California Local Government Pension Burdens 2017 Update

CPC’s latest review of pension reports and local government financial documents reveals the following:

• In Fiscal Year 2017-2018, California local governments will pay about $5.3 billion to CalPERS. We project those CalPERS payments will rise to $9.8 billion in Fiscal 2022-2023 – an increase of 84%.
• In the coming fiscal year alone, California governments will pay over $13 billion to all pension plans – CalPERS, county plans and single-employer plans.
• In Fiscal Year 2015-2016, at least 26 California cities and counties devoted over 10% of their total revenue to pension contributions. San Rafael, San Jose and Santa Barbara County shouldered the highest pension burdens – exceeding 13% of revenue.
• Major local governments that have recently surpassed the 10% pension contribution to total revenue threshold include Contra Costa County, Berkeley and Newport Beach.

This review updates findings reported in our 2015 study“California City Pension Burdens” and our 2016 report“Pension burden in 5 California counties now over 10%”. Our findings are based on a review of pension plan actuarial reports and audited financial statements published by cities and counties.

Details of our pension analysis are included in two spreadsheets available online.

The first sheet shows required employer contributions by plan and by entity (city, county and some special districts) for Fiscal Year 2017-2018. In its August 2016 actuarial reports, CalPERS included projections of future contribution rates through Fiscal Year 2022-2023. We used these documents to determine total contribution amounts and then recalculated the totals to reflect the impact of CalPERS’ recent decision to change the rate at which it discounts future liabilities from 7.5% to 7%. Although CalPERS did not update its projections, it provided employers with a circular containing guidance on how to adjust the August 2016 amounts. We used this guidance in our own calculations.

County and single-employer systems use varying discount rate assumptions, and most do not offer multi-year contribution projections, as CalPERS does. Providing multi-year projections is a best practice because it allows city managers and elected officials to engage in more effective long-term financial planning.

The second sheet shows required pension contributions, total revenue and the resulting contribution-to-revenue ratio for the most recently available fiscal year. We have updated about a third of California’s cities and counties to reflect data in their 2015-2016 audited financial reports, and will continue to update this sheet as we process more reports.

We have identified 20 cities and counties reporting pension contribution-to-revenue ratios exceeding 10%:

Many pension researchers prefer to use general fund totals rather than government-wide totals when showing pension burdens. We believe total revenue is more representative and more comparable across governments. Financial statements do not report pension contributions by fund and some of these contributions are borne by other governmental funds and enterprise funds. However, since we also collect general fund expenditures for our fiscal scoring reports, we have included a ratio based on that value as well.

In our previous studies, we profiled the cities (San Rafael, San Jose) and county (Santa Barbara County) that top our current list. In this report, we will take a look at two cities (Berkeley and Newport Beach) and one county (Contra Costa) whose pension contributions recently exceeded 10% of revenue – a threshold at which retirement costs are indisputably a major budget concern, and a likely driver of tax increases or spending cuts.

BERKELEY

Besides being home to a premiere UC campus, the City of Berkeley has a large tax base of residential and commercial properties. As an older suburb of San Francisco with a long-established university the city is essentially “built out,” meaning that it does not have much room for new developments. As a result, Berkeley will have difficulty growing its way out of a heavy pension cost burden – which is expected to continue rising in the coming decade.

CalPERS administers pension benefits for the vast majority of Berkeley’s public employees and retirees, but the city still operates a single employer plan for police officers and firefighters who retired before March 1973. As of June 30, 2016, that plan still had 13 beneficiaries ranging in age up to 102. Although this plan is not a major contributor to city pension costs, it is illustrative of the fact that, in some cases, pension obligations must be paid out over a very long period of time – exceeding four decades for these beneficiaries.

The city publishes a biennial report entitled “Projections of Future Liabilities.” The report includes projected pension contributions through Fiscal Year 2026-2027 as calculated by an independent actuary. Assuming city employees receive 1% annual cost of living increases, pension contributions are expected to rise from $34 million in the 2014-2015 fiscal year to $80 million in 2026-2027 as shown in the Chart 1 (CPC’s analysis of CalPERS data presents an even more pessimistic outlook, with the $80 million threshold being reached in 2022-23, four years earlier). This represents a compounded annual increase of 8.2%.

Looking at the city’s historical financial statements, we see that revenue grew from $255 million in 2003-2004 to $359 million in 2015-2016 – representing annual growth of 3.2%, a rate far slower than that of the city’s future pension contributions. Assuming that revenue growth continues at a 3.2% annual pace, it will reach $504 million in 2026-2027, at which point pension costs would amount to almost 16% of the city’s income.

The report also shows that the city made $5.1 million in Other Postemployment Benefit (OPEB) payments in 2016 and contributed $9.2 million to the city’s Worker’s Compensation self-insurance fund. These additional costs are not projected into the future but are likely to rise since neither the city’s OPEB plans nor its workers comp self-insurance plan is fully funded.

In a 2016 Berkleyside op-ed, city resident Barbara Gilbert noted that the city has been aware of its large pension and debt burden for a long time, but has done little to resolve the problem. She also catalogs the negative impacts of these obligations on community life:

There are far fewer amenities and services available in our town. We have lost swimming pools, the pier, much of the Rose Garden, Iceland, swathes of John Hinkel Park, use of the landmarked Old City Hall, and the West Berkeley Senior Center. Most other public structures are in seriously deteriorated condition and too dangerous to use in an earthquake.

The decline of Berkeley’s infrastructure is a concrete representation of the city’s underlying financial distress.

NEWPORT BEACH

Newport Beach is an affluent, seaside city in Orange County. It is home to Pacific Life Insurance, a Fortune 500 company, and Fletcher Jones Motor Cars Inc. the largest Mercedes-Benz dealership in the world. Other top employers include Hoag Memorial Hospital, PIMCO Advisors, Glidewell Dental, Newport-Mesa Unified School District, and Jazz Semi-Conductor.

Economic fundamentals and the city’s fiscal condition have improved since the financial crisis in 2008. Total revenues grew from their post-recession trough of $203 million in 2010-2011 to $264 million in 2015-2016, representing compound annual growth rate of 5.4%. The unemployment rate decreased to 3.4% in 2016, from 6.1% in 2009, and home values increased almost 5% in 2016.

The city of Newport Beach contributes to CalPERS. Its net pension liability in 2016 was $264 million, and its plans were only about 68% funded. Pension contributions grew from $20 million in 2014-2015 to $31 million in 2015-2016, and are projected to reach $52 million in 2022-2023. One reason for the increase is that the city is accelerating its repayment of the unfunded liability. The new funding schedule is expected to save the city $129 million over 30 years.

One unusual contributor to Newport Beach’s pension burden is its team of lifeguards. While many of the city’s beach lifeguards receive relatively modest compensation, the city employed 10 Lifeguard Captains and Battalion Chiefs in 2015, all of whom received more than $100,000 in wages. Lifeguards hired before 2011 were eligible for the 3%-at-50 pension formula. That year, the city council voted to lower the benefit for newly hired lifeguards to 2%-at-50, but due to the California Rule, already employed lifeguards were unaffected. Lifeguards hired after the implementation of PEPRA are on the 2.7% at 57 pension formula.

In February, the Daily Pilot reported that the city was shelving several projects due to increasing pension costs. The projects in jeopardy include a new library and fire station in Corona del Mar, a new restaurant for the Newport Pier and new junior lifeguard headquarters.

City leaders have taken steps to address the unfunded liability and to lower pension costs over the past several years. They established two new lower benefit tiers; increased employees’ contribution ratios up to 54.8% of the total costs of pensions; and have reduced overall staff.

CONTRA COSTA COUNTY

Contra Costa County’s Board of Supervisors sweetened pension benefits for participants in the county retirement system in 2002 and 2005. The unfunded benefit increase has devastated the finances of special districts in the county and sharply increased pension contributions to the Contra Costa County Employees’ Retirement Association (CCCERA), a cost borne by taxpayers throughout the county.

In October 2002, the County Board of Supervisors passed Resolution 2002/608, which upgraded CCCERA Safety Member’s benefit formula from 2% at 50 to 3% at 50. This meant that police officers and firefighters would now receive 3% times their number of years worked times final salary. The change represented a 50% increase in annual retirement benefits for safety personnel retiring at age 50 (under the original benefit an employee’s benefit, employees retiring at 55 got a 2.62% per year payout rate). Current officers were grandfathered into the new benefit without having to make additional retroactive contributions. Non-safety employees were upgraded from 1.67% at 55 to 2% at 55, also without being required to make retroactive contributions.

In August 2005, supervisors approved Resolution 2005/540 extending the benefit sweetener to the East Contra Costa Fire Protection District. This entity was formed from the merger of three fire protection agencies, only one of which (the East Diablo Fire Protection District) had been included in the original 2002 resolution.

As we reported, the East Contra Costa Fire Protection District has been crushed by pension contributions, which now account for about 30% of district expenditures. As a percentage of payroll, firefighter pension contributions in the district have climbed over 130%. The district has repeatedly sought tax increases and closed fire stations as its pension burden increased.

But the impact of the supervisors’ decision has reverberated beyond this one district, as shown in Chart 2. Public employer contributions to CCCERA, the vast majority of which come from the county, have risen from $58 million in 2002 to $324 million in 2015. These contributions do not include debt service on the County’s Pension Obligation Bonds, which were $37 million in Fiscal Year 2015-2016 and will climb to $47 million in Fiscal Year 2021-2022 when the bonds will be paid off.

Most of this almost six-fold increase cannot be explained by inflation and growth. Chart 3 shows CCCERA contributions as a percentage of covered payroll between 1997 and 2015. Before the benefit enhancement, the rate varied between 9% and 11%. Since 2002, the contribution rate has exploded upward, exceeding 43% in 2015.

Contra Costa County’s experience varies greatly with that of Tulare County, which did not implement the 3%-at-50 benefit formula for safety employees. Tulare County did enhance miscellaneous employee pensions but only on a prospective basis – service before the July 2005 implementation was credited based on the older, less generous formula. As a result, its pension contributions amounted to less than 13% of covered payroll in the year ended June 30. 2016.

CONCLUSION

Despite the strong economy and a buoyant stock market, pension cost burdens faced by California local governments have continued to grow – with many now devoting more than 10% of revenue to retirement contributions. With the Great Recession now eight years behind us, the risk of a new downturn is increasing. The result would be a further spike in pension burdens on local governments. Unless the state enables more aggressive pension reforms than those allowed under the 2013 PEPRA legislation, several California cities and counties will find themselves forced to slash other spending. The less fortunate will simply be unable to pay the bills they receive from CalPERS or their local retirement system.

Marc Joffe is the Director of Policy Research at the California Policy Center. Marc would like to thank Lauren Guo and Karthick Palaniappan for their help with this study.