax. The application of the tax to current and past public employees—and to members of just two pension systems, but not other pension systems—almost certainly would be subject to litigation.
Proposed Tax Not Indexed to Inflation. Unlike many other income taxes in existing law, the taxes established under this measure would not be indexed to inflation. In other words, the $100,000 constitutional threshold to begin paying the proposed tax would never be adjusted upward for inflation.
Uncertainties and Possible Litigation Concerning the Proposal. There are various uncertainties concerning this proposal. As noted above, the measure’s language is unclear as to exactly how the new tax would be implemented.
The measure does not exclude from its proposed tax the CalPERS and CalSTRS income received by residents of other states. It, therefore, would create a new state law that may be interpreted as applying a state income tax to non-residents. This provision almost certainly would be subject to litigation seeking to invalidate such a non-resident tax as prohibited by current federal law.
In addition, the measure specifies that the new tax would not be applied to benefits received from CalPERS and CalSTRS health benefit programs. It does not, however, specify whether the new tax would be applied to payments from the systems’ supplemental savings programs, including, but not limited to, CalPERS’ Supplemental Income 457 Plan and CalSTRS’ Pension2 program. For purposes of the fiscal analysis below, we assume that the measure does not apply a new tax to payments from these supplemental savings plans.
Fiscal Effects
Revenues
Initially, Potentially Higher Annual State Revenues of About $60 Million. As described above, there are various uncertainties concerning implementation of this proposal. Our best guess, however, is that if the proposed tax is able to be applied to all current and past public employees now receiving pension benefits from CalPERS and CalSTRS, it could generate about $60 million of additional annual state revenue in the short run. (Total estimated General Fund revenues are projected to be $88 billion in 2011‑12.)
No Revenues in the Short Run if Tax Cannot Apply to Current Employees and Retirees. We assume that there would be a court challenge to this tax by current and past public employees. If courts ruled that the tax cannot be applied to these employees and retirees, this measure would produce no additional state revenues initially. In this case, a minor amount of state revenue related to future employees’ pensions would begin to be paid to the state about five years after passage, growing to the tens of millions of dollars per year during the first decades after passage.
In Longer Run, Could Grow to Be a Somewhat Larger Percentage of State Revenues. Over time, a growing percentage of CalPERS and CalSTRS members would become subject to the proposed new tax. This is because, over time, due to inflation and other factors, there will be a greater proportion of CalPERS and CalSTRS retirees receiving benefits of over $100,000 per year. Accordingly, the revenue from this new tax likely would grow to be a somewhat larger percentage of state General Fund revenues than initially. Many decades from now, assuming the continuation of current pension benefit provisions, it is likely that most CalPERS and CalSTRS beneficiaries will receive benefits of $100,000 or more as inflation expands their salaries.
Behavioral Changes by Retirees Could Reduce Revenue Gains. We are not aware of any other state that imposes a tax specifically targeted to public pensions, as envisioned by this measure. If courts determined that federal law bars California from taxing non-residents’ pension income, this measure would result in retirees receiving more than $100,000 in annual CalPERS and/or CalSTRS pension benefits having an incentive to leave the state. This incentive would increase as their income increases. Over time, as a greater percentage of CalPERS and CalSTRS retirees receive more than $100,000 in annual pension benefits, more and more retirees would have a financial incentive to leave California. The departure of some of these retirees from the state would diminish the revenue generated by the proposed tax and result in a loss of economic activity in California (and other state and local tax revenue associated with that activity). These factors could offset a substantial portion of the state revenue gain that otherwise would occur under this measure.
In Long Run, Behavioral Changes by Employers Could Reduce Gains. The effect of this measure would be that public employee pensions administered through CalPERS and CalSTRS would be less valuable to retired public employees. Over the long run, this would affect public employers’ compensation decisions in a variety of ways. Public employers—sometimes through negotiations with public employee unions—may make decisions to change the current mix of public employee total compensation, by devoting more compensation to non-pension items and less to pensions. Local agencies also could choose to terminate their existing pension benefit programs with CalPERS and instead ask other pension systems, such as the state’s county retirement systems, to administer pensions for them. The Legislature and/or local agencies also could establish new public pension systems, such as new pension systems for employees of state agencies and school districts that would not be subject to the proposed tax. These potential behavioral changes would tend to diminish or offset the revenue that otherwise would be generated by the proposed tax.
Other Fiscal Effects
Potentially Higher State Spending for Schools and Community Colleges. Proposition 98 was approved by voters in 1988. It establishes a minimum amount of annual state funding for
K-12 schools and community colleges. The funding formulae of Proposition 98 are complex, but, in some cases, when state General Fund revenues increase, the state’s minimum funding guarantee for schools also increases. Because this measure would increase General Fund revenues, it also could result in higher guaranteed state funding of school and community college districts under Proposition 98.
Higher State and Local Employee Compensation Costs. Public employers compete with each other and with private employers to hire qualified employees in the labor market. Because CalPERS and CalSTRS pension benefits would be less valuable to employees under this measure, public employers providing pension benefits through those two systems likely would need to increase other forms of compensation—including salaries, benefits, or contributions to other retirement funding plans—for some of their employees in order to continue to hire and retain a sufficient number of qualified personnel. These increased compensation costs are impossible to predict and would be determined in part through negotiations with public employee unions. In addition, the decisions of some public employers to exit CalPERS could result in some additional unfunded liabilities that may have to be funded in some way by future taxpayers. Combined, all of these higher public employee compensation costs eventually could offset a substantial portion of the revenue gain generated by the proposed new pension tax.
Fiscal Summary
This measure would have the following major fiscal effects on the state and local governments:
*Possible increase in state revenues from a new tax on certain public employee pensions. Over the long run, these revenue gains would be offset by decreases in other state and local revenues and increases in some state and local costs.
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Interesting how a tax is seen as a virtue by someone from a taxpayer group:
As noted in prior posts, it seems clear that accumulated public pension rights of retirees and current workers cannot be voided or reduced.And it is also clear that new hires can be given lesser benefits than current workers or retirees.In the private sector, benefit formulas of current worker going forward can be made less generous.However, the degree to which that is possible in the public sector has been disputed.CalPERS takes the position that only new hires can have reduced benefits and formulas.But San Jose has a measure on the ballot that would change formulas for current workers (and new hires) going forward.It appears that CalPERS may oppose the measure in court even though San Jose is not part of CalPERS.
A legal test of the San Jose measure could indirectly affect UC should some group put an initiative on the state ballot that would override the Regents’ December 2010 changes in the UC pension system.
Will ballot measures test vested pension rights? (excerpts)
By Ed Mendel, calpensions.com, 7/25/11
…San Jose is one of a half dozen large cities in California that have their own retirement systems. But it seems likely that CalPERS would support a legal challenge to a precedent-setting change in vested rights.San Jose Mayor Chuck Reed’s proposal, based on California court rulings, would use the declaration of a fiscal emergency to modify vested rights. (The CalPERS general counsel) said he is unaware of the emergency case law actually being used to modify public pensions.“That being said, I think this is going to be the battleground to watch…”
The office of state Attorney General Kamala Harris, asked by four legislators to review the San Jose emergency proposal, said in a preliminary response last month that the “unilateral impairment” of any contract “causes us deep concern.” …A spokeswoman for Mayor Reed said the city plans to meet with the attorney general’s office to explain its proposal…
Although the CalPERS report refers to its participants, most of the legal discussion is generally applicable to any public pension plan in California.Basically, the report indicates that both earned benefits AND benefit formulas cannot be altered, except in extraordinary circumstances, in ways that disadvantage covered employee.
The report is available below from Issu and/or Scribd:
CalPERS has released (or someone has leaked) a draft set of comments about the governor's 12-point pension plan. Much of what is questioned is not relevant to UC which has its own problems with the plan. (See prior posts on the legislative hearings on the plan and other aspects of it.) However, the CalPERS draft makes it clear that there is much more to be resolved than just okaying the governor's proposed 12 points.
