The Pension Scandals in Sonoma and Marin Counties

Two Case Studies on How Two Counties Purchased Outside Legal Opinions That Delivered Aggressively Self-Serving Interpretations of the Law in Response to Grand Jury Reports That Found That Substantial Pension Benefits had Been Granted Illegally.

Introduction

In California, public pensions are guided by different divisions of the government code. The largest administrator is CalPERS which administers pensions for most cities, some counties and most political districts pursuant to statutes known as The Public Employee’s Retirement Law (PERL).

The County Employee’s Retirement Law (CERL) governs counties, cities and districts that elected to be governed by CERL. These CERL agencies have an administrative agency for their plan that is local and not governed by CalPERS.

This article deals with pension abuses by two separate CERL agencies, the counties of Sonoma and Marin. Each has its own retirement board. In each county, the civil grand jury found serious procedural violations that were preconditions to the adoption of retirement increases:

Grand Jury Report – Marin County

Grand Jury Report – Sonoma County

Each grand jury report documented the grant of pension increases from 2002 through 2008 without providing the board of supervisors (BOS) and citizens mandated actuarial reports estimating the “annual” cost of each enhancement.

Each county obtained outside legal opinions, which committed direct violations of fiduciary duties owed the client (the County) and failed to provide “material matters” to the client as required by the “Rules of Professional Conduct” applicable to California lawyers.

This is the first expository article, specifying the unusual lengths gone to by law firms to aggressively interpret the law to help government agencies, like a county, to protect hundreds of millions of dollars of illegally adopted pension increases.

The Sonoma pension increases were documented by the civil grand jury in 2012. The Marin civil grand Jury report was issued in 2015. On March 9, 2016 a Marin citizen, David Brown, sued the Marin County board of supervisors for its failure to take action to remedy the illegalities found by the grand jury.

On March 23 and March 28 The Marin Independent Journal, the dominant paper in Marin County, printed an article and an editorial, respectively, on the topic.

Pension critic calls for court review of grand jury’s pension probe,” by Nels Johnson, Marin Independent Journal

Marin IJ Editorial: Pension critic doesn’t deserve county’s rebuke,” Editorial, Marin Independent Journal

This analysis specifies how these pension increases almost certainly violated the law, but more importantly, and for the first time, how outside law firms provided questionable legal opinions to protect the illegally granted benefits.

Legal Background

The California Rules for statutory construction clearly show that Government code 7507, herein “7507,” was and is mandatory. Compliance by the Agency legislative body prior to increasing pensions “shall” and “must” occur,  or the increase is void or voidable. Section 7507, as it read from 2000 to 2009 had three distinct mandates.

Mandate one:  The legislature and local legislative bodies (the board of supervisors for counties) shall secure the services of an enrolled actuary to provide a statement of the actuarial impact upon future annual costs before authorizing increases in public retirement plan benefits.

Comments on mandate one:

  • Per Government code section 14 “Shall” is mandatory and “May” is “permissive.” Permissive is another way to say “directory.” “Shall” is used three times in the statute, and without qualification or limitation of any kind.
  • It is the “legislative body” (board of supervisors, city council, district board) that must obtain the actuarial report, not the retirement administrator or board, or even the agency.
  • See also Govt. code 31516: “The board of supervisors shall comply with Govt. code 7507 before… etc.” Govt. Code 31516 was added in 1995 to make certain that CERL retirement administrators required board of supervisors’ compliance before agreeing to accept a new retirement increase.
  • According to Govt. code 14, if the legislature had intended permissive and not mandatory, it would have used “may,” but it clearly did not.

Mandate two: The ‘future annual costs’ shall include, but not be limited to, annual dollar increases or the total dollar increases involved when available.

Comments on mandate two:

  • Govt. code 7507 deals not with “costs,” but increased “annual costs.” If the cost of 2%@50 was $10M a year and it was increased to 3%@50, and the cost of that increase was $5M a year, then the total cost would be $15M a year. The annual cost estimate of the new benefit was $5M.
  • If the new benefit was retroactive for time served, another annual cost for that determination was required.
  • In order to determine the annual costs, the actuary needed the salary and actuarial data for members of each group receiving the increase. For example, if the increase related to both fire and sheriff, salary and actuarial data was required for both groups.
  • The annual cost increases must be stated in “dollar” sums for “any” pension increase.

Mandate three: The future annual costs as determined by the actuary shall be made public at a public meeting at least two weeks prior to the adoption of “any” increases in public retirement plan benefits.

Comments on mandate three:

  • “Any” is clear. Every separate increase for an affected group of members must comply with 7507.
  • The reason for 7507 is to inform the board of supervisors and the public of the budget dollar cost of a new pension benefit; a transparency issue. But also to assure that the constitutional debt limit is not violated by the increase; and, on a common sense level, to see if the new benefit is sustainable.
  • There are statutory requirements for describing agenda items. California Govt. Code Section 11125(b) requires, “The notice of a meeting of a body that is a state body shall include a specific agenda for the meeting, containing a brief description of the items of business to be transacted or discussed in either open or closed session. A brief general description of an item generally need not exceed 20 words.” See also California Govt. Code Section 54954.2(a)(1)(seventy two hour notice). It is insufficient to refer to an agenda or other report to meet the notice requirements. Whether in an open or closed session, a minimum agenda notice regarding pension enhancements would provide as follows: “Item provides annual dollar increase in costs, as determined by an actuary, for retirement increases for X employee categories.

In 2009, the legislature attempted to close loopholes that agency lawyers had devised to evade the “annual cost” revelations required by Govt. code 7507. It amended it to prohibit the use of consent agendas and henceforth required the chief administrative officer of the agency to certify compliance with Govt. code 7507. Like govt. code 41516 of CERL, CalPERS had always required such certification, but not necessarily by the chief administrative officer. The 2009 amendments are persuasive evidence of the mandatory nature of the statute; otherwise, why would the legislature bother to strengthen it?

In both Sonoma and Marin County’s Code of Ordinances there is a code provision mandating that “shall” means mandatory. Like Govt. code 14, the mandated rule of interpretation was not referenced in county obtained legal opinions. That was a travesty. Outside counsel had a duty to reveal that “shall” as used in interpreting the government code was mandatory

The Sonoma County Pension Scandal

In 2012, in response to citizen’s complaints, the Sonoma county grand jury, investigated massive pension increases initiated in 2002 (by 2013, the Stanford Pension Tracker reported that the Sonoma pension deficit has grown to $2.2 billion, including about $500M in pension bonds). At the conclusion of its investigation, the grand jury report concluded: “The CERL requirements for approving the county pension in 2002 do not appear to have been followed.”

Not very dramatic? Right? Well Sonoma County’s response to the grand jury report was spectacular – arguably it was a total confession: “Documents could not be located to demonstrate that the County made the actuarial cost impacts public at a public meeting at least two weeks prior to the adoption of the enhanced retirement benefits.”

But in spite of that admission, the county response, based on a shameless outside legal opinion stated that while the county did not notice and provide the annual cost in dollar terms at a public meeting two weeks prior to approving the retirement enhancements, it had “substantially complied with 7507. In effect, the lawyers said zero compliance equaled substantial compliance.

The outside legal opinion agreed that a 7507 actuarial report had not been made public, and had not even been obtained by the board of supervisors as required by 7507; it referred to two actuarial reports from the files of the Human Resources department (not the board of supervisors as required by 7507) and made the incredible conclusion that those internal records, never shown to the board of supervisors or the public, equaled “substantial compliance” with 7507.

The history of the Sonoma County 2002 pension increases is critically important to prove the concerted power of county staff, unions and board of supervisors to illegally enrich their group by non-adversarial, precise, agreed upon tactics. This is the usual method of so-called collective bargaining in California government.

At the turn of the century there was an open dispute about what determined “pensionable compensation” in CERL agencies like Sonoma County. The California Supreme court cleared up the issue in “The Ventura Decision.” But the Sonoma county lawyers saw a billion dollar opportunity. A “Ventura Decision” law suit was pending in Sonoma County, but of course all of the issues had been decided by the supreme court in the Ventura case.

Eventually, all of the members of the county pension plan (beneficiaries) were made parties to the suit. Plaintiffs and defendants made a detailed written lawsuit settlement that substantially increased pensions, both going forward and retroactively, for every plaintiff and defendant group, including the board of supervisors.

Here is a link to the Ventura Settlement agreement enacted by the Sonoma County Retirement Association’s Board of Directors who do not have the authority under the law to increase pension formulas. That can only be accomplished with a Board of Supervisors resolution adopting the new formulas. Item 8 in the agreement increased benefit formulas for Safety employees and Item 9 increased benefit formulas for General employees.

The board of supervisors did not obtain an actuarial report as required by 7507; therefore it was impossible to notice a public meeting to make the annual cost known to the public prior to adopting the increases, also as mandated by 7507. There is absolutely no case law suggesting even by hint, that 7507 could possibly be “permissive” (directory). As I will show, there was and is substantial case law confirming that 7507 was/is mandatory.

I have been actively observing governmental pension and compensation history since about 2008. The approach used to design the Sonoma county pension scandal is a precise representation of union bargaining in California governmental agencies. Everyone at the table benefited from unanimous compensation increases. In response to the grand jury finding, the successors of the same beneficiary groups that designed the scheme, stuck to the scheme by ignoring the facts and the law, and engaged law firms to provide them legal interpretations that defended their actions, as exemplified in the responses to grand jury findings of substantive compliance with 7507.

Hopefully, this analysis will spark an interest in pension reform in Sonoma county.

The Marin County Pension Scandal

In April 2015, the County of Marin civil grand jury issued a comprehensive report entitled: “Pension Enhancements: A Case of Government Code Violations and A Lack of Transparency.” The report was a precise factual demonstration of 23 violations of the requirements of 7507 by the county.

In particular, the grand jury report focused on the County’s failure to obtain actuarial reports and the failure to notice public meetings to reveal the annual costs of the increases to the public, as required by section 7507. In addition, I note that the facts indicate that not only the public, but the “legislative body” (board of supervisors) was not provided a 7507 estimate of the future costs of  “any” increase as required by 7507 and government code 31516.

The grand jury report indicated that as of its April 2015 publication the most recently available county unfunded pension deficit was $536.8M. The County also had over $100M in pension obligation bonds outstanding.

Citizens for Sustainable Pension Plans (CSPP), a Marin pension reform group, hired attorney Margaret Thum to provide a legal brief outlining the law related to the facts set forth in the grand jury report. The county hired the law firm of Meyers Nave to advise it about its required response to the grand jury report. The Thum opinion was totally honest and accurate, but the board of supervisors refused to read it or to even make it part of the public record. It is debatable, at best, to assert that the Meyers Nave opinion argued for the interests of the county of Marin, its client. An objective reading of the Meyers Nave opinion might instead find that it misrepresented the law and facts and omitted critical statutes and cases.

A review of the Meyers Nave legal opinion makes it clear that it agreed the county had failed to obtain an actuary report setting forth the “annual costs” of  “any” retirement increase discussed in the grand jury report. It admits that no public meeting was noticed or held, where the “dollar amount” of the annual cost for each new benefit was reported to the public, or even to the board of supervisors as required by 7507 and 31516.

But despite these acknowledgements, Meyers Nave argued that the County had “substantially complied” with the statutory requirement. Its contention on the facts was that in 1999 and 2001, the “Mercer” actuarial firm provided the county Human Resources Department (not the board of supervisors or the public as required per 7507) with actuary reports about the proposed increases. I note that the latter of the reports stated that it relied on calendar year 2000 data in making its estimates.

Here is why that is important. In the fiscal year 2001-2002 there was a tech stock market crash. Both PERL and CERL pension plans lost approximately 7% of the value of their assets and failed to earn their 8% assumed rate of return at the time. Generally CERL plans thereby fell short of their target return by 14%. So the use of 2000 data would have substantially understated the cost of any new benefit after 2001-2002. In addition the rate of retirement, salary increases etc. after 2000 would have increased the annual cost of the new benefit. That is why it was necessary to obtain a current actuary report – one that used the most recent data from the past year to provide a report that that produced an accurate “annual cost” dollar amount.

I am not an actuary, but I have reviewed dozens of 7507 actuarial reports. Every one of them provided that after June 30 of a designated year (e.g.2000) the report was no longer valid because the data from the last year was now finalized and available for a current and accurate analysis. That is what actuarial standards required.

Keep in mind that as the grand jury, as did the Sonoma grand jury, found there were no bona fide 7507 actuary reports; only the Mercer reports (which neither the public nor the board of supervisors saw). The board of supervisors did not obtain a valid actuary report setting forth the annual costs in dollar sums for “any” pension increase, and that information was not revealed to the public at a public meeting, so there was NO compliance with 7507. Yet, a law firm conjectured that there was “substantial compliance” when, arguably, there was NO compliance. Did that firm breach its duty to the client, if the client, ultimately, was the citizens of Marin County? It appears that the firm advocated for the staff, unions, and the board of supervisors, the continuing beneficiaries of the illegally adopted pensions, and contrary to the interests of the client.

Follow the Attorneys:

In pension enhancement cases, the process  to comply with 7507 is as follows:

  • The unions ostensibly negotiate with the county for a pension enhancement,
  • they agree on the increased pension and execute a contract (MOU) setting forth the terms,
  • the board of supervisors adopts the MOU,
  • the county informs the Retirement board of the new benefit,
  • the board of supervisors obtains a Govt. code 7507 report determining the annual dollar cost for each new benefit.
  • the county notices a public meeting by an agenda notice that describes that at the meeting the county will reveal the annual dollar cost of each (any, per 7507) pension increase set forth in the MOU’s,
  • that meeting is held at least two weeks prior to adoption of the new benefits,
  • if approved, the county enters into a new or amended agreement with the Retirement Board for the administration of the new pension enhancements.

In the case of “Voters for Responsible Retirement v. board of supervisors, (1994) 8 Cal. 4Th 765, the California supreme court clarified the moment at which the MOU’s that increased pensions were valid contracts. It said: “..section 7507 provides that the local legislative body, before adopting increases in public retirement benefits for its employees, must obtain actuarial evaluations of future annual costs of the plan, and make that cost information public “at a public meeting at least two weeks prior to the adoption of any increases in public retirement plan benefits.”

In the 1994 ruling, the court made it clear that the county, by its board of supervisors could refuse to pursue the new benefit if the 7507 report indicated that the cost was not acceptable to the board of supervisors. Additionally, the court noted that if the board of supervisors refused to adopt the benefit after receiving the 7507 report, the MOU’s were not final because the condition subsequent to validity had not occurred and it was back to the negotiating table to start anew.

The Alleged Violations of Fiduciary Duty in Both Sonoma and Marin Counties

  • The most outrageous fiduciary breach by lawyers for the county in the Sonoma and Marin pension scandals was the evident by-pass of Govt. code 7507. On a risk reward basis it was apparently decided that it was better to risk non-compliance when compared to the knowledge that a 7507 actuary report would reveal. That is, the enhanced plan would reveal a violation of the constitutional debt limit, which would then require a 2/3 vote of the people;
  • The failure of a single county lawyer to advise that in the Voters case the California supreme court had ruled that MOUs between unions and the county granting pension increases were dependent upon board of supervisors compliance with 7507; otherwise there was no binding contract;
  • The assertion that no case law has found that 7507 was mandatory. Clearly the Voters case proves that it was mandatory.
  • In addition to the omission of “Voters” case, note how outside counsel explained Howard Jarvis Taxpayers’ v. Bd. of Supervisors (1996) 41 Cal. App.4th The law provided that a board of supervisors could withhold the power of its retirement board to define retirement eligible compensation that included “flexible payments.” If a board had not denied a Retirement Board the power to set flexible payments as a part of final compensation, then the Retirement Board had that power. That is what it did in this case. This was permitted because 7507 only applies to the legislature and legislative bodies and not retirement boards.
  • The court held that because the consent of the board of supervisors was unnecessary for the retirement board to set flexible payments, there was not a violation of 7507. If board of supervisors’ approval had been required there would have been a violation of 7507 invalidating the increases that resulted. If 7507 was not mandatory, there was no issue for the court to decide. At page 15 of its legal opinion Meyers Nave cites cases unrelated to the Govt. code where the court in those cases discussed whether “shall” as used in the contracts was mandatory. It omitted reference to Govt. Code 14 of the Govt. Code Rules of interpretation that states clearly that “shall” is mandatory.
  • Here is what Meyers Nave told the board of supervisors and citizens about the Howard Jarvis case to imply that it did not support that 7507 was mandatory. It repeated the facts, as I have above, and then said: ”Under the facts of the case, section 7507 was found inapplicable.” What Meyers Nave failed to tell the board of supervisors was that 7507 was inapplicable because it did not involve the board of supervisors, but that if it had, compliance with 7507 was mandatory. Here, let that court explain it: “However, the record demonstrates the change in the retirement system of which plaintiffs complain was not an ‘increase in public retirement plan benefits’ which the board of supervisors may authorize, AND WHICH WOULD SUBJECT IT TO THE REQUIREMENTS OF SECTION 7507 (emphasis mine), but rather a change in LACERA’S method of calculating “compensation earnable”……” What can I say? The omission of the court’s clear statement that 7507 was mandatory for board of supervisors adopted pension increases had the effect of misleading the public as to whether 7507 was mandatory. That gimmick benefited not the client, but the beneficiaries of the illegal pension: the staff, the unions, the board of supervisors. It financially hung the client and citizens out to dry.
  • The legal opinion also does another magical application to the case of California Statewide Law Enforcement v. Department of Personnel Administration 192 Cal. App. 4Th1 (2011). Again, the issue is whether 7507 was mandatory. In the case, CSLEA, a govt. union that had been classified as “miscellaneous” was granted “safety status” with higher pensions by the 1992 legislature. After it became law, the union claimed it was entitled to the new “safety” status retroactively for time served as miscellaneous employees. Arbitration ensued under the “Dills Act” and a judge then ruled that CSLEA was entitled to retroactive safety benefits. DPA appealed. Keep in mind that 7507 applies to the state legislature. It did obtain a 7507 actuary of “annual costs” of the new benefit going forward, but it did not request and did not receive a 7507 report setting forth the “annual costs” of the new benefit for prior service of the employees. Again, let the court say it: “the materials provided to the legislature regarding the bill did not state that the reclassification would be applied retroactively and did not contain a fiscal analysis of the cost of the retroactive application of safety member status for all employees in the unit….” Earlier in regards to what constituted fiscal analysis, the court said: This requirement necessarily includes the obligation to present the Legislature with a fiscal analysis of the cost of the agreement. (See section 7507, sub.(b) (1) “ before authorizing changes in public retirement benefits.” The legislature shall have a “statement of [their] actuarial impact upon future annual costs,…” In its opinion letter, Meyers Nave said: “The case does not address whether section 7507 is mandatory or directory.” In those precise words, no; but it clearly showed that 7507 was the financial information necessary for such action to be valid. The court held that the prospective benefit was legal because of 7507 compliance. Again, the Meyers Nave opinion misrepresented the court’s opinion to support its claim that 7507 was not mandatory.
  • At page 16 of its opinion, Meyers Nave has the nerve to have a whole section entitled: “2. The Legislature Did Not Make The Sections at Issue Mandatory.” It then listed the four Govt. code sections referenced in the grand jury report. This must have been an oversight by Meyers Nave. Govt. code section 14 specifically provides that as used in the government codes: “Shall” is “Mandatory” and “May” is “permissive.” What makes this claim so galling is that Meyers Nave and all of the appellate courts are aware of the Voters case, the Howard Jarvis case, the CSLEA case and Govt. code section 14 and in each and every case assumed without discussion that 7507 was mandatory. There has never been an appellate case where a California attorney had the guts to argue that 7507 was directory. Why? Because such a baseless claim would properly make the firm liable for sanctions. But out of house lawyers hired by cities and counties routinely advise that 7507 is directive and therefore the staff, unions and board of supervisors can continue receiving pensions that were illegally adopted. Then, when a pension reform group like CSPP obtains an honest opinion, the board of supervisors will not even make it part of the record.

The Future for Reform in Sonoma and Marin Counties

I have not spent as much effort discussing the Sonoma Scandal. That is because the staff, unions and board of supervisors in Sonoma have very little opposition to their enjoyment of the Ventura pension gambit. The county has such great pension and other benefit debt, that another serious market downturn will likely force it into a chapter 9 bankruptcy. Then it may renegotiate its debts, reject its defined benefit plans and initiate a plan in bankruptcy that provides reasonable but affordable pensions. But there will be more suffering before that occurs.

In Marin, the situation is quite different. While it does have a pension and other benefit structure that is unsustainable, it has a vibrant pension group, the CSPP and a will to reform. But more importantly it has a gold plated grand jury report that clearly established that massive pensions were granted illegally.

Marin has a local press that has not sold out to the governing agency and is demanding that the grand jury report be given respect. A citizen has filed a civil complaint in Superior court in an attempt to keep the findings of the grand jury from being kicked down the road. He is in pro per and from that point of view is in over his head. But he does have a case. If a couple of local law firms would band together and represent him in the case I believe they would be richly rewarded under the private attorney general theory which provides for attorney fees for any success in the case.

Meanwhile citizens of Marin should hold accountable the present board of supervisors for its part in what I have argued was a bad faith effort to cheat Marin citizens out of the benefits of the grand jury report. They should be replaced by a new board of supervisors which should then terminate the present county administrator and county counsel and replace them with experts who will be contractually bound to truthfulness, transparency and undivided loyalty to the citizens of Marin by carrying out substantial reforms, such as a freeze on salaries until deficits are eliminated.

Conclusion

In my view, there is a serious flaw in the process by which a county hires outside counsel. The law is clear that the client is the county, not the county agent who interacts with the outside law firm. That means that the law firm has an exclusive duty to diligently apply the laws of the state and the county codes when advising the board of supervisors about legal matters. There is a fiduciary duty to do so. The California Rules of Professional Conduct require counsel to advise the client of all facts and law material to the legal matter. Instead, the out-of-house opinions invariably support the staff, unions and board of supervisors, all of whom, in this case, are beneficiaries of the illegally acquired pension enhancements.

Collective bargaining by public employees for salaries and benefits has ruined a once great way of life in California. For those who take up political space by fooling around with pension reform initiatives, it is time to face the substantive issue: A state wide initiative is necessary to remove so-called bargaining for compensation and benefits from the government arena. As the Sonoma, Marin and Pacific Grove examples show, there is no action that is off the table by the lawyers for the government to pursue, protect and enlarge illegally adopted pensions and other benefits. In the meantime the one clear tool of pension reformers is salary control, but it is rarely used.

The idea that some White Knight is going to come along and solve the pension scandal is preposterous, yet that seems to be what everyone is waiting on.

It is so disappointing that government lawyers and law firms that practice in the government area have been willing to aggressively defend what evidence strongly suggests were substantial violations of due process. It will be telling to watch the county staff and board of supervisors unleash their attorneys on Mr. Brown in his meritorious law suit. With hundreds of millions at stake, the ruling group will throw everything at him. Will the citizens come to his aid? The grand jury clearly documented the illegality of the pension increases.

 *   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

Other work by John Moore:

The Mechanics of Pension Reform – State Actions
– Part 1, December 22, 2015

The Mechanics of Pension Reform – Local Actions
– Part 2, January 11, 2016

During 2015 author John Moore published the “final” chapter of “The Fall of Pacific Grove” in an four part series published between October 20th and November 9th:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

During 2014 author John Moore published the first chapter of “The Fall of Pacific Grove” in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand

Local Citizen Takes Marin County to Court Over Pensions

Marin County is not the only county in California where pension benefits were increased, retroactively, back when the increased cost was seemed to be easily covered by double-digit returns on pension fund investments. But Marin County is the only county, at least right now, where a private citizen is taking the county Board of Supervisors to court over alleged violations of due process. As reported in the Marin Independent Journal in their editorial of March 28, 2016:

Mill Valley resident David Brown is taking the county to court, asking a judge to decide whether the county Board of Supervisors and other public agencies broke state law in approving workers’ pension enhancements with little or no public involvement in their decision-making process.

The 2014-15 Marin County Civil Grand Jury raised that question in its report, but the most definitive legal finding it made was that the public agencies “appear to have” side-stepped state rules.

The grand jury is not a court of law. On this issue, it raised a valid question, one that deserves a clear ruling.

That’s what Brown is seeking. As a taxpayer, he’s entitled to that and, unfortunately, he has to file a lawsuit to get it. Unfortunately, he got a dose of blowback from the county.

Here is the actual writ that was filed on March 9th, 2016 by David Brown in the CA Superior Court for the County of Marin. Links to all of the exhibits are included at the conclusion of the petition.

SUPERIOR COURT OF THE STATE OF CALIFORNIA

FOR THE COUNTY OF MARIN

NAME OF PLAINTIFF(S)

DAVID C BROWN

vs

MARIN COUNTY BOARD OF SUPERVISORS AS A GROUP

INDIVIDUALLY:  STEVEN KINSEY, JUDY ARNOLD, KATIE RICE, DAMON CONNOLLY, MATTHEW HYMEL, STEVEN WOODSIDE.

DATED:  March 7, 2016

Table of Contents

  1. Why this writ?
  2. Why this court?
  3. List of interested parties.
  4. Body of petition.
  5. List of Exhibits. 
  1. Standing

My name is David C. Brown. I am not an attorney. I live in the County of Marin at 25 Country Club Drive, Mill Valley, California, 94941. I have lived at this address since 2001. During that time I have paid taxes that have been used for, among other things, public employee salaries, pensions and benefits.

As a result of the improperly/unlawfully granted benefit enhancements I have suffered the following harms: 1) Payment of taxes in excess of what I otherwise would have paid and 2) A reduction in the quality of services from the County as money that should have been used for public services was used instead to pay the unlawfully granted retirement benefits.

Further, where “the question is one of public right and the object of the mandamus is to procure the enforcement of a public duty…” the petitioner “need not show that he has any legal or special interest in the result, since it is sufficient that he is interested as a citizen in having the laws executed and the duty in question enforced …” Green v. Obledo, 29 Cal.3d 126, 144 (1981).

  1. Why This Writ?

I am petitioning for this writ under Section 1085 because there is no plain, speedy and adequate remedy at law. Whether it is categorized as an error of law, a denial of a fair trial, a decision not supported by the evidence, findings not supported by evidence or all of the above, the simple fact is that is that members of the Marin County Board of Supervisors 1) should have recused themselves, 2) were negligent in not considering all the evidence and 3) received biased legal analysis and advice prior to making a decision in the matter.

  1. Why This Court?

On first reading this petition may look like a conflict of interest case better suited to the Fair Political Practices Commission (FPPC) than to Superior Court. That is, in fact, where I began. Last year I submitted a short complaint to the FPPC about the failure to recuse by three members of the Marin County Board of Supervisors (BOS). That complaint was closed. It was lacking in facts and documentation. Since then I have become better informed about the law regarding conflicts and more aware of the broad ramifications of the actions taken (or not taken) by the BOS. The issues involved extend far beyond the failure to recuse and deep into the financial wellbeing of the County. The actions I am requesting from the Court are much broader than simply declaring that members of the BOS were subject to conflict. They are beyond the scope of the FPPC. 

  1. List of interested Parties

Board of Supervisors
Marin County
3501 Civic Center Drive, Suite 329
San Rafael, CA 94903
415-473-7331

Individually:

Marin County Supervisor Steven Kinsey
Marin County Supervisor Judy Arnold
Marin County Supervisor Katie Rice
Marin County Supervisor Kate Sears
Marin County Supervisor Damon Connolly
Steven Woodside, Marin County Counsel
Matthew Hymel, Marin County Administrative Officer

All at:

3501 Civic Center Drive
San Rafael, CA 94903
415-473-7331 

  1. Body of Petition

Background and Facts

In April 2015 the Marin County Civil Grand Jury issued a report (Exhibit 1) in which it found 23 violations of section 7507 (Exhibit 2) of the California Government Code by the County of Marin. (The Grand Jury took care to use the version of 7507 in effect at the time (Exhibit 2A). In its report the Grand Jury issued Findings and Recommendations as required by law.

On June 30, 2015 the Marin County Board of Supervisors addressed the Grand Jury Report. Item number seven on the agenda was:

Request from the County Administrator for Board concurrence and adoption of response to 2014-2015 Grand Jury Report: “Pension Enhancements:  A Case of Government Code Violations and A Lack of Transparency” (April 9, 2015).

Recommended actions: Concur in and thereby adopt response and direct the President to submit the response to the Presiding Judge.

This item was also accompanied by:

  1. Staff Report, (Exhibit 3)
  2. Response, (Exhibit 4)
  3. Attachment (a nineteen-page memorandum from outside counsel, Meyers/Nave.), (Exhibit 5)
  4. Grand Jury Report. (Ex. 1)

Before discussion of item seven began I approached the podium to address the BOS. I read CA Government Code section 87100 which says,

“No public official at any level of state or local government shall make, participate in making or in any way attempt to use his official position to influence a governmental decision in which he knows or has reason to know he has a financial interest.”

Also relevant is CA Government Code Section 1090(a):

“Members of the Legislature, state, county, district, judicial district, and city officers or employees shall not be financially interested in any contract made by them in their official capacity, or by any body or board of which they are members. Nor shall state, county, district, judicial district, and city officers or employees be purchasers at any sale or vendors at any purchase made by them in their official capacity.”

I did not read aloud the above section but I reminded the Board that it is the duty of the elected official, not the public, to determine if the official has a conflict.

I stated that Supervisor Kinsey had been a member of the BOS during the period when the benefit enhancements cited by the Grand Jury had occurred. He voted in favor of all of the enhancements.

I further stated that Supervisors Kinsey, Arnold and Rice and County Administrator Matthew Hymel all had a financial interest in the outcome of the Board’s deliberations regarding the Grand Jury report and that they should recuse themselves. I said it was possible that Supervisors Sears and Connolly had conflicts as well, although I was uncertain. I have since learned that Supervisor Connolly had a similar conflict.

Immediately after I spoke, County Counsel Steven Woodside, who had previously recused himself from matters related to the Grand Jury report, addressed the BOS and said,

“There is not a legal conflict that would preclude you, any of you, from participating in a discussion and decision on pension matters, compensation matters etc. even though you may have a personal stake in the matter in-so-far as you may be eligible for a pension, for example. The case that so decided this is a California Supreme Court case. The leading name is Lexin, L-e-x-i-n, makes it very clear that you have a duty to make these decisions. You have a duty to respond to the Grand Jury report. You have a duty to make decisions on compensation, etc. …”

The case to which Mr. Woodside was referring is CATHY LEXIN et al., Petitioners, v. THE SUPERIOR COURT OF SAN DIEGO COUNTY, Respondent; THE PEOPLE, Real Party in Interest. 47 Cal.4th 1050 (2010) 103 Cal.Rptr.3d 767 222 P.3d 214.

(My and Mr. Woodside’s comments can be found beginning at 21:28 of the video of the June 30, 2015 BOS meeting. The link to it can be found at Exhibit 6.)

I had never heard of the Lexin case so I took Mr. Woodside at his word and sat down. None of the supervisors recused themselves nor did Mr. Hymel. The meeting continued.

Legal Issues Presented

Summary of Legal Issues:

  1. Should supervisors Rice, Kinsey, Arnold and Connolly have recused themselves due to conflict of interest?
  2. Should County Administrator Hymel have recused himself due to conflict of interest?
  3. In light of his prior recusal, should County Counsel Woodside have participated in the Board of Supervisors’ discussion, even to the extent of offering an opinion on whether the members of the BOS and Mr. Hymel should have recused themselves?
  4. The memorandum written for the County by Meyers-Nave was to be an “objective legal review” of the Grand Jury report (statement by County Administrator Matthew Hymel at time 25:40 of the June 30 BOS meeting). If it wasn’t, should The County be directed to make available to plaintiff the same amount of funds used for payment to Meyers-Nave to retain an attorney with expertise in the area of statutory processes and procedures involving public sector pensions.
  5. Was the Board of Supervisors negligent in dismissing, and then proceeding to its conclusions, without reading the memorandum from M. Thum, Esq.?

Analysis of Legal Issues

Legal Issue 1: Should supervisors Rice, Kinsey, Arnold and Connolly have recused themselves due to conflict of interest?

As stated above, the controlling code sections in this matter are:

1) CA Government Code Section 87100 and 2) CA Government Code Section 1090.

In responding to the 2015 Grand Jury report, the four supervisors were asked to opine on the Grand Jury’s conclusion that benefit enhancements they themselves are to receive were originally granted unlawfully. The financial interest at stake for each of the four is not trivial. It is in the low hundreds of thousands of dollars.

The membership of the Marin County Employees’ Retirement Association (MCERA) does not consist of a uniform group, all of which does or will receive the same benefits as the supervisors. The membership of MCERA is divided into two mutually exclusive groups. One group (Group A) includes retirees and current employees who do or will benefit from any of the pension enhancements under discussion. Because of the pension tiers in which they participate Supervisors Kinsey, Rice and Arnold are all members of this group. Supervisor Connolly participates in MCERA through a pension tier granted by the City of San Rafael. That tier is also among those cited as questionable by the Grand Jury. An adverse finding in Marin County would have a precedential affect on the grants of pensions in San Rafael, likely affecting Supervisor Connolly’ pension.

The other group (Group Z) includes retirees and current employees who do not and will not benefit from any of the increases under discussion. This group comprises at least a substantial minority of the plan’s members.

Because the pool of funds available for retirement benefits is not infinite, the interests of the two groups are different. A decision to continue to pay unlawfully granted benefits provides advantages to members of Group A while simultaneously causing harm to members of Group Z. Paying out unlawfully granted benefits weakens the financial strength of the retirement plan. This has broad implications.

In his remarks at the BOS meeting County Counsel Woodside stated to the BOS, “You have a duty to make decisions on compensation, etc. …” He then cited the Lexin case, which revolves around Section 1090.

Section 1090 includes section 1091.5(a)(9), the so-called “compensation” exception. It states:

(a) An officer or employee shall not be deemed to be interested in a contract if his or her interest is any of the following:

(9) That of a person receiving salary, per diem, or reimbursement for expenses from a government entity, unless the contract directly involves the department of the government entity that employs the officer or employee, provided that the interest is disclosed to the body or board at the time of consideration of the contract, and provided further that the interest is noted in its official record. 

The decision facing the BOS in responding to the Grand Jury Report was 1) not a decision regarding the making of a contract and 2) not one of compensation. The grant of benefits (i.e., the contract regarding compensation) had been made long ago. Rather, the current BOS was asked to decide whether the BOS in place at the time of the making of the original had followed the required statutes.

The current BOS was responding to a Grand Jury report. The Grand Jury operates pursuant to the penal code. The BOS was asked to make a judicial or quasi-judicial decision about the legality of a previous grant of compensation. The current matter was not itself a compensation matter. County Counsel Woodside’s comment “…having a duty to make decisions about compensation…” was not relevant. The “compensation” exception under Section 1091.5(a)(9) does not apply.

In addition, the supervisors’ interest was not disclosed to the “body or board” at the time of consideration of the “contract” as required by 1091.5(a)(9). Nor was the interest noted in its official record.[1] Nor did the four supervisors disqualify themselves. Nor did the four supervisors refrain from influencing the other members of the Board.

Legal Issue 1 continued:

Had this been a compensation decision, as Mr. Woodside’s statement implied, he would have been correct that the controlling case would be Lexin v. Superior Court (47 Cal.4th 1050 (2010)103 Cal.Rptr.3d 767 222 P.3d 214). Even so, the Lexin case would not have provided an exemption for the officials involved.

Lexin hinges on the so-called “Public Services” exception, not the “compensation” exemption, to Section 1090 as stated in Section 1091.5(a)(3):

(a) An officer or employee shall not be deemed to be interested in a contract if his or her interest is any of the following: (3) That of a recipient of public services generally provided by the public body or board of which he or she is a member, on the same terms and conditions as if he or she were not a member of the body or board.

In its opinion the Supreme Court said,

“… contracts that actually involve unique personal financial interests not shared by the board’s constituency remain prohibited.” (Lexin v. Superior court) (Italics mine.)

In concluding its discussion of the “Public Services” Exception the court in Lexin went on to say:

“Having thus considered the text of the statute, judicial and Attorney General interpretations, and the surrounding statutory scheme, we conclude section 1091.5(a)(3) should be read as establishing the following rule: If the financial interest arises in the context of the affected official’s or employee’s role as a constituent of his or her public agency and recipient of its services, there is no conflict so long as the services are broadly available to all others similarly situated, rather than narrowly tailored to specially favor any official or group of officials, and are provided on substantially the same terms as for any other constituent.” (Italics and bold type mine.) (Lexin et al. page 1092)

In this case, “the service” is the enhanced pension and the conditions specified by the court are not present. The BOS was not making a contract. Even if it had been making a contract, the benefit is not broadly available to all others, or even to almost all others. Tthe constituency divided into “haves” and “have-nots”. Importantly, a benefit to the “haves” is not neutral to the “have-nots”. It causes them harm. The actions by the four Board members cause harm to members of their constituency while benefitting themselves. The public service exception, 1091(a)(3), does not apply in these circumstances.

The four supervisors should have recused themselves. Their failure to do so constitutes a violation of Section 87100 and is not covered by the relevant exemptions to Section 1090.

Legal Issue 1a: Supervisor Kinsey, a special case.

The case for recusal by Supervisor Kinsey is clear but not yet complete. Mr. Kinsey was a member of the BOS that granted every one of the pension enhancements cited by the Grand Jury. He voted for all of them. In addition to the financial conflict highlighted above, by not recusing himself, Mr. Kinsey was acting as judge and jury as to whether he himself had violated the law. This should never occur. Mr. Kinsey should have recused himself on these grounds alone. Petitioner cannot find a case or code section addressing this, perhaps because the idea is so preposterous.

Legal Issue 2: Should County Administrative Officer (CAO) Hymel have recused himself?

Mr. Hymel is a member of MCERA and will benefit directly from the questionable pension enhancements identified by the Grand Jury. Because Mr. Hymel’s compensation is greater than that of the supervisors he stands to receive a commensurately greater incremental benefit. Mr. Hymel, on information and belief, identified counsel to investigate the Grand Jury report and negotiated the terms and compensation for the agreement with counsel. The response to the Grand Jury report was prepared by Mr. Hymel or by an individual under his supervision and with his approval. Mr. Hymel recommended to the BOS the adoption of the draft response to the Grand Jury report. These actions constitute a violation of Section 87100.

Legal Issue 3: Should County Counsel Woodside have participated in the Board of Supervisors’ discussion, even to the extent of offering an opinion on whether the members of the BOS and Mr. Hymel recuse themselves?

Mr. Woodside had previously recused himself from matters related to the Grand Jury report. Mr. Woodside currently receives pensions from both Santa Clara and Sonoma Counties. His Sonoma County pension was found (broadly, as a member of a group; not individually) by the Sonoma County Grand Jury to have been enhanced under the same questionable circumstances as the pension enhancements here in Main County. An adverse finding in Marin County would have a precedential affect on the grants of pensions in Sonoma County, likely affecting Mr. Woodside personally. This is a violation of Section 87100.

Legal Issue 4: The Meyers-Nave (MN) memorandum.

Shortly after the Grand Jury report was released in April of 2015 Citizens for Sustainable Pension Plans (CSPP), a group of which the petitioner is a member, asked the Board of Supervisors to hire outside counsel to review the Grand Jury report. The Board agreed.

Mr. Hymel asked CSPP to provide a list of questions to assist him in selecting counsel. CSPP provided such a list. Some of the questions were answered. Some were not. The single most important question on the list was not answered. The question was this: Who would outside counsel consider as its client? CSPP was trying to determine whether the BOS would be the client or whether the citizens of Marin County would be the client. The two answers had different implications.

The County entered a contract (Exhibit 7) with the firm of Meyers-Nave for up to $40,000. The full amount was spent.

In his comments at the June 30, 2015 BOS meeting Mr. Hymel said, “We used outside counsel because we wanted to have an objective legal review of the Grand Jury report.” (Beginning at 25:40 of exhibit 6). (Italics mine.)

For $40,000 of taxpayer money spent on an objective legal review one would expect to get just that, unbiased work product. One would expect a comparison of both sides of each legal issue followed by a thoughtful analysis of which side had the stronger case. After all, it was taxpayer money that was being spent and it was tens if not hundreds of millions of dollars of taxpayer money that were at stake in the outcome of the analysis.

The MN memo provided nothing of the sort. What the taxpayers got for their money was a one-sided analysis of the issues that in every instance came down on the side of inaction by the BOS and maintenance of the status quo with regard to the unlawfully granted benefits. IN fact, the MN memo never mentioned that there might be another side to any issue. It was, in effect, a brief arguing against the report by the Grand Jury. To highlight just one example, MN’s discussion of whether 7507[2] is mandatory, and its conclusion that it is not, filled almost three single spaced pages. Yet Meyers-Nave did not cite even one of the many cases that could be used to argue that section 7507 is mandatory or that the word “shall” in the statute might actually have its plain English meaning.

If this were an adversarial proceeding, this would have been acceptable. There would have been a comparable brief from the other side. There was not. This was a case of the County using its resources to take one side of an argument when there was no one to take the other side.

The situation was analogous to that of a (conflicted) judge hearing a case but only permitting a brief from one side, the side on which the judge’s interest lies, while at the same time claiming the brief was neutral.

The conflicted position of Mr. Hymel when he hired MN, and the biased nature of the MN memorandum combine to make the MN memo tainted. However, just as a bell cannot be unrung, the memo cannot be unread. A remedy must occur.

Legal Issue 5: Refusal by the Board of Supervisors  to read the memorandum from M. Thum before making its decision.

An attempt was made to present a brief from the other side. The Grand Jury report was released April 16, 2015. The contract with MN is dated June 1, 2015. The MN memo is dated June 24, 2015. As required, it was made available to the public along with the BOS draft response to the Grand Jury report on June 25, 2015, three business days before the June 30, 2015 BOS meeting at which it was discussed. The result was that MN had 23 days to research and draft its memorandum to the BOS.

In anticipation of the MN memo and the BOS draft response to the Grand Jury report, CSPP hired Margaret Thum, Esq. to analyze the two documents and to write a response (Exhibit 8).

The first paragraph of the Thum memo asked the BOS to delay its response to the Grand Jury so that it and interested citizens could “thoughtfully consider and comment upon the current draft of your response to the Grand Jury report.” Extensions to response deadlines are routinely granted by Grand Juries provided there is good cause.

Ms. Jody Morales of CSPP, speaking in open time at the June 30, 2015 BOS meeting, informed the Board of the existence of the Thum memo. She informed the BOS she had a copy of the memo for each of them. She asked the Board to extend her time so she could read the memo to the Board. The Board sat stone-faced. She suggested the BOS take a short break in order to read the memo. The Board again sat stone-faced. In the end, all CSPP could do was submit the memo for the record. This was done. Later in the meeting (1:19:47 of Exhibit 6), during public comment on the item, I said to the Board of Supervisors:

“I want to be very, very clear that if you proceed and make a decision on this report today without reading the seven-page letter that Ms. Morales submitted from our attorney you are choosing, repeat choosing, to ignore a very material piece of evidence.”

The Board proceeded with its public hearing and voted to approve the response to the Grand Jury report as written WITHOUT HAVING READ THE THUM MEMO. Conflicted members of the Board, acting as judge and jury, elected to read only documents arguing for “their” side of the issue. This constitutes negligence on the part of the Board because it ignored evidence it knew was available.

Relief Sought

  1. Order that Supervisors Kinsey, Rice, Arnold and Connolly, County Administrator Hymel and County Counsel Woodside were subject to conflicts of interest and should have recused themselves from participating in the discussion and approval of the response to the Grand Jury report in question.
  2. Order that there was not a quorum for Item 7 at the June 30, 2015 Marin County Board of Supervisors’ meeting.
  3. Order that the Marin County Board of Supervisors’ response to the Grand Jury report is void.
  4. Because of the conflicts demonstrated, the disregard of those conflicts by those involved, the future likely unavailability of a quorum and the willful blindness demonstrated by all five members of the Board of Supervisors in dismissing the Thum memo, order that the Board of Supervisors has forfeited its right to address this matter.
  5. Because the MN memo cannot be unread, order the Board of Supervisors to make available a sum of $40,000, equivalent to that spent on the Meyers-Nave memo (one ten-thousandth of the County’s annual budget), to provide a brief arguing the other side of all relevant issues, along with sufficient time to construct such a brief.
  6. Order that this court will step into the shoes of the BOS and undertake a fare and unbiased analysis of the Grand Jury report. It should rule on all relevant points of law raised by the Grand Jury, Meyers-Nave, M. Thum and other briefs that may be submitted.
  7. If this court concludes that any of the individuals involved were conflicted and should have recused themselves, order that they publicly and individually apologize at a Board of Supervisors meeting as a listed item on the agenda, not as an item on the consent agenda.

Verification:

I, David C Brown, certify that everything I have written in this document is true to the best of my knowledge.

David C. Brown

List of Exhibits

  1.  Grand Jury Report
  2.  Section 7507. 2A Section 7507 then in effect
  3.  Marin County Board of Supervisors Staff Report
  4.  Marin County Board of Supervisors Response to Grand Jury Report
  5.  Meyers Nave memorandum
  6.  Marin County Board of Supervisors meeting June 30, 2015
  7.  Contract with Meyers Nave
  8.  Memo written on behalf of CSPP by Margaret Thum, esq.
  9.  Office of the CA Attorney General, 2010, “Conflict of Interest”

[1] See Exhibit 9, page 67: “An official whose interest falls into one of the “remote interest” categories must do the following: (1) disclose the official’s interest to his agency, board or body, and (2) have the interest noted in the official records of that body. (Section 1091, subd. (a).) Further, the interested official must completely disqualify himself or herself, and must not influence or attempt to influence the other board members. (Section 1091, subd. (c)”

[2] Section 7507: “The Legislature and local legislative bodies shall secure the services of an enrolled actuary to provide a statement of the actuarial impact upon future annual costs before authorizing increases in public retirement plan benefits. … The future annual costs as determined by the actuary shall be made public at a public meeting at least two weeks prior to the adoption of any increases in public retirement plan benefits. (Italics mine.)

City of San Jose's Capitulation to Public Safety Unions is Complete

If someone told you that they were going to invest their money, but if that money didn’t earn enough interest, they were going to take your money to make up the difference, would you think that was fair?

When it comes to pensions for local government workers, that’s what’s happening all over California. San Jose’s story provides a particularly lurid example. Back in 2007 the San Jose Police and Fire Department Retirement plan was 97.8% funded (SJPF CAFR 2006-07, page 37). Back then, the annual contribution to the pension fund was $62.7 million, with the employees themselves contributing $16.1 million through payroll withholding, and the city contributing not quite three times as much, $46.6 million (SJPF CAFR 2006-07, page 40).

Last year, the San Jose Police and Fire Department Retirement plan was 79.3% funded (SJPF CAFR 2014-15, page 119). The annual contribution to the pension fund had ballooned up to $150.0 million, with the employees themselves contributing $20.7 million through payroll withholding, and the city contributing over six times as much, $129.3 million (SJPF CAFR 2014-15, page 73).

No wonder the City of San Jose put Measure B on the ballot in 2012, and no wonder voters passed it by a margin of 69% to 31%. But that wasn’t the end of it.

The unions embarked on a multi-year campaign in court. As reported here in August 2015 in the post “San Jose City Council Capitulates to Police Union Power,” the relentless union counter-attack eventually exhausted the will of the City Council. Facing an uphill battle against judges who themselves receive government pensions, they decided not to appeal the court’s overturning of a key part of the voter approved reform – one that would have allowed reductions to pension benefit accruals for future work.

Never forget that these are the same pensions that the unions lobbied politicians to enhance retroactively back in the late 1990’s and early 2000’s.

Earlier this month, in a final ruling that is almost anti-climactic, Santa Clara County Superior Court Judge Beth McGowen denied a legal attempt to stop the city from completely repealing the pension reform initiative voters approved in 2012.

Politicians come and go. Government unions, by contrast, have continuity of leadership, a massive and uninterrupted source of cash from taxpayer funded government worker paychecks, and unwavering resolve. This not only allows them to negotiate from a position of almost unassailable strength, and fight an endless war of attrition in the courts, but it also allows them to control the narrative. The narrative that the public safety unions used in their fight with pension reformers in San Jose was aggressive, to say the least.

From the start they demonized San Jose mayor Chuck Reed, who spearheaded reform efforts, accusing him of being more interested in his political future than the safety of the citizens. It wasn’t unusual back then, or in the years thereafter, to see bumper stickers with a simple message, “Chuck Reed is a bad person.”

The union also claimed they were unable to recruit because San Jose’s pay and benefit package was not competitive with other cities. But according to a report by NBC’s Bay Area affiliate, police union representatives told recruits to “take advantage of the academy, then find jobs elsewhere.”

But how underpaid and uncompetitive is San Jose’s pay and benefit package for their public safety employees? If you view the 2014 pay and benefits for San Jose’s city employees on Transparent California, you will see that 76 of the top 100 paid positions are either police or fire; they are 160 of the top 200 paid positions. What about averages and medians?

Using State Controller data, and not even screening out positions such as “accountant II,” or “Analyst II,” within the police and fire departments, the median total pay and benefits in 2014 for San Jose’s full-time firefighters was $214,669, and for full-time police it was $233,070. Properly fund their pensions and their retirement health benefits, and their median pay is easily over a quarter-million per year. And what about those pensions? How much are they?

Once again, Transparent California data for the San Jose Police and Fire Retirement Plan shows just how high these pensions can get. They estimate the full-career pension (30 years service or more) at $112,425 per year – NOT including health insurance benefits. That is corroborated by the “Average Benefit Payment Amounts” from the retirement plan’s CAFR (SJPF CAFR 2006-07, page 152) which shows the average 2014 pension benefit for retirees with 26-30 years service at $107,280, and for 30+ years at $115,884.  If you review the Transparent California pension data for San Jose’s public safety retirees by name, you will find 758 of them are collecting pensions – not including retirement health insurance benefits – in excess of $100,000 per year.

Which brings up another noteworthy topic – disability pensions. Of the 2,215 San Jose public safety retirees and beneficiaries as of June 30, 2015, 894 of them have retired under a “Service Connected Disability” (SJPF CAFR 2006-07, page 150). Once you adjust for beneficiaries (codes 5, 6, and 8 on table), this represents 49.8% of the retirees. Is it actually possible that half of all police and fire retirees are disabled from on the job injuries? How is this being verified? What are the criteria? The IRS grants significant tax benefits to public safety retirees with service disability pensions.

The financial condition of San Jose’s police and fire retirement system is dramatically worse today than it was ten years ago. The combined assets of their pension fund and their retirement health (OPEB) fund are now $3.1 billion, against liabilities of $4.6 billion – a funded ratio of 67%. And the unions who call the shots are making it abundantly clear that when the money runs short, you’re going to pay.

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Ed Ring is the president of the California Policy Center.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sacramento's "Secure Choice" Pooled 401K – Too Frugal for Public Workers

In a move of breathtaking hypocrisy, California’s legislators have unveiled a financially sustainable retirement security program for private workers, while keeping financially unsustainable pensions for public workers.

What private sector employers and private sector workers need to ask, more than anything, is if this new retirement security scheme is so great, why aren’t public employees going to also adopt it?

That’s a really good question. And the answer is simple:  The pensions they’re already getting, paid for by taxpayers, are far. far better. Way better. Out of this world better. Crazy better. Goofy better.

Take a look at the official recommendations made on March 28, 2016 to the California Legislature. In this document, on page 53, there is a table showing “income replacement” based on years paying into the system at various contribution rates. At a contribution rate of 5%, after working 30 years, a participant can expect income replacement in retirement of 13.8%. That is, if they made $100,000 per year in their final year of work, they would get a “pension” of $13,800 per year.

Wow.

If you normalize “Secure Choice” plan’s proposed contribution rate to 10% of payroll, comparisons to public pensions are possible. Because 10% is a good rough number to use for public sector employee contributions via payroll withholding. Teachers and bureaucrats pay a bit less than 10%, members of public safety pay a bit more than 10%. Here are the comparisons:

Public sector:  Teachers/Bureaucrats, 30 years work  –  pension is 75% of final salary.

Public sector:  Public Safety, 30 years work – pension is 90% of final salary.

Private sector:  “Secure Choice,” 30 years work – pension is 27.6% of final salary.

There are two reasons for this gigantic disparity. First, public pension funds collect far more than 10% of salary. While the employee rarely pays more than 10% via withholding, the employer – that’s YOU, the taxpayer – typically kicks in another 20% to 40% or more. Second, public pension funds assume a “risk free” rate of return of 7.0% per year. How much will the “Secure Choice” plan assume? Refer again to the official recommendations, this time page 16:

“Senate Bill 1234 will allow the Board to: Establish managed accounts that would be invested in U.S. Treasuries for the first three years of the program…. After three years, the Board should begin to develop investment options that address risk-sharing and smoothing of market losses and gains.”

The 30 year T-Bill is currently paying 2.69%.

Let’s recap:

Public sector:  The “risk free” annual return for their pension funds is ” 7.5% per year.

Private sector:  The “risk free” annual return for their “Secure Choice” is 2.69%. per year.

Ah, but wait! The attentive reader may wonder what may happen after three years. Because the recommendations specify that “investment options” shall be “developed” after three years of investing in T-Bills. Which brings us to the second monstrous hypocrisy – the “Secure Choice” pooled 401K funds will be managed by those same private sector investment firms that defenders of the pension funds routinely demonize.

How much money? If 50% of California’s 6.8 million eligible private sector workers participate, using the U.S. Census Bureau’s median income estimate for California’s private sector workers of $45,000 per year, at a contribution rate of 5%, you’re talking about $7.6 billion per year. Not much compared to the $30 billion that gets poured into California’s state/local government pension systems each year, or the $45 billion per year that those systems actually require to remain solvent, but nonetheless it is a huge chunk of change.

The sad irony amid all this hypocrisy is that the “Secure Choice” program has the virtue of being far more financially sustainable than public sector pensions. With lower risk investments, modest benefit formulas, and the built in capacity to adjust benefits to ensure solvency, this pooled 401K – which could also be termed an adjustable defined benefit – is a system that can be offered to all citizens without blowing up. There are many problems, the employer mandate and the “opt-out” provision are two obvious ones, but at least it is an attempt at creating the so-called three legged stool of retirement security: Social Security, supplemented the “Secure Choice” program, supplemented by individual retirement accounts.

Concerned citizens may argue endlessly about whether or not the state should offer any sort of retirement security – Social Security, “Secure Choice,” or whatever. But if the state is going to have these programs, they should be offered to every worker according to the same set of rules and offer the same set of benefits. Government workers should not be getting deals far better than private workers.

So here’s the deal, California legislature:  Mandate that every state and local government worker, effective immediately, begin participating in Social Security and the “Secure Choice” program, and encourage them to supplement that with individual 401K retirement accounts. Mandate that all retirement benefits they earn from now on are limited to those three programs. So work out the bugs. Then, and only then, sign us up.

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Ed Ring is the president of the California Policy Center.

The Hypocrisy of Public Sector Unions

During the industrial age, labor unions played a vital role in protecting the rights of workers. Skeptics may argue that enlightened management played an equally if not greater role, such as when Henry Ford famously raised the wages of his workers so they could afford to buy the cars they made, but few would argue that labor unions were of no benefit. Today, in the private sector, the labor movement still has a vital role to play. There may be vigorous debate regarding how private sector unions should be regulated and what restrictions should be placed on their activity, but again, few people would argue they should not exist.

Public sector unions are a completely different story.

The differences between public and private sector unions are well documented. They operate in monopolistic environments, in organizations that are funded through compulsory taxes. They elect their bosses. They operate the machinery of government and can use that power to intimidate their political opponents.

Despite these fundamental differences in how they operate, public unions benefit from the still common perception that they are indistinguishable from private unions, that they make common cause with all workers, that they are looking out for us. This is hypocrisy on an epic scale.

Hypocrites regarding the welfare of our children

The most obvious example of public sector union hypocrisy is in education, where the teachers unions almost invariably put the interests of the union ahead of the interests of teachers, and put the interests of students last. This was brought to light during the Vergara case, which the California Teachers Association (CTA) claimed was a “meritless lawsuit.” What did the plaintiffs ask for? They wanted to (1) modify hiring policies so excellence rather than seniority would be the criteria for dismissal during layoffs, (2) they wanted to extend the period before granting tenure which in its current form permits less than two years of actual classroom observation, and (3) they wanted to make it easier to dismiss teachers who were incompetents or criminals.

When the Vergara case was argued in court, as can be seen in this mesmerizing video of the attorney for the plaintiffs’ closing arguments, the expert testimony he referred to again and again was from the witnesses called by the defense! When the plaintiffs can rely on the testimony of defense witnesses, the defendants have no case. But in their appeal, the defense attorneys are fighting on. Using your money and mine.

The teachers unions oppose reforms like Vergara, they oppose free speech lawsuits like Friedrichs vs. the CTA, they oppose charter schools, they fight any attempts to invoke the Parent Trigger Law, and they are continually agitating for more taxes “for the children,” when in reality virtually all new tax revenue for education is poured into the insatiable maw of Wall Street to shore up public sector pension funds. No wonder education reform, which inevitably requires fighting the teachers unions, has become an utterly nonpartisan issue.

Hypocrites regarding the management of our economy

Less obvious but more profound are the many examples of public union hypocrisy on the issue of pensions. To wit:

(1)  Public pension systems don’t have to comply with ERISA, which means they are able to use much higher rate-of-return assumptions. Private sector pensions are required to make conservative investments and offer modest but financially sustainable pensions. Public pensions operate under a double standard. They make aggressive investment assumptions in order to reduce required contributions by their members, then hit up taxpayers to cover the difference.

(2)  One of the reasons you haven’t seen the much ballyhooed extension of pension opportunities to all workers in California is because the chances they’ll offer a plan where the fund promises a return of 7.0% per year are ZERO. Once they’re forced to disclose the actual rate-of-return assumptions they’re prepared to offer, and why, the naked hypocrisy of the public sector pension plans using higher rate-of-return assumptions will be revealed in terms everyone can understand.

(3)  When the internet bubble was still inflating back in the late 1990’s, and stock values were soaring, public sector unions didn’t just agitate for, and receive, enhancements to pension benefit formulas. They received benefit enhancements that were applied retroactively. Public pensions are calculated by multiplying the number of years someone worked by a “multiplier,” and that product is then multiplied by their final salary (or average of the last few years salary) to calculate their pension. Retroactive enhancements meant that this multiplier, which was increased by 50% in most cases, was applied to past years worked, increasing pensions for imminent retirees by 50%. Now, with pension funds struggling financially, reformers want to decrease the multiplier, but not retroactively, which would be fair per the example set by the unions, but only for years still to be worked – only prospectively. And even that is off the table according to the unions and their attorneys. This is obscenely hypocritical.

(4)  Take a look at this CTA webpage that supports the “Occupy Wall Street” movement. What the CTA conveniently ignores is that the pension systems they defend are themselves the biggest players on Wall Street. In an era of negative interest rates and global deleveraging, public employee pension funds rampage across the globe, investing over $4.0 trillion in assets with the expectation of earning 7.0% per year. To do this they condone what Elias Isquith, writing for Salon, describes as “shameless financial strip-mining.” These funds benefit from corporate stock buy backs, which is inevitably paid for by workers. They invest with hedge funds and private equity funds, they speculate in real estate – more generally, pension systems with unrealistic rate-of-return expectations require asset bubbles to continue to expand even though that is killing the middle class in the United States. This gives them common cause with the global financial elites who they claim they are protecting us from.

(5)  In America today most workers are required to pay into Social Security, a system that is progressive whereby high income people get less back as a percentage of what they put in, a system that is adjustable whereby benefits can be reduced to ensure solvency, a system that never speculates on the global investment market. You may hate it or love it, but as long as private citizens are required to participate in Social Security, public servants should also be required to participate. That they have negotiated for themselves a far more generous level of retirement security is hypocritical.

The hypocrisy of public sector unions isn’t just deplorable, it’s dangerous. Because public unions have used the unfair advantages that accrue when they operate in the public sector to acquire power that is almost impossible to counter. Large corporations and wealthy individuals are the natural allies of public sector unions, especially at the state and local level, where these unions will rubber-stamp any legislation these elite special interests ask for, in return for support for their wage and benefit demands. Public unions both impel and enable corporatism and financialization. They are inherently authoritarian. They are inherently inclined to support bigger government, no matter what the cost or benefit may be, because that increases their membership and their power. They are a threat to our democratic institutions, our economic health, and our freedom.

And they are monstrous hypocrites.

 *   *   *

Ed Ring is the president of the California Policy Center.

The Unsustainability Lobby

“The creation of the mortgage bond market, a decade earlier, had extended Wall Street into a place it had never before been: the debts of ordinary Americans.”
–  Jared Vennett (played by Ryan Gosling), The Big Short (2015)

Along with another superbly authentic movie Margin Call (2011), The Big Short provides a vivid look into the rigged, Darwinian, ruthlessly exploitative circus popularly known as “Wall Street.” For decades, ever since the great depression, this industry slumbered along, sedately providing financial services to Americans. As always, it also was a venue for legalized gambling, but the number of players were limited, the winnings were relatively meager, and the opportunities for corrupt manipulations had not yet been multiplied by new trading technologies. Back then, the seedier aspects of Wall Street were overshadowed by the many vital services the industry provided. All of that changed starting around 1980.

In 1985, the financial sector earned less than 16% of domestic corporate profits. Today, it’s over 40%. These profits are made on the backs of American consumers who pay usurious rates for student loans and credit card debt, yet cannot earn more than one or two percent on their savings accounts. America’s financial sector is grotesquely overbuilt. It has become a predatory force in the lives of most Americans, and the legitimate services as intermediaries that they actually provide – especially given the gains in information technology over the past 30 years – could easily be delivered for a fraction of the costs. Who benefits?

The Big Short offers insights that will hopefully resonate with viewers, because when the protagonists in the film prepared to capitalize on their belief the housing bubble was about to collapse, they identified all the culprits. It wasn’t just the sellers who prepared mortgage debt securities who were to blame. It was the buyers as well. And the biggest buyers of all were the pension funds, because of their insatiable desire for high returns.

America’s housing bubble may have collapsed, but the pension funds are still with us, bigger than ever, still insatiably seeing high returns. And where do these predators go for their high returns? Along with their high risk investments in hedge funds and private equity – where we have minimal transparency – they invest in housing, once again inflated to unaffordable levels thanks to over-regulation and low interest rates. They invest in public utilities, who collect guaranteed fixed profits on overpriced services thanks again to over-regulation. They invest internationally, and they invest in domestic stocks.

In every case, the interests of these powerful pension funds, Wall Street’s biggest players, is to rack up another year of high returns. And to do this they need corporate profits, financial sector profits, rising home prices, rising utility rates – they need asset inflation fueled by debt accumulation. This is economically unsustainable, because as America is slowly turned into a debtors prison, eventually there will be nobody left to pay the interest.

The National Conference On Public Employee Retirement Systems, “The Voice for Public Pensions,” is arguably at the apex of the unsustainability lobby. This powerful trade association is ran by public sector union executives from across the nation. Their president is also the treasurer of the American Federation of Teachers. Their first vice president is a 30-year member of the Chicago Fire Fighters Union, IAFF Local 2. Their second vice president was union president of Fraternal Order of Police Queen City Lodge #69. And so it goes, officers of government unions populate their executive board officers and their executive board. Government unions run this organization.

The unsustainable pension benefit enhancements and unsustainable modifications to investment guidelines that were sold to politicians and the public weren’t pushed by government unions all by themselves. Their partners in the financial community recognized and implemented what has to be one of the biggest scams in American history, the ability to pour taxpayers money into high-risk pension funds for government workers, collecting fees every step of the way, combined with the ability to raise taxes to bail out these funds whenever their returns didn’t meet expectations. And to make sure elected officials played ball, they had the government unions provide the political muscle. Compared to this setup, Bernard Madoff was a piker.

The National Conference On Public Employee Retirement Systems has thoughtfully created a list of “foundations, think tanks, and other nonprofit entities [that] engage in ideologically, politically, or donor driven activities to undermine public pensions.” The California Policy Center and UnionWatch are both on that list. But because our organization does not advocate eliminating the defined benefit, we actually only fulfill one of their criteria for this list, “advocates or advances the claim that public defined benefit plans are unsustainable.”

Yes. We do. Most indubitably. That the unsustainability lobby has recognized our work is a distinct honor.

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Ed Ring is the president of the California Policy Center.

How the Tax System Favors Government Workers and Punishes Independent Contractors

The 2016 tax filing deadline is now just one month away. Which makes it timely to point out how unfair our tax system is to middle class workers who want to prepare for their retirements. It is also timely to explain how there is a completely different set of retirement rules, far more favorable, that apply to unionized government workers.

If you are a member of the emerging “gig economy,” or a sole proprietor running a small business, or an independent contractor, and if you are reasonably successful, then you paying nearly 50% of every extra dollar you earn in taxes. The following table shows the marginal tax burden for independent contractors who earned more than $81.5K and less than $118.5K in 2015:

Marginal Tax Rate for Independent Contractors
(for 2015 earnings > $81.5K and < $118.5K)

20160301-UW-ER-TaxRates

The challenges posed by this reality bear closer examination. Let’s say, for example, that someone in this category needs to earn more money, and they have an opportunity to earn a few extra bucks by taking on a side project. For these earnings, they will pay 25% federal, 8% state, 12.4% Social Security (as employee and employer), and 2.9% Medicare. And by the way, the employee’s portion of their Social Security contribution is NOT tax deductible. What if they decide to put that money into a 401K?

According to current tax law, private sector taxpayers can only defer up to $18,000 of their income into a 401K, up to $24,000 if they are over the age of 50. Contrast this to the unionized public employee’s pension fund.

If the payments into a public employee’s retirement account exceed $24,000 per year – which they usually do – they remain tax deferred. A California Policy Center study (ref. table 4) examining 2011 compensation for City of San Jose employees showed that the average employer contribution for a police officer’s pension (not even including whatever they may have also contributed via withholding) was $53,222 in 2011, more than twice the amount they would have been able to avoid paying taxes on if they were private citizens. For San Jose firefighters it was even more, their average employer pension contribution was $62,330 in 2011. And even for the miscellaneous employees, the city’s contribution exceeded the tax deferred amount allowed private citizens, averaging $26,164 – again, not including whatever pension contributions these employees may have paid themselves through withholding. San Jose’s case is typical.

So why aren’t public employees paying taxes on whatever annual pension contribution they make in excess of $18,000, or $24,000, depending on their age? Because there is NO practical limit on how much can be contributed into a defined benefit plan while still avoiding taxes. The IRS created the limit on how much you can put into a 401K in order to discourage people creating “abusive tax shelters.” But they did not apply this moral standard to defined benefit pensions.

Meanwhile, there’s not only a ceiling on how much the taxpayer can put into their 401K, but, of course, there’s NO guarantee that those 401K investments will perform. When a middle class self-employed person confronts a 48.3% marginal tax rate, if they can afford it, they are pretty much compelled to put money into their 401K. Then they can watch the S&P 500 and knock on wood. Since the S&P 500 is currently at the same level it was at back in June 2014, with governments and consumers across the world engulfed in maxed-out debt which renders them unable to continue to consume at the rates they used to, and global overcapacity idling shipping from Rotterdam to the Strait of Malacca, they’d better knock very hard indeed.

As for the pension funds for unionized government workers? If they become underfunded, though faltering investment returns, or retroactive benefit enhancements, or “spiking,” private citizens make up the difference through higher taxes and reduced services.

One final injustice must be noted: Once the private sector independent contractor retires, if they’re lucky they’ll collect around $25,000 per year in exchange for a lifetime of giving 12.4% of their gross income to the Social Security fund. And if that, plus their S&P 500 savings account’s 2.5% per year dividend income isn’t enough to live on, they’ll have to keep working. But wait! If that work earns them more than $15,710 per year, their Social Security benefit is cut by $1.00 for every $2.00 they make.

Let’s recap. A middle class private sector independent contractor pays a 48.3% tax on any income they earn between $81,500 and $118,500, which includes a 12.4% payment into Social Security on 100% of that income. Half of that 12.4% isn’t even deductible. If they invest money in a retirement account, there is at most a $24,000 ceiling on how much they can invest per year. If their retirement account tanks, there’s no bail-out. And if they still have to hold a job after they’ve finally qualified for full Social Security benefits after 45 years of work, there is a 50% tax on that benefit for every dollar they earn in excess of $15,710 per year.

By contrast, a unionized government worker in California collects a pension that averages – for a 30 year career – well over $60,000 per year (ref. here, here, here, and here). At most they contribute 12% into their pension fund via payroll withholding, in most cases much less. Their pension fund earns 7.5% and if it does not, the taxpayers bail it out. And when they retire, if they want to go back to work, there is NO penalty whatsoever assessed on their pension income.

Ensuring reasonable retirement security for Americans against the headwinds of unsustainable debt and an aging population is one of the great challenges of our time. And the biggest obstacle to finding solutions is that American workers do not adhere to the same set of rules. There is rather a continuum of rules, with unionized government workers at one privileged extreme, and independent contractors – those glibly lauded members of the “gig economy,” at the opposite end, paying for it all.

This is the context in which we have recently witnessed the irresistible alliance of Wall Street pension bankers and government union leadership annihilate the latest attempt at pension reform in California. Tax season brings it home in all its bitter glory.

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Ed Ring is the president of the California Policy Center.

California's Pension Contribution Shortfall At Least $15 Billion per Year

“Pension-change advocates failed to find funding for a measure during the depths of the 2008 recession and the havoc it wreaked on government budgets, so they won’t pass (a measure) when the economy is doing well.”
–  Steve Maviglio, political consultant and union coalition spokesperson, Sacramento Bee, January 18, 2016

It’s hard to argue with Mr. Maviglio’s logic. If the economy is healthy and the stock market is roaring, fixing the long-term financial challenges facing California’s state/local government employee pensions systems will not be a top political priority. But that doesn’t mean those challenges have gone away.

One of the biggest problems pension reformers face is communicating just how serious the problem is getting, and one of the biggest reasons for that is the lack of good financial information about California’s government worker pension systems.

The California State Controller used to release a “Public Retirement Systems Annual Report,” that consolidated all of California’s 80 independent state and local public employee pension systems into one set of financials, but they discontinued the practice in 2013. The most recent one issued, released in May, 2013, was itself almost two years behind with financial data – using FYE 6-30-2011 financial statements, and it was almost three years behind with actuarial data – used to report funding ratios – using FYE 6-30-2010 actuarial analysis. Now the state controller has created a “By the Numbers” website, but it’s hard to use and does not provide summaries.

No wonder it’s so easy to assert that nothing is wrong with California’s pension systems!

The best source of raw data on California’s pensions comes from the U.S. Census Bureau. Since that data is better than nothing, here are some critical areas where roughly accurate numbers can be reported.

(1)  The Cash Flow, Money In vs. Money Out

What is the net cash flow of these pensions funds? How much are they collecting in contributions and how much are they distributing in pension benefits? This information, especially if it can be compiled over a period of years, determines whether or not pension funds are net buyers or sellers in the markets. The reason this matters is because if America’s pension funds, with over $4.0 trillion in assets, are net sellers, they put downward pressure on stock prices. They’re that big.

California State/Local Pension Funds Consolidated
2014 – Cash Flow

20160201-UW-Ring-1

This cash flow (above) shows that during 2014, California’s state/local pension funds, combined, collected 30.1 billion from state and local agencies, and paid out $46.1 billion to pensioners. They are paying out 50% more than they’re taking in, and this is a relatively recent phenomenon. Historically, pension funds have been net buyers in the market. Now, pension funds across the U.S., along with retiring baby boomers, are sellers in the market. This is one reason it is difficult to be optimistic about securing a 7.5% average annual return in the future, despite historical results. And as for that healthy 15.4% return on investments in 2014? That was offset in 2015, when the markets were flat. It is also noteworthy that employee contributions of $8.9 billion are greatly exceeded by the $21.2 billion in employer (taxpayer) contributions. How many 401K recipients get a 2.5 to 1.0 matching from their employer?

(2) The Asset Distribution and Portfolio Risk

What is the asset distribution of these pension funds? How much have they invested in relatively risk free, fixed income bonds, vs. their investments in stocks and other variable return assets?

California State/Local Pension Funds Consolidated
2014 – Asset Distribution

20160201-UW-Ring-2

This asset distribution table (above) indicates that the ratio of riskier, variable return investments to fixed return investments is nearly four-to-one. What if stocks fail to appreciate for a few years? What if real estate values don’t continue to soar? What if there simply aren’t enough high-yield investments out there to allow these assets, valued at a staggering $751 billion in 2014, to throw off a 7.5% annual return? This is a precarious situation. If these projected 7.5% returns were truly “risk free,” the ratios on this table would be reversed, with most of the money in fixed return investments.

(3) The Unfunded Liability and the “Catch-up” Payments

What is the amount of the unfunded liability for these pension funds? And of the total amount collected and invested each year in these funds, how much is the “unfunded contribution” – the amount allocated to pay down the unfunded liability and eventually restore the systems to 100% funding – and how much is the “normal contribution” – the amount required to fund future pension benefits just earned in that particular year by active workers?

This question, for which neither the State Controller, nor the U.S. Census Bureau, can provide timely and accurate answers, is the most complex and also the most important. While consolidated data is not readily obtainable for these variables, by assuming these pension systems, in aggregate, are officially recognized as 75% funded, we can compile useful data:

California State/Local Pension Funds Consolidated
2014 – Est. Required Unfunded Contribution

20160201-UW-Ring-3a

The above table estimates that at a 75% funded ratio, at the end of 2014 the total pension fund liabilities for all of California’s state and local government pension funds was just over $1.0 trillion, with unfunded liabilities at $250 billion. The middle portion of the table shows, using conventional formulas adopted by Moody’s investor services for analyzing public pensions, that if the annual rate-of-return projection is lowered to a slightly more realistic 6.5% (already being phased in by CalPERS), the unfunded liability jumps to $380.1 billion, and the funded ratio drops to 66%. For a detailed discussion of these formulas, refer to the California Policy Center study “A Method to Estimate the Pension Contribution and Pension Liability for Your City or County.”

The lower portion of the table spells out just how deep a hole California’s state and local public employee pension systems have dug for themselves. Using standard amortization formulas, and a quite lengthy 30 year payback term, at a 6.5% rate-of-return assumption, it would take a payment of $29.1 billion per year to return California’s pension funds to 100% funded status by 2046. Since the total payments into California’s pension funds – refer back to table 1 – were only 30.1 billion in 2014, it is pertinent to wonder just how much the normal contribution was, in aggregate, in 2014, vs. the unfunded contribution.

One promising pension transparency project is being directed by professors Joshua Rauh and Joe Nation via Stanford University’s Institute for Economic Policy Research. Their “Pension Tracker” website has already compiled an impressive body of data, especially useful at the local level. Hopefully they, or someone, will get eventually compile and present accurate data, both locally and statewide, not only showing cash flows, but differentiating between the normal contributions and the unfunded contributions.

In the absence of data, here’s a rough guess: Approximately 1.5 million active state and local government workers in California probably earned pension eligible income of at least $100 billion in 2014. If the “normal contribution” is 16% of payroll, that equates to $16 billion per year. This is a very conservative estimate.

Mr. Maviglio, and all of his colleagues who wish, like many of us, to save the defined benefit pension, are invited to explain how California’s pension systems will ever become healthy, if, best case, their required unfunded contribution is $29.1 billion per year, their required normal contribution is $16 billion per year, and the total payments actually being made per year are only $30.1 billion. That’s a shortfall of $15 billion per year.

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Ed Ring is the executive director of the California Policy Center.

Why Investment Realities Will Compel Pension Reform

“For the first time in the pension fund’s history, we paid out more in retirement benefits than we took in contributions.”
–  Anne Stausboll, Chief Executive Officer, CalPERS, 2014-2015 Comprehensive Annual Financial Report

There are few examples of a seemingly innocuous statement with more significance than Stausboll’s admission, buried within her “CEO’s Letter of Transmittal,” summarizing the performance of CalPERS, the largest public employee retirement system in the United States. Because what’s happening at CalPERS – they now pay more in benefits than they collect in contributions – is happening everywhere.

For the first time in history, America’s public employee pension funds, managing well over $4.0 trillion in assets, are becoming net sellers, not buyers. And as any attentive student of economics will tell you, when there are more sellers than buyers, prices drop. Behind this mega economic trend is a mega demographic trend – across the developed world, certainly including the United States, a relentlessly increasing percentage of the population is retired. The result? An increasing proportion of people who are retired and slowly liquidating their lifetime savings – also driving down asset values and investment returns.

Last week’s sell-off in the markets has immediate causes that get most of the attention. Turmoil in the middle east. A long overdue slowdown to China’s overheated economy. Depressed energy prices. But there are two long-term trends that will keep investment returns down. Demographics is one of them: The more retirees, the more sellers in the market. The other mega-trend, equally troubling to investors, is that debt accumulation, which stimulates spending, has reached its limit. We are at the end of a long-term, decades long credit cycle. The next three charts will illustrate the relationship between interest rates, debt formation, and the stock market during two critical periods – the first one following the stock market peak in December 1999, and the second following the stock market peak in September 2007.

The first chart shows the federal funds rate over the past 30 years. As can be seen, when the stock market peaked in December 1999, the federal funds rate was 6.5%. Within three years, in order to stimulate borrowing which would put cash into the economy, that rate was dropped to 1.0%. Similarly, once the stock market recovered, the rate went back up to 4.25% until the stock market peaked again in the summer of 2007. Then as the market declined precipitously for the next 18 months through February of 2009, the federal funds rate was lowered to 0.15% and has stayed near that low ever since. The point? As the stock market recovered since February of 2009 to the present, unlike during the earlier recoveries, the federal funds rate was never raised. This time, there’s no elbow room left.

Effective Federal Funds Rate – 1985 to 2015
20160111-UW-ER-fedrate

To put these low interest rates in context requires the next chart which shows total U.S. credit market debt as a percent of GDP over the past 30 years. Consumer debt, commercial debt, financial debt, state and federal debt (not including unfunded liabilities, by the way), is now estimated at 340% of U.S. GDP. The last time it was this high was 1929, and we know how that ended. As it is, even though interest rates have stayed at nearly zero for just over seven years, total debt accumulation topped out at 366.5% of GDP in February of 2009 and has slightly declined since then. The point here? Low interest rates, this time at or near zero, no longer stimulate a net increase in total borrowing, which in turn puts cash into the economy.

Total U.S. Credit Market Debt – 1985 to 2015
20160111-UW-ER-debtGDP

Which brings us to the Dow Jones Industrial Average, a stock index that tracks nearly in lockstep with the S&P 500 and the Nasdaq, and is therefore an accurate representation of the historical performance of U.S. equities over the past 30 years. As can be seen from this graph and the preceding graphs, the market downturn between December 1999 and September of 2002 was countered by lowering the federal funds rate from 6.5% to 1.0%. Later in the aughts, the market downturn between September 2007 to February 2009 was countered by lowering the federal funds rate from 5.25% to 0.15%. But during the sustained market rise for the seven years since then, the federal funds lending rate has remained at near zero, and total market debt as a percent of GDP has actually declined slightly.

Dow Jones Industrial Average – 1985 to 2015
20160111-UW-ER-DJIA

It doesn’t take a trained economist to understand that the investment landscape has fundamentally changed. The trend is clear. Over the past thirty years debt as a percent of GDP has doubled from 150% to over 350%, then remained flat for the past seven years. At the same time, over the past thirty years the federal lending rate has dropped from high single digits in the 1980’s to pretty much zero by early 2009, and has remained there ever since. The conclusion? Interest rates can no longer be used as a tool to stimulate the economy or the stock market, and the capacity of the American economy to grow through debt accumulation has reached its limit.

For these reasons, achieving annual investment returns of 7.5%, or even 6.5%, for the next several years or more, is much harder, if not impossible. Conditions that stock market growth has relied on over the past 30 years no longer apply. Public employee pension funds, starting with CalPERS, need to face this new reality. Debt and demographics create headwinds that have changed the big picture.

In the case of CalPERS, of course, it isn’t mere demographics that has turned them into a net seller in a market that’s just given up two years of appreciation. It’s the fact that their retiree population is increasingly comprised of people who are retiring with benefits that have been enhanced in the past 10-15 years. This fact accelerates and augments the demographically driven disparity between collections and disbursements. Take a look at the past three years of CalPERS collections and disbursements:

CalPERS Cash Flow (not including investment returns)
2013 to 2015, $=Billions
20160111-UW-ER-CalPERS

These figures, drawn from CalPERS 6-30-2015 CAFR (page 26) and CalPERS 6-30-2014 CAFR (page 24), show the system to be a net seller at a rate of about $5.0 billion per year for the past three years. Interestingly, during that time, employee contributions to CalPERS have actually declined by 4.6%, at the same time as the employer, or taxpayer, contributions have risen by 24.1%.

The idea that CalPERS cannot lobby for equitably reduced pension benefits is a fallacy. Because the financial problems with pensions began when Prop. 21 was narrowly passed in 1984, deleting constitutional restrictions and limitations on the purchase of corporate stock by public retirement systems. The financial problems got worse when California’s legislature passed SB 400 in 1999, which set the precedent for retroactive pension benefit increases. And in both cases, CalPERS was there, lobbying for passage of what were ultimately ruinous decisions.

Now that an aging population delivers millions of sellers into a market already challenged by epic deleveraging, CalPERS can do the right thing, and lobby for meaningful pension reform. They can start by supporting policies that reverse the impact of Prop. 21 and SB 400. If they do this sooner rather than later, they may be able to save the defined benefit. Anne Stausboll, are you prepared to stand up to your union controlled board of directors, and tell them the hard truth?

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Ed Ring is the executive director of the California Policy Center.

The Mechanics of Pension Reform – Local Actions

Part 2 of 2…

Introduction

In Part One, I enumerated reforms needed at the state level. That list was in part plugging up the “cheats” used to run up the statewide pension deficit of about a trillion dollars. Employee unions control the state legislature, the attorney general, all executive offices and all retirement administrators; therefore I prefaced Part One with an opinion that reform at the state level was and is basically a pipe dream.

20160111-UW-Moore

Picturesque Pacific Grove is being destroyed by government unions.

This part will discuss reform at the county and city level only, simply because I have not researched education and special districts sufficiently to include them.

Premise

This analysis is based on the conclusion that current local government defined benefit pension plans are under 50% funded based on market analysis.

The common lament about pension deficits is that it was caused by the 2008-09 investment crash. But most PERL Agencies were under water after the 2001-02 high tech stock market crash. Most pension bonds were issued in exchange for pre 2008 pension unfunded deficits or to fund pension enhancements (Marin and Sonoma counties, for example).

Vallejo filed for Chapter 9 in 2008, before the crash with a market pension deficit of about $400M.

Pacific Grove went from a zero deficit in fiscal 2001 to 2002, to a nineteen million dollar deficit in 2004 to 2005. About 50% of the pension deficit was in the 2%@55 plan for non safety employees and the other 50% for the 3%@50 safety employees. Non-safety 2%@55 plans suffered substantial pension deficits again after the 2008-to 2009 crash and all PERL plans had an additional deficit from poor results in 2013-14. It had a good return for fiscal year 2014 to 2015, but recent results (June 2015 to date) are catastrophic. Based on the size of the 2%@55 deficits, that level of benefits is unsustainable and if it was the highest level of benefits, it would still break all but the very richest agencies.

Contribution rates have doubled and tripled; yet the PERS estimate of the funding level for PERL plans as of fiscal year end 2012-13 is 70.5%, using its assumptions. But financial experts using fair market assumptions – those used competitively – estimate the funded level at well less than 50%, a funded level that PERS has stated was beyond saving.

Based on the above, it is mathematically probable that PEPRA which grants a defined benefit as high as 2.7% at various ages of eligibility will go down like the Titanic, in spite of its prospective limits on the size of maximum benefits. If 2%@55 plans are under water; it means that 2.7% at age 57 plans must fail. PEPRA is a palliative measure that has delayed curative reform.

In CERL agencies, much of its pension debt, including pension bonds, was created between 2002-07, after it had incurred a deficit in 2001-02. In Sonoma county a phony lawsuit about calculating pensionable salary was created. Plaintiffs and defendants then contrived a settlement of the lawsuit that circumvented the public notices of CERL and Govt. code 7507, to grant every full time employee a 3% benefit at some age (between 50 and 60). The reason it was important for the staff to avoid the notice statutes was because compliance would have shown that the increased annual budget costs of the pension enhancements would have violated Article XVI, section 18 of the state constitution, which required a 2/3 vote of the people to approve the enhancements. (The Orange county debt limitation case did not involve the issue of increased annual budget costs, and that is why it lost).

Marin had a similar experience as documented in a precise 2015 grand jury report. The pension deficits in Marin and Sonoma are about a billion dollars each. In each county, the agency lawyers, the supervisors, the unions and staff, the sheriff, DA, et al took no action on the grand jury reports. They had a duty to set aside the illegally adopted pension increases, but did not. The ratification of the illegal pensions was unanimous.

Except for a chapter 9 that modifies pensions and other post-retirement benefits, there is no way out of the financial demise of Sonoma and Marin county and all but the very richest local entities.

Chapter Nine is a Game Changer

Until Judge Klein (in the Stockton Chapter 9) produced a total analysis that showed that employee’s pensions are modifiable in a chapter 9, PERS and the unions claimed pensions were untouchable for a variety of tenuous reasons.

Article I. Section 8 of the U.S. Constitution says “The Congress shall have the power…To establish uniform Rules of Naturalization, and uniform Laws on the subject of Bankruptcies throughout the United States;.” Judge Klein went on to clearly define how pursuant to a Plan of Adjustment in a Chapter 9, pension contracts could be rejected and the obligations modified in a fair and equitable manner along with all of the creditors. Judge Rhodes in the Detroit bankruptcy agreed . The Supremacy clause applies to a chapter 9 and is still the law per the two judges and all neutral experts on the matter. Pensions do not have a special status in a Chapter 9.

In his decision, Judge Klein said: “..it is doubtful that CaLPERS even has standing to defend the City pensions from modifications. CaLPERS has bullied its way about in this case with an iron fist insisting that it and municipal pensions it services are inviable. The bully may have an iron fist, but it turns out to have a glass jaw.”

Karol Denniston, a bankruptcy attorney and chapter 9 expert (SQUIRE Patton Boggs), who followed the Stockton bankruptcy carefully, in one of her several writings about the Stockton decision said: “Klein’s opinion provides a handy road map of how to put pensions on the bargaining table thus creating a more balanced approach to restructuring. That means pensions get talked about at the front end of a case and not at the back end. It also means a city can tackle its restructuring plan by looking at all of the significant liabilities, including a plan that really works.”

“..including a plan that really works.” The elements totally lacking in the Vallejo, Stockton and San Bernardino bankruptcies. Those chapter 9’s were union controlled political bankruptcies that intentionally used all of the available assets to pay for a bankruptcy, while protecting its employee’s million dollar pensions. As of 6/30/2013, San Bernardino had a fair market unfunded pension liability of about $1.05B and was 43.4% funded; Vallejo a $650M unfunded pension liability and 45% funded, and Stockton a $1.3B pension liability. The new losses for the succeeding two years will be daunting. Imagine another recession!

The Political Landscape for Chapter 9 Filings

In all cities and counties you hear the refrain: “another loss like that one and the city or county will be bankrupt.” Therein lies the problem; taxpayers view a chapter nine as worse than slashing services, raising taxes and fees, with a future doomed to more cuts, taxes and fees. Because the three municipal bankruptcies to date were “rigged” in favor of city staff and the unions, the public lacks an example of a successful chapter 9.

Therefore, the first bona-fide chapter nine will be critical so that it will encourage other agencies to negotiate from a position of strength. Cities and counties must comply with Myers, Milias and Brown, but any deal that leaves the agency in a defined benefit plan is off the table. If that goal is achieved, there is much to talk about.

The key issue is the level of adjustment to be made to pensions so that employees and retirees will receive a reasonable pension? Unless the taxpayers are convinced that retirees and employees are not taken advantage of, it will not support a bona-fide chapter 9 in bankruptcy.

Pension Adjustments in a Pre-chapter 9 Settlement or in a Plan of Adjustment Must Be Fair and Equitable

Government agencies usually do not belong to the Social Security system. Additionally, PERS and CERL systems do not have an insured component to fill in for pensions modified in a bankruptcy. In chapter 11’s and 7s, canceled pension benefits are often replaced by the federal pension insurance system. So modifying pensions in a chapter 9 is a serious business and must not only appear to be fair, but in fact be fair.

On the one-hand an egregious PERL and CERL system has already caused massive tax increases and prop. 218 fees with a dramatic drop in the number of employees and service levels. As a game-wrecker, prop. XIII dwarfs it by comparison. On the other hand, retirees are not entitled to million dollar annuities, but should receive reasonable pensions for their service. Mathematically, the status quo is not an option. Convincing taxpayers that the modifications are essential but fair is the key to electing a legislative majority with the support to negotiate pension reform from a position of strength. That strength is the right to modify pensions in a chapter 9.

The opposition to a chapter 9 will be massive. In addition to PERL and CERL, the unions will invest millions in opposition. More importantly, the agency lawyers, managers and administrators will use agency monies for store-bought legal opinions that pretend that modifying pensions along with other debt is illegal and bad (like Pacific Grove, Sonoma and Marin county regarding illegal pension adoptions). So if a reform majority is elected, it must replace those who fight for the status quo no matter what. Current attorneys, managers/administrators must go to be replaced by contract experts during the financial emergency.

In order to elect a legislative majority of pension reformers, a lengthy public relations plan is an absolute prerequisite. That program must analyze the outstanding liability for pensions, including pension bonds, and then postulate reasonable modifications for the affected retirees and employees.

Older retirees with lower pensions should not suffer modifications. The younger retirees with massive retirements should be cut to as much as 2 times the social security maximum (about $60,000 per year). The goal is to provide a reasonable retirement for those affected, and to arrive at a plan of adjustment that permits a city or county to repair its roads, sewers, water systems, etc. while providing amenities for every age group (senior, recreational, library, etc) without a separate levy or fee in addition to property, sales and franchise taxes.

In cities like Pacific Grove and counties like Marin and Sonoma, the press is a huge problem. In Monterey County no news source understands the magnitude of the pension conundrum.

In Marin and Sonoma, the issue is treated superficially by the press, but the news media does not portray the magnitude of the deficits together with the illegality of it all so that the reader understands that taxpayers have been defrauded to the tune of a billion dollars. Without a chapter 9 the pension deficits will grow in Sonoma and Marin to one and a half and then two billion dollars and so on. Only chaos can follow such incredible juvenile behavior by all involved. Even reform groups fail to shout out the critical nature of the problem. If the ordinary taxpayer understood the situation, electing competent legislative majorities and reform would follow.

In Monterey County, if you asked a city council member about the size of the city pension deficit, it would be confused. In Pacific Grove they would admit that it was bad, but believe it is curable. But if you told a member of the Carmel council that the city pension debt per household was $24,000, it would be curious about whether that was good or bad. Carmel has so much revenue, it does not concern itself about whether it gets its money worth. My point is that the prospect for pension reform varies from agency to agency, but there is NO avenue to inform the citizens of Seaside, Salinas, Pacific Grove and other communities of the continuing decline in the quality of life in their community; and that a bona fide chapter 9 could make them free. Therefore Reform groups must educate the press, but also provide bi-weekly or monthly pamphlets by mail to citizens so that they can use their vote to defend against the pension tsunami by electing bona fide pension reformers to their city council (or board of supervisors in counties). It will require a sizeable flow of cash.

Paying For a Chapter 9

According to a reliable source, the legal costs in the Stockton chapter 9 exceeded $15M. Costs for experts added a significant sum. For a residential entity like Pacific Grove (15,599 residents) it could be as much as $6M. If a city has pension and other bonds that will be modified in the bankruptcy, the annual payments may be a source of funds to pay for the bankruptcy. Because a modification of pensions or OPEB is contemplated, cash from those sources may be available.

There has not been a bona fide chapter 9 in California; therefore, a material modification of pensions lacks guidelines; but it will be based on federal bankruptcy principles, not state law. According to one highly qualified chapter 9 expert it is important that the PERL or CERL contracts NOT be terminated until after the 9 filing in order to prevent a lien claim by the pension plans.

Qualifying For a Chapter 9

In California, a municipality, like a city or county, is qualified for chapter 9 treatment if it is “insolvent” and “desires to effect a plan to adjust such debts” and has complied with Government code section 53760 et seq. That section provides for a choice to pursue a neutral evaluation process in an attempt to obtain a compromise, or, the local public entity may declare a state of emergency pursuant to Government code Section 53760.5.

Generally, the local agency will qualify if it can show it is “unable to pay its debts, or unable to pay its debts as they come do” (cash insolvency). Cash insolvency may include charges that are not immediately due, but are imminent, such as increases in annual pension contributions and annual pension bond payments, sewer debts, etc. Unfunded pension liabilities will probably not carry the day, except to the extent they will become cash obligations through rate increases. This is a complex area, beyond the scope of this article, except to again make the point that local entities need experts that are not subject to the bias and influence of staff; otherwise, the advice from staff will be, “you can’t touch our pensions” and it will advise a “rigged” chapter 9 like Vallejo, Stockton and San Bernardino.

Alternatives to a Bona fide Chapter 9

Insolvency may be delayed by massive salary reduction, staff and service cuts, new taxes and fees and so on; but such a process cannot promote sufficient financial healing to permit a reasonable level of services at a reasonable cost, or avoid massive deficits. Stockton had a $7M deficit for 2014. So much for its chapter 9.

The “police power” rule of contract law is theoretically available. That rule provides that the state police powers allow modification of contracts when it is necessary to protect the general public welfare. And if that power is extant, does it extend to local agencies? I don’t have the answer, except to note that the California government as now constituted would never use the power, and if attempted by a local agency, the cost for legal representation by reformers is too great.

A better choice is “The Kern Doctrine.” In Kern v City of Long Beach and later in Allen v City of Long Beach, the California supreme court determined that a Charter provision granted employees a vested pension right and in Allen, concluded that the right extended to “work not yet performed.” But in doing so, especially in Kern it noted its second rule, that in a case where the pension system was financially broken, the local entity could make reasonable modifications to vested rights and no off-set was required. In Kern it noted several examples that it had permitted; in one case it allowed a benefits reduction from 2/3 of salary to 1/2 for all employees who had not yet retired. In Allen, the court noted that in that case the financial integrity of the pension system was not in question, so any reductions in pensions required a corresponding off-set. Then it immediately noted again that it was NOT a case where integrity of the system was in issue, thereby reaffirming the Kern doctrine that vested rights could be modified without off-set to save the pension plan..

Hundreds of local entities now have pension plans that are broken with no chance to pay the benefits promised. In 2014, Moody’s released a statement that Vallejo was again insolvent because of pension promises and needed to go into a new chapter 9 to shed pension obligations. It warned that Stockton and San Bernardino needed to shed pension obligations or would again become insolvent after its chapter 9.

There is now a “perfect storm “ for pension reduction under the “Kern Doctrine,” but most lawyers simply do not understand it because they read Allen, without reading Kern. Kern gives an example of the exercise of the police powers by a local entity to protect the public welfare. Entities with impossible pension deficits, like Oakland, San Jose, Pacific Grove, Salinas, King City, Marin and Sonoma counties, etc., etc. could modify pensions for employees to save their plans from insolvency. Read Kern!

Anticipating the Opposition’s Tactics

The gimmick used by Stockton to justify not modifying pensions in its Chapter 9 bankruptcy was a claim that it would be unable to recruit and retain safety and other experts, particularly police; and it already had a raging crime fest on its hands. In fact, it had depleted its police department because of raging pension costs arising from excessive million dollar pensions and the 2008 to 2009 financial crash. Ironically, its manager spread the theme that Stockton could not hire and retain qualified people across the board without the million dollar pensions; then he retired? He was hired by San Bernardino to spread the same theme for its bankruptcy.

Despite claims that police departments cannot recruit new officers without 3%@50 pension benefits, there are over 150 local entities in California with police receiving a 2%@50 pension and they fill positions readily. Until about 2003, almost all local agencies were 2%@50 and there was an overflow of qualified applicants. The age 50 level is much too low, but it is there, created by greed. The claimed shortage arose because of the fraudulent adoption of 3%@50 in 1999; now they naturally seek a 3%@50 annuity and refuse to believe that it has destroyed representative government.

More troubling about the claimed police shortage are allegations that police departments like San Jose discourage applicants and certification schools to create a shortage. But the critical component of the police shortage theme is the inability to gain the truth about the number of applicants for open positions. Somehow it was learned that Stockton had numerous applications for its police force. To counter, its manager wrote a guest editorial in the Sac Bee and said only one in a hundred certificated police applicants could qualify as a Stockton police officer (Yes,he really said that!).

Additionally thousands of police officers were laid off after the financial crisis. Where are they? If you make a records request about applications for open positions, you will feel you are on a railroad by the response. The key is to make the staff produce its evidence of a shortage and that objection should go away. If not, can they really argue that the entity must go broke to maintain the status quo! No. To the extent that high crime cities have a genuine component to its shortage, it will need an on-the-job training plan to fill vacancies at an affordable cost. Ex MPs are a good source for the program.

The other response to pension modification goes to the heart of the public reluctance and lack of information about the issue. The benefits were promised and now they are to be reduced. There are many arguments that should mitigate that reluctance:

(1)  The assets in the DB plan belong to the employees and will not be used except to pay pensions. If a plan is 30% unfunded, the 70% will provide a reasonable retirement if the defined benefit plan is eliminated going forward;

(2)  Pensions exceeding 2%@55 and 2%@50 for safety, were obtained by PERS and local entity fraud;

(3)  Compared to social security, the pensions are much too high, by three to four times;

(4)  Compared to the private sector, the pensions are too high;

(5)  The pension promises were based on unrealistic market returns;

(6)  Each employees union representative was part of the pension scam and unions control PERS;

(7)  Per the California Supreme court employees are only entitled to a “reasonable” pension, not a specific formula;

(8)  Spiking and other illegal activities contributed to the crisis;

(9)  The cost of pensions has curtailed government services, contribute to rising crime and is a dagger to education. Even community colleges can no longer meet demand;

(10)  Deficits compound at 7.5% a year. There is no revenue defense to that fact, so services will continue to suffer due to a lack of funds because of increased pension costs;

(11)  After the defined benefit plan is discontinued in whole or part, employees will be part of the social security system, plus a defined contribution plan, a hybrid system providing fair and financially sustainable retirement security;

(12)  Thanks to the work of Dr. Joe Nation, director of The Stanford Institute For Economic Policy Research and the financial reporting of David Crane of “Govern for California,” reformers have two sources of accurate information about the true state of the pension crisis; impeaching charts used by PERS to mislead the public about the irremediable nature of the pension deficits.

Opponents of reform may respond that Prop. 13 contributed to the crisis. But since prop. 13, sales taxes have increased by 6% and income taxes by 5% and more than make up for lost revenue. If we assume that without Prop. 13 property taxes would be 2% rather than the 1% limit (a doubling), property values would drop proportionally because the higher tax eliminates purchase money. If opponents blame Prop. 13, and they will, polls indicate that voters oppose repealing Prop. 13. Given a choice they will cancel the defined benefit plans and save their communities.

Would a bona fide Chapter 9 that eliminated the entity defined benefit plan reduce its borrowing power going forward? Pension bonds and unfunded pension deficits would be reduced and deficits eliminated, providing cash flow going forward. Entities could fix infrastructure with bond money and the bondholders would have confidence in re-payment because of the improved balance sheet. Using Sonoma County as an example: would bond issuers rather lend to it with its billion dollar pension deficit, or with much of that deficit eliminated?

SUMMARY

(1)  Defined benefit pension plans for government employees are mathematically destined to fail;

(2)  The three chapter 9’s to date did not modify pensions and according to Moody’s, Vallejo is once again insolvent and Stockton and San Bernardino will suffer the same fate for failing to modify pensions in its chapter 9 cases;

(3)  The law is clear that California local entities may modify pensions and other post employment benefits in a chapter 9 plan of adjustment;

(4)  If a local entity has great voter support for pension reform, it may reduce pensions pursuant to the supreme court’s “Kern Doctrine” in order to restore some vital services without a chapter 9; but PERL and CERL administrators may oppose such a plan, forcing a chapter 9.

(5)  Because there has not been a chapter 9 in California wherein a local entity has requested pension modification, there is new legal ground that must be covered, but that is the nature of legal solutions. In the case of pension deficits, a chapter 9 in bankruptcy modifying pensions as part of a plan of adjustment is the only solution. There is no other conceivable reform that can scratch the surface of the problem.

(6)  Modifications to pensions must be fair, taking into account that SB 400 was adopted based on fraudulent representations about its cost.

 *   *   *

Read part one “The Mechanics of Pension Reform – State Actions,” December 22, 2015

Read Kern v City of Long Beach, and Allen v City of Long Beach.

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

Note to readers:  During 2012 author John Moore published the “final” chapter of “The Fall of Pacific Grove” in an four part series published between October 20th and November 9th:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

During 2014 author John Moore published the first chapter of “The Fall of Pacific Grove” in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand

A Pension "Pledge" for State Politicians

Earlier this week, noted pension reformer John Moore published “The Mechanics of Pension Reform,” listing specific principles of pension reform. Moore’s article focuses on state policy; he intends to focus on local pension reform policies in a later article. The list he has produced for state legislators is quite detailed; here’s is a partial summary of highlights:

1 – Change control of public employee pension boards to politically neutral private institutions. Currently, government union operatives exert nearly absolute control over California’s 81 state and local government employee pension systems.

2 – Limit the total annual pension contribution by any government entity to a fixed percentage of pension eligible salary.

3 – Differentiate between annual salary and pension eligible salary to lower overall contributions. Stop counting annual wage increases as pension eligible.

4 – Eliminate collective bargaining for government workers.

5 – Prohibit legislative bodies from granting vested contract rights to pensions.

6 – Require agency in-house counsel to advocate exclusively for the broader public interests of the legislative body, rather than for the staff and unions.

7 – Prohibit any agency to link their salary increases to that of other agencies.

8 – Require the chief financial officer of any agency to report directly to the legislative body, autonomous of the agency manager.

9 – Start practicing accrual based accounting in conformity with virtually all other economic entities.

10 – Investigate post-employment disability claims with a goal of eliminating abuses.

11 – Lower the exit fees required for agencies to leave pension systems. The liability calculations employed typically assume rates-of-return less than half rate used for official actuarial calculations.

12 – Remove automatic indemnification of agency officers from gross financial negligence, so they are subject to the same rules that apply to private sector executives.

How many politicians in California would pledge to fight for these pension reform policies?

Moore’s experiences as a bankruptcy attorney, and now as a retiree living in Pacific Grove, have made him an expert eyewitness to what pension abuse is doing to California. Read Moore’s two earlier series of articles on the topic, one published in 2014 “The Fall of Pacific Grove,” and a more recent update published this year “The Final Chapter – The Fall of Pacific Grove,” for an account of how that city faces financial calamity because of out-of-control pension promises.

California’s government unions, along with their partners in the financial community, have spent millions to defend the pension system as it is. The uncertainty inherent in any financial projections that attempt to frame the issue make it hard for reformers effectively communicate the urgency of their position, even if they did have sufficient financial backing to mount a serious campaign for reform. Moore understands this, and has based his prescriptions for reform on a fundamental assumption: Change will come when elected politicians – who have the courage to play hardball with government unions – hold governing majorities in California’s cities and counties. Wherever that occurs, Moore’s prescriptions are viable.

For example, Moore, along with many other legal experts, does not believe that pension reform efforts in court have been exhausted. In particular, he repeatedly cites cases where cities and counties violated due process when approving pension benefit enhancements. All of these improperly adopted enhancements can be challenged in court. Moore also points out – more of this will appear in his next article – that cities and counties may not have the authority to revise “vested” pension benefits, but they can cut current benefits and cut staffing. If necessary, Moore recommends cities and counties engage in draconian cuts in the areas of personnel management where they have latitude, because if they have the courage to do this, in response the unions will be forced to accept reasonable modifications to their pension benefits.

How many politicians in California would be willing to be this tough?

One of the biggest misconceptions spread by government unions is that all pension reformers want to eliminate the defined benefit. This is false. The problem with government pensions is that they are not financially sustainable or fair to taxpayers. In California that began with Prop. 21, passed in 1984, which greatly loosened restrictions on investing in stocks, enabling much higher and much riskier rate-of-return projections, followed by SB 400, passed in 1999, that started the process of retroactively increasing pension benefit formulas for what eventually became nearly all of California’s state and local government workers.

If Prop. 21 and SB 400 had not passed, or, for that matter, if California’s government worker pension systems merely had to conform to ERISA, which sets responsible limits on the financial behavior of private sector pension funds, California’s government pension systems would be financially sustainable.

*   *   *

Ed Ring is the executive director of the California Policy Center.

The Mechanics of Pension Reform – State Actions

Part 1 of 2…

Since the passage of SB 400, adopted by the California Legislature in 1999 (93 for, 7 against), pension deficits have steadily grown in California. According to the Stanford Institute for Economic Policy Research, as of the end of 2015, credible estimates of the total unfunded pension obligations owed by California’s state and other government agencies now approach $1.0 trillion.

Reform groups support pension reform and voters generally back pension reform initiatives by a 75% vote; but usually, state and agency lawyers pollute the process to defeat the reforms. In Pacific Grove and San Jose, clearly legal pension reform initiatives were defeated. In Marin and Sonoma county, Grand Juries determined pension increases of about a billion each were illegally adopted, but the sheriffs, district attorneys and boards of supervisors simply purchased “as requested” legal opinions that ignored the reports and said everything looked “OK” to them.

At the state and agency level, there will not be curative pension reform without the election of a pension reform majority of each legislative body. This analysis will outline an agenda, first at the state level and later, separately, at the agency level, specifically describing reforms required prospectively at the state level and setting forth remedial steps available to local agencies. Obviously, legislative body majorities must be elected to adopt the curative action.

The Need for Pension Reform at The State Level:

The current Ca. Government pension system is a classical “Blue Sky System,” a term defined by U.S. Justice McKenna in Hall v. Geiger-Jones Co.:

“The name that is given to the law indicates the evil at which it is aimed…’speculative schemes which have no more basis than so many feet of blue sky’…. ‘the sale in fly by night schemes’”

Unfortunately, the state can and has enacted a pension system for government workers, including the legislature, that is NOT subject to its own Blue Sky Laws and could not comply with its own enactments controlling the private sector:

1. All applicable evidence proves that the financial assumptions for government pensions are and have been impossible to achieve since SB 400 to-date. If marketed by a private investment company, the state would shut it down. The state attorney general should take vigorous action against pension administrators, but is openly supportive of the blue sky nature of the system;

2. The system is managed by administrators who openly support a goal of growing pensions for union workers. They are controlled by Boards that were elected by the Unions. Their definition of reform is greater contribution rates;

20151221-UW-Moore-CalPERS1
The infamous Hotel CalPERS  –  you can check in, but you can’t check out.

3. Retirement Boards routinely violate section 17 (b) of Article XVI of the State constitution which says: “The members of the retirement board of a public pension or retirement system shall discharge their duties with respect to the system solely in the interest of, and for the exclusive purposes of providing benefits to, participants and their beneficiaries, MINIMIZING EMPLOYER CONTRIBUTIONS thereto (my emphasis)…” If retirement boards had obeyed this dictate, there could be no pension crises. It is the duty of the state to assure retirement board compliance in minimizing employer contributions;

4. Government unions in the state of California have become too powerful. FDR was emphatically opposed to collective bargaining in government affairs: “collective bargaining with public-employee unions takes much of the decision making authority over government functions away from the people’s representatives and transfers it to union officials, with whom the public has no authority.” At present, public-employee unions dominate the state legislature, the executive branch (including pension boards), the attorney-general, every local legislative body, sheriff or other elective position. Why? Because the average citizen has no idea about the decline in and cost of government services since the enactment of Meyers-Milias-Brown, California’s collective bargaining scheme. One thing is for certain, the cost of union controlled government services proves that “new development” is a financial loser, requiring a larger police, fire and administrative services regime, leading to larger uncontrollable deficits.

5. As an example of what FDR feared consider the fact that the Unions run the California employee retirement systems. You and I don’t get to vote for the various retirement boards. Imagine if social security and medi-care were managed by a board composed of seniors: certainly they would expect retirement benefits comparable to those of government union members; $50K, $60K even up to $300K per year.

6. Why are voters so uninformed? With the notable exception of the Contra Costa Times, newspapers have foregone any pretense of journalism. Why aren’t they all like the Times? Because it takes research. In Monterey county, where I live, every news source simply repeats the skewed tales of pro-union city managers, administrators and bent government lawyers. If a citizen provides them with documentary evidence of illegal government activity, the press then gives the last word, truthful or not, to the government agent.

The Mechanics of Pension Reform at the State Level:

It is difficult to be optimistic about pension reform at the state level. Neither the Republicans, nor the Democrats have a pension reform platform that meets the requirement of Article XVI, section 17 (b) that retirement boards minimize pension contributions. The state legislature will not enact laws requiring a balanced pension system. The attorney general will not act to prosecute institutional untruthfulness per Penal code sec. 85. The press, whether intentional or not, is a handmaiden for union dominated government that has decimated government service. Since government unionism, California has declined from first to near bottom in education, infrastructure, and most importantly, quality of life for the middle class. Any responsible parent should encourage their children and grandchildren to move to a fairer government where a middle class citizen can afford a home, decent schools and safety. For those of us able to stay, it is time for a new approach. I don’t claim to be the perfect person to set forth first principles of reform. I am doing so only because no one else has, or seems likely to do so.

REFORMS

Because the unions are so strong at the state level, it is imperative that reform groups demand that candidates specify the pension reforms they would initiate and support.

In the case of a candidate for the legislature, or state office, would he or she support state sponsored initiatives, referendums, or laws that:

1. Replaced retirement boards with politically neutral private institutions to manage government pension plans;

2. Limited government pension plans to outlaw annual deficits. Any apparent deficit would require a reduction in benefits to eliminate the deficits;

3. Limited the annual pension contribution by any government entity to a fixed percentage, say 10% of salary;

4. Limited annual salary increases for pension purposes to 0% of salary until current deficits are eliminated;

5. Neutralized the power of unions by doing away with statewide unions for government workers. Local unions would be allowed and may propose working conditions (pay, medical, vacations, etc.); but without collective bargaining. After listening to the unions proposals and after public comment, the legislative body would enact working condition statutes;

6. Prop 218 would be amended to stop the current abuse of creating a new tax to provide that which was paid by current revenues, but have been depleted by pension and other retirement costs.

7. Legislative bodies would be prohibited from granting staff, employees and legislative bodies, vested contract rights related to pensions, insurance of all kind and any other work-related benefit;

8. Validation actions for the issuance of bonds, including pension bonds, pursuant to the authority of Government code 53511 shall restrict the scope of validation judgments to protect the bond holders from the relief for matters specifically stated in the summons published in the action. A judgment purporting to grant relief in excess of matters specified in the summons shall not be entitled to collateral estoppel, or res judicata or enforcement;

9. In all matters between staff, employees and the city council, agency lawyers shall only advise the legislative body, and shall do so consistent with the applicable law. In such circumstance, agency lawyers shall have a duty only to the agency through its legislative body. Currently, agency lawyers advocate for staff and unions, ignoring its duty of loyalty to the agency;

10. Government code, section 7507 shall add a provision that states that compliance with the statute has always been mandatory and shall continue to be mandatory;

11. Government code 7507 shall add a provision requiring the chief financial officer of any agency to certify that the annual costs for any contemplated pension increase will not violate the debt limitation set forth in Article XVI of the state constitution. Note: In the Orange county pension bond, debt limit case, the court found that the potential to cause deficits did not violate the debt limit, but the issue concerning the annual costs as a violation was not presented;

12. No agency shall link salary increases to that of other agencies and all such legislative provisions now in effect are void;

13. The chief financial officer of any agency shall be hired and replaced by the agency’s legislative body. In addition to its current duties, it shall advise the legislative body of the soundness of any proposal related to employee and staff compensation. Said position shall be autonomous of the agency manager or administrator. Presently, agency financial officers often risk their jobs if they do not recommend game the system” schemes;

14. The current practice of annual cash budgets shall be supplemented with an accrual method budget. The accrual method budget shall expense all items that are necessary for the agency to provide a good level of service, but have been omitted from the cash budget because of a lack of revenues. For example, a county like Sonoma may have $200M in deferred road maintenance; in the accrual method, that sum will be shown as an expense. The agency legislative body shall determine the correct level of service for every agency department, and to the extent there are insufficient revenues to provide that level of service, the insufficient revenues shall be shown as an accrued expense. The purpose of the accrual budget is to show the actual financial condition of the agency, but also to help an agency qualify for a chapter 9 in bankruptcy;

15. The current practice of obtaining a post-employment disability so that up to 50% of pension payments are tax free shall be the subject of an investigation by the state legislature with the goal of eliminating abuses of said practice. Evidence indicates that a high percentage of safety employees who were able to perform normal services up to their date of retirement then magically become disabled for tax benefit purposes;

16. The current practice of borrowing proposition 218 funds and other restricted funds shall be prohibited. Such practice is and shall constitute evidence of a debt violation;

17. Ventura county attempted to terminate its CERL program and make new hires subject to a defined contribution or employee funded plan. PERL and CERL agencies may make limited terminations of its pension plans (LT). In that case it may create a defined contribution plan for new hires and said hires shall not be in the defined benefit plan; but the agency may remain in the defined benefit plan for pre-LT employees. The purpose is to allow the agency to continue to work its way out of its deficit making annual contributions at the current income rate, not the termination rate. The termination rate is so punitive, it prevents agencies from terminating. This provision shall not create pension or other benefit vested rights;

18. Agency staff (attorneys, administrators, managers and finance officers) shall not be granted indemnity for their acts of gross negligence and criminal conduct. Currently such grants are commonplace.

SUMMARY

Most reasonable citizens appreciate the place of unions in the private sector. Arms-length bargaining between management and union leaders has passed the test of time, albeit not without turmoil. On the other hand, there has been and cannot be arms-length bargaining in government: both agencies staff and the unions have acted in concert to grant themselves incredible salaries and benefits. Agency attorneys have given up all pretense of any duty to the agency or taxpayers. Mathematically, the system cannot continue. For reform to succeed, it is necessary to demand that candidates for local legislative and state office, take a position on substantial reforms. Without substantial curative reforms, the quality of life in California will continue to decline.

In Part Two, I will discuss the mechanics of reform at the agency level, particularly at the city and county level. Unlike reform at the state level, local agencies have tools to initiate reforms that will preserve the quality of life in the jurisdiction. It will still require the election of true reformers, but your city or county can be saved from the mockery of the parasitic governance that now prevails. Voters are anxious and will vote for the reforms, and for candidates, that will cure the current “blue sky” pension system. But candidates must run on these concrete reforms; otherwise. As they say: “pension reform is 25 years away, and always will be.”

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

Note to readers:  During 2012 author John Moore published the “final” chapter of “The Fall of Pacific Grove” in an four part series published between October 20th and November 9th:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

During 2014 author John Moore published the first chapter of “The Fall of Pacific Grove” in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand

How the Pension Reactionaries Mislead the Public

re·ac·tion·ar·y, rēˈakSHəˌnerē, adjective
1. (of a person or a set of views) opposing political or social liberalization or reform.
–  Source:  Google search “what is a reactionary”

When it comes to civic financial health and quality public education, “reactionary” is a word with increasingly bipartisan connotations. But the other qualities connoted by the word all still apply; shrill and divisive rhetoric, an almost militant unwillingness to acknowledge any of the opposition’s arguments, and, of course, an unyielding position favoring the status-quo, no matter how untenable.

Pension reactionaries embody all of these characteristics. For the most part, they are also hypocrites. Because their devastatingly effective campaigns against pension reformers are funded not only by public employee unions, but also by powerful elements of those same Wall Street financial interests those unions routinely deride. They employ distortions of fact, they demonize reformers, and they employ inversions of logic.

Let’s examine some of the misleading arguments and tactics of the pension reactionaries, in no particular order:

(1) Identify key reformers, demonize them, then accuse anyone who advocates reform of being their puppets.  Pension reformers have been the victims of character assassination for years. The more they represent an effective threat, the more potent the attacks leveled against them: John Arnold, a “hedge fund billionaire,” Charles and David Koch, the “conservative billionaire brothers,” and, of course “Wall Street” whose alleged shenanigans are said to pose the real threat to the solvency of these funds. The fallacy here, notwithstanding the vicious and unfounded attacks that have tainted these individuals, is that whether or not pensions are financially sustainable or equitable to taxpayers has nothing to do with who some of the reformers are. And what about liberal democrats who advocate pension reform, such as San Jose mayor Chuck Reed, Chicago mayor Rahm Emanuel, Rhode Island governor Gina Raimondo, and countless others? Are they all merely puppets? Absurd.

(2)  Assume if someone advocates pension reform, they must also want to dismantle Social Security. While there are plenty of pension reformers who have a libertarian aversion to “entitlements” such as Social Security, it is wrong to suggest all reformers feel that way. Social Security is financially sustainable because it has built in mechanisms to maintain solvency – benefits can be adjusted downwards, contributions can be adjusted upwards, the ceiling can be raised, the age of eligibility can be increased, and additional means testing can be imposed. If pensions were adjustable in this manner, so public sector workers might live according to the same rules that private sector workers do, there would not be a financial crisis facing pensions. There is no inherent connection between wanting to reform public sector pensions and wanting to eliminate Social Security. It is a red herring.

(3)  Public sector pension plans would be financially healthy if they had not been invested in risky derivatives, especially mortgages. This is a clever inversion of logic. Because if pension funds had not been riding the economic bubble, making risky investments, heedless of historical norms, then public employee unions would never have been mislead by these fund managers to demand and get unsustainable enhancements – usually granted retroactively – to their pension benefit formulas. The precarious solvency of pension funds today is entirely dependent on asset bubbles. Most of these funds still have significant positions in private equity investments, which are opaque and highly volatile, and despite recent moves by some major pension funds to vacate hedge fund investments, they still comprise significant portions of pension fund portfolios. What the pension reactionaries either don’t understand or willfully ignore is a crucial fact: if pension funds did not make risky investments, they would have to bring their rate-of-return projections down to earth, and their supposed solvency would vaporize overnight.

(4)  Weakening pensions is a choice, not an imperative. The crisis is political, not actuarial. This really depends on how you define “weakening.” If you weaken the benefits, you strengthen the solvency. The fundamental contradiction in this logic is simple: If you don’t want pension funds to be entities whose actions are just like those firms located on the proverbial, parasitic “Wall Street,” then they have to make conservative, low risk investments. But if you make low risk investments, you blow up the funds unless you also “weaken” the benefit formulas.

To drive this point home with irrefutable calculations, refer to the California Policy Center study “Estimating America’s Total Unfunded State and Local Government Pension Liability,” where the impact of making lower risk investments that yield lower rates of return is calculated. If, for example, state and local public employee pension funds in the United States were to lower their rate-of-return to a decidedly non-“Wall Street,” low-risk rate of return of 4.33% (the July 2014 Citibank Pension Liability Index Rate, used in the study – it’s even lower today), and invest their $3.6 trillion in assets accordingly, their aggregate unfunded liability would triple from today’s estimated $1.26 trillion to $3.79 trillion. The required annual contribution (normal plus unfunded) would rise from the estimated $186 billion to $586 billion. The alternative? Lower benefits.

The pension reactionaries willfully ignore additional key points. They continue to claim public sector pension benefits average only around $25,000 per year, ignoring the fact that pension benefits for people who spent 30 years or more earning a pension, i.e., full career retirees, currently earn pensions that average well over $60,000 per year. Public safety unions still spread the falsehood that their retirees die prematurely, when, for example, CalPERS own actuarial data proves that even firefighters retire today with a life-expectancy virtually identical to the general population.

Reactionary propagandists who oppose urgently needed pension reform should recognize that it is bipartisan, it is a financial imperative, and it is a moral imperative. They need to recognize that the sooner defined benefits are adjusted downwards, the less severe these adjustments are going to be. They need to understand that for many reformers, converting public employees to individual 401K plans is a last resort being forced on them by political, legal and financial realities, not an ulterior motive. They need to stop demonizing their opponents, and they need to stop stereotyping every critic of pensions as people who want to destroy retirement security, including Social Security, for ordinary Americans. And if they wish to defend Social Security, then they should also be willing to apply to pension formulas the tools built into Social Security – including its progressive formulas whereby highly compensated workers receive proportionally less in retirement than low income workers. Ideally, they should support requiring all public workers to participate in Social Security, so that all Americans earn – at least to the extent it is taxpayer funded – retirement entitlements according to the same set of formulas and incentives.

 *   *   *

Ed Ring is the executive director of the California Policy Center.

REFERENCE

Estimating America’s Total Unfunded State and Local Government Pension Liability
California Policy Center study, September 2014

Why Pacific Grove Matters to Pension Reformers

UnionWatch has just released the fourth and final installment of “The Fall of Pacific Grove – The Final Chapter,” written by John Moore, who is a retired attorney and resident of Pacific Grove. This four part series constitutes an extended epilogue to a eight part series on Pacific Grove which was published last year on UnionWatch. Links to all twelve installments appear at the conclusion of this post.

Moore’s earlier set of articles describe in detail how Pacific Grove slid inexorably towards insolvency by yielding, again and again, year after year, to pressure from local government unions to award unaffordable pension benefits to city employees. Pacific Grove’s challenges are a textbook case of how there is simply no interest group, anywhere, currently capable of standing up to the political power of government unions. This small city now faces the possibility of selling off every asset they’ve got, primarily real estate, to private developers to raise cash for the city’s perpetually escalating annual pension contributions. They face the possibility of rezoning to allow construction of huge tourist hotels that will destroy the quality of life for residents, in order to enable new tax revenue producing assets to help pay the city’s required pension contributions.

Anyone familiar with local politics knows that one of the only special interests with the financial strength to oppose government unions in small towns are land developers. This end-game, where public assets are sold to developers to generate cash for pension contributions ought to put to rest any remaining debate as to who runs our cities and counties. Of course developers aren’t going to oppose government unions. By extension, and in a disappointing twist of irony, why should any libertarian leaning private sector special interest oppose government unions? As these unions drive our public institutions into bankruptcy, private sector investors buy the assets of our hollowed out public institutions at fire sale prices.

In this new four part series, author John Moore challenges the so called “California Rule” that supposedly makes pension modifications – even prospectively – legally impossible. But he also summarizes another legal approach to reform, one that takes into account the lack of due process and the ignorance of specific commitments made in the original granting of financially unsustainable pension benefit enhancements. It is an approach that has many facets and can be utilized in many California cities and counties. Unfortunately, Moore also exposes why this approach to reform, while viable, was only tepidly attempted in Pacific Grove.

While anyone serious about pension reform should read Moore’s work in its entirety, one of his key points concerns the “California Rule.” He writes:

“Cases discussing state employee pension rights are not germane to the issue of whether a local agency’s employees have a vested pension right, because the discussions in the state employee cases assume that the employees have vested rights, while in non-state cases the issue is whether the legislative body granted a vested right.”

Moore’s point, delved into in great detail in part one, is that unless a lifetime (full career) annual pension benefit accrual at a specific rate is explicitly granted by a legislative body, the presumption is that it is not. This means that changing pension benefits for existing employees from now on, prospectively, in many of California’s cities and counties, is not a violation of the California Rule.

That is hardly encouraging, of course, to pension reformers in those cities and counties where lifetime pension benefits have been explicitly granted at a specific rate of annual accrual for the entire career of any currently working employee. But where Moore’s first point may not apply, his second point might find wide application. Because as Moore alleges in Pacific Grove, an allegation echoed by Californian pension reformers in assorted cities and counties from the Oregon border all the way to Mexico, lifetime pension benefit enhancements were granted without due process.

Whether it was on the basis of negligently optimistic financial projections, the lack of independent financial analysis, missing steps in the oversight, review and approval phases, and other violations of due process both before and after implementation, pension benefits enhancements rolled through nearly every one of California’s cities and counties between 1999 and 2005. Many of them were rubber stamped by politicians who had no idea what they were doing. And many of them violated due process every step of the way.

If pension reform weren’t necessary, then litigation wouldn’t be worth considering. But what’s happening to Pacific Grove will happen elsewhere, if it hasn’t already. In hundreds of cases across California, cities and counties are just one sustained market correction away from selling off their parks, libraries and parking garages to feed the pension systems. And unlike tiny Pacific Grove, many of these larger cities and counties have a sufficient budget to take another shot in the courts to avert that fate. They may save not only their civic financial health. With appropriate reforms, they will also save the pensions.

It is impossible to summarize Moore’s entire body of work in a few hundred words. Pension reformers are urged to review this gripping story of how powerful special interests are destroying his home town, take notes, and think about how some of his ideas may be applied where they live.

*   *   *

Ed Ring is the executive director of the California Policy Center.

Read the entire series – The Final Chapter:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

During 2014 author John Moore published the first chapter of The Fall of Pacific Grove in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand
 – Conclusion, February 24, 2014

About John M. Moore:  Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34734) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

The Fall of Pacific Grove – The Immediate Future

The Final Chapter, Part 4 of 4

The facts and law indicate that the lawyers defending the city in the POA pension reform law suit, directed by the city attorney, and supported by a city council majority, consciously and intentionally failed to uphold two legal ordinances which could have prevented the financial “Fall of Pacific Grove.”

Current annual pension costs for Pacific Grove, including the pension bonds and a new $625,000-per-year charge are about $4 million, soon to increase to $5 million, then $6 million, and increasing forever. Its unfunded deficit grows at about $3 million per year, and in 9.2 years will grow at $6 million per year. Average revenues are about $17 million. The current unfunded deficit (based on a 3.5% income rate) is about $90 million; it will double every 9.2 years. Pacific Grove is upside-down financially.

It is important for pension reformers to understand that a legislative body, after negotiating with the unions, and after impasse, can reduce salaries under California law. Currently salary reduction is the only leverage for pension reform, but it will require the election of a majority loyal to the salary reduction plan to save cities and counties like Marin and Sonoma.

An alternative for Pacific Grove would be to terminate with CalPERS and modify pensions and salaries in a chapter 9 bankruptcy. Bonds like pension bonds get reduced dramatically in bankruptcy, and pay for the bankruptcy.

Neither of the two alternatives will happen in Pacific Grove, because it is impossible to apprise the voters of the impending peril. The local press does not have forensic capabilities in law and accounting, so it refuses to acknowledge the serious financial plight of Pacific Grove and surrounding cities.

20151019-UW-Moore4

 

Pacific Grove’s current commercial district contributes insufficient tax revenue to fund
six-figure pensions for the city’s retirees. Time to rezone and sell public assets!

 

The current Pacific Grove (union controlled) council majority plans to pay for pensions by attacking the current zoning laws and thereby build three large hotels and permit several bars in the downtown area. Pacific Grove is fully built out and has a dearth of parking spaces; it has one-way streets each way, so its current residential culture will disappear with such development. A second plan of the unions and the council is to sell off city property, like the recreation field and center. So far they have granted a long-term lease of its 18-hole municipal golf course. Tennis courts and parks will be sold off for development. There is no alternative without pension reform.

Lack of Impartial Lawyers and Financial Experts

Recent grand jury findings in Marin and Sonoma counties document corrupt pension enhancements since 2002, benefiting all unions, staff, the board of supervisors and the local pension administrators. Marin just announced that next year’s pension contribution cost for each supervisor is $54,000. The Marin county counsel receives an annual retirement payment and a salary that total about $475,000 a year. He was county counsel in Sonoma at the time the corrupt pension enhancements were adopted there.

In both Marin and Sonoma, the agents who planned the illegal pension enhancements were experts in the laws mandated for pension enhancement. The law mandated an actuarial declaration of the yearly cost of the proposed benefit. The lawyers, actuaries and financial experts in both counties had to knowingly and covertly by-pass the law. Including interest on pension bonds, each county now has about $1.5 billion in pension debt (up from almost zero).

Each county hired outside lawyers to respond to the grand jury reports. Each outside law firm treated the beneficiaries and the perpetrators of the wrong-doing documented in the grand jury reports as the client, and wrote astounding mythical legal opinions saying that everything was fine with the law. There were no lawyers in the system to protect the voters and the integrity of the grand jury findings. Where were the district attorneys? Evidently they intend to keep every penny of the illegal pensions.

The State Bar must enter this fray and set forth rules for public agency lawyers that provide legal representation to the voters and protect them from the insidious practices that occurred in Marin County, Sonoma County, Pacific Grove, and cities that went through bankruptcy without modifying pensions.

A Surprise Ending

In the game of golf, there is a saying, “Don’t ever say that things can’t get worse.” They can and do.

Take the POA v. Pacific Grove pension reform law suit as an example:

  1. As referenced above, the law firm of Liebert Cassidy Whitmore (LCW) sponsored a CEB-approved course about the acquisition of vested rights. The course was accurate and faithfully laid out the rules to establish a vested pension or OPEB in California: A+
  2. A partner from LCW applied the referenced principles to convince the trial and appellate court that the South Pasadena POA did not have vested rights based upon years of MOUs and reliance by employees, providing a medical benefit that had been reduced going forward: A+
  3. Pacific Grove was represented by LCW in the POA law suit discussed at length herein. The lead attorney in that defense was the same LCW partner who led the defense in the South Pasadena law suit, and totally failed to explain the principles set forth in the CEB course and in the South Pasadena law suit to Judge Wills, the voters, and the city were defrauded by their lawyers. F-

Conclusion

As demonstrated by this case study, also by the response to the grand jury reports in Marin and Sonoma counties, the current agencies of state and local government are opposite to the interests of its citizens.

I believe there will always be collective bargaining in the agencies; talk of eliminating collective bargaining is a pipe dream.

The problem is that in the current system, the governor, city and county managers and administrators, lawyers, and financial experts are de facto union members. That must change. The executive staff of each agency, particularly the lawyers, administrators, and financial experts, must be removed from the collective bargaining process.

It is beyond the scope of this effort to provide the solution. But as shown in Pacific Grove, Marin, and Sonoma, the current system of de facto union membership will trash each and every pension reform.

Read the entire series:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

*   *   *

Note to readers:  During 2014 author John Moore published the first chapter of The Fall of Pacific Grove in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand
 – Conclusion, February 24, 2014

The Fall of Pacific Grove – The Judge's Ruling

The Final Chapter, Part 3 of 4

The parties to the law suit made final oral arguments, and on June 18, 2013, Judge Wills issued his Statement of Decision, setting forth his conclusions and the legal reasoning that led to his conclusions.

First, he found that because the charter stated that the city council was directed to set the compensation of all officers and employees, the people could not process an initiative that set compensation. Recall that the attorneys for the city did not cite the case of Spencer v. City of Alhambra (or any of the 122 cases in which it had been cited) which said that articles in a charter which direct the body that is to set compensation do not preclude an initiative that sets compensation.

The city failed to argue that the city council had in fact adopted the initiative ordinance as its own, thereby complying with the charter.

The city failed to inform Judge Wills that a legislative act, like setting compensation, could only preclude the right to petition a compensation ordinance via the initiative if the charter had expressly excluded that power from the initiative process; and there was no such exclusion in the Pacific Grove Charter.

20151019-UW-Moore3

The Pacific Coast shoreline – rezoning these areas for high-density luxury hotels will
bring tax revenue to the city so they can afford to pay their pension fund contributions.

Measure R was affirmed by a vote of 74% of the voters. It had clarified that Article 25 of the charter was amended (if necessary) to assure that the voters retained its initiative power to set compensation and affirmed that employees did not have vested pension rights. The POA argued that Measure R was too late, because it didn’t apply at the time the council adopted the initiative as its own. Incredibly, the city attorney had not submitted his declaration indicating that Measure R was to apply retroactively to supplement the pension reform ordinance. He could have pointed out that the video of the council meeting placing Measure R on the ballot would have clearly shown that Measure R was to apply retroactively. That was the only reason for Measure R. His failure to point out that he had drafted Measure R to concur in time with the earlier adoption of the retirement reform ordinance was an omission much more serious than malpractice, it was a breach of his fiduciary duty to uphold the ordinance and to act with his singular fidelity to the city and its laws.

Second: Finding that employees had a vested pension right, Judge Wills said:

“The Retirement Contribution Ordinance is invalid in violation of Article 1, Section 9 of the California Constitution, the Contracts Clause. The employees were told that they were to receive retirement benefits under a CaLPERS administered plan with an employee cost set at a fixed percentage of their salary. The fluctuating portion would be borne by the employer.”

“Upon entering employment with such a promise, the employee has a vested right to earn a pension on those terms and conditions.”

“Measure R Resolution 10-055 violates the Contract Clause of the California Constitution for the same reasons.”

“Again, the Court reiterates that what is vested in the employee is a right to earn a pension on the terms promised him or her upon employment. That right commences when the promise is made and the employee then commences or resumes work.”

Based on the facts and the law, the judge was in error on every point he made to justify his conclusion:

  1. Per the city charter, compensation must be set forth in an ordinance. There was no ordinance that promised employees a vested pension right (ever).
  2. Prior to the trial, the court had ruled that the MOU (contract between labor and the city) did not grant a vested right.
  3. Prior to the trial, the court had ruled that the contract to administer pensions between the city and CaLPERS did not grant a vested pension right:
  4. As set forth in the LCW CEB course on vested rights, an “implied” vested right can only be implied from the legislative intent.
  5. Legislative intent by implication looks to evidence that showed the intent of the legislative body at the time of adopting an ordinance or adopting a contract (County of Orange case, South Pasadena case, and other cases). There are no appellate cases contra to this principle.
  6. An “implied” vested right can only flow from a statute or contract that created the benefit, in this case a pension. The issue was not whether a pension benefit was granted, but whether the council adopted an ordinance or contract that promised the benefit for life. The POA did not even argue that there was a statute that granted a vested right, and the only documents it had included in its complaint were stricken from the evidence. The city did not inform the court that a statute or contract was essential to the analysis.
  7. The opinion makes it clear that Judge Wills was unaware that the law presumes that an instrument does NOT create a vested right. He was not even aware that a statute or contract granting a benefit was a precondition to determining whether the benefit was vested (for life). So he hung his decision on alleged oral promises, promises which had not been made by the legislative body.
  8. Only the police unions sued, but the court invalidated the ordinances totally, thereby giving all of the unions not before the court and the non-union staff a gratuitous judgment. Each union negotiated most MOUs separately from other unions. There was no evidence related to their rights.
  9. If there had been a basis for invalidating the ordinances, it certainly was still valid for new hires. New hires had no right to an expectation of any kind. The ordinances would have limited the new hires to a pension whereby the city could pay no more than 10% of salary. Over time, if the city could survive through the cost of current employees’ pensions, Pacific Grove could have been saved by applying the ordinances to new hires. In fairness to the judge, the attorneys for the city did not even request that if all else failed, the ordinances clearly applied to new hires. In the San Jose pension reform law suit, defendant unions stipulated that the contested reform ordinance applied to new hires.
  10. The most critical flaw in the judge’s decision was his failure to apply the two-step process described in the LCW State Bar seminar: was there a benefit? Yes. Was it granted for life, or only for the term of the MOU? Only for the term of the MOU.

Read the entire series:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

*   *   *

Note to readers:  During 2014 author John Moore published the first chapter of The Fall of Pacific Grove in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand
 – Conclusion, February 24, 2014

The Fall of Pacific Grove – The City's Tepid Defense of the Vested Rights Lawsuit

The Final Chapter, Part 2 of 4

In June of 2010, the City of Pacific Grove (City) received an initiative petition from a citizen’s group containing the requisite number of signatures. Thereafter the city adopted the petition as an ordinance. The ordinance limited the city’s obligation to pay for employee pensions for work not yet performed to 10% of salary. Employees retained full credit for work already performed. At that time, the city attorney and city manager openly and intensely opposed the adoption on political grounds. In an attempt to raise a legal objection, the city attorney referred to Article 25 of the city charter, which indicated that compensation should be set by the city council. He argued that it could not be set by initiative.

There were two problems with the city attorney’s legal point: first, the council was in fact adopting the ordinance as its own, and second, because setting salaries was a legislative act, it was subject to the citizens’ power of initiative regardless of the gratuitous charter directive that the council should set salaries; that point had been held in the case of M.R. Spencer v. City of Alhambra (as of this writing it is good law and has been cited in 122 appellate cases). The only way that the people could have excluded “compensation” from the initiative power was to set forth the exclusion in the charter, and it had not.

The council approved the ordinance 6-1; the current mayor who was and is against any pension reform for Pacific Grove was the lone dissenter. He was elected mayor in November 2012 (along with two other pro-union anti-pension reformers), and that became important in allowing the unions, the city attorney, and city manager  to ultimately defeat the pension reform measure by throwing the law suit challenging the ordinances. What follows is a description of how they pulled it off.

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The Monarch Butterfly’s Pacific Grove Sanctuary – selling this to developers might
pay for one year of employer pension fund contributions! Maybe even two years!

When I first learned of the pension reform initiative, I had the three legal sponsors of the initiative delay obtaining signatures until I had researched whether PG city employees had vested contract rights by actual contracts or by a statute or the charter. Through public record requests, I reviewed the original charter (1927) and every change going forward. Until 1955, the charter expressly prohibited a pension. In 1955, the charter was amended to allow the council to enroll the city in a pension plan where the sole obligation of the city was to pay premiums. Another part of that charter provision allowed a “complete” (vested) pension plan by a vote of the people. In 1957 the council, without a vote of the people, authorized the city to join CaLPERS. Thereafter, there were no further amendments to the city charter dealing with pension rights.

I reviewed all of the resolutions, codes, and ordinances, together with all MOUs (contracts between the city and labor) and the contract and all amendments thereto between the city and CaLPERS from 1957 to date.

There was no document that even hinted that the pension rights were vested. To the contrary, because there was no vote of the people approving a “complete” pension it was clear that if it was claimed that joining CaLPERS created a vested pension right, it was void because of the absence of a vote of the electorate. As noted, in the POA case, the court had made a pre-trial ruling that there were no documents that created a vested pension right.

Article 16 of the city charter states: “The right of initiative and referendum is hereby preserved to the citizens of the City to be exercised in accordance with procedures proscribed by the Constitution and General Laws of this State.”  If the citizens wanted to prevent initiatives about compensation, then it needed to say so in Article 16, but did not. Otherwise, as a legislative act, fixing salaries and compensation was reserved to the people in the initiative power (Spencer). And of course, the council did in fact adopt the pension reform ordinance as its own.

As a safety measure, at the time that the council adopted the pension reform ordinance, it had the city attorney prepare a council-sponsored ballot measure that simply clarified that the people had the authority to sponsor an initiative about compensation regardless of Article 25. It also reaffirmed that employees did not have and never had vested pension rights The measure became Measure R on the ballot. Because it was sponsored as part of the pension reform ordinance, it was clearly intended to be retroactive to protect the ordinance from any claim that it could not save the ordinance because it came after adoption of the ordinance. The city attorney was clear that the measure was timely to protect the reform ordinance. Otherwise, why bother? And of course it was unnecessary because the law was so clear that the people retained the legislative power to set salaries and compensation. You can probably guess how the city attorney and SF counsel took a dive on this issue in the trial.

In November 2010, the Pacific Grove Police Officers Association et. al. (POA) sued the city, alleging that the new ordinances breached vested pension rights as set forth in MOUs and the contract with CaLPERS; that only the council could set compensation and setting compensation was not subject to the initiative (Article 25 of charter); and that plaintiffs had an “implied vested pension right” based on hiring advertisements and oral statements made by a city administrator to new hires.

During 2011 through November 2012, the law suit was processed on normal punch and counter punch practices. The city initially had notable success. On July 27, 2011, the court (not by the trial judge) made its order granting the city judgment on both POA claims that it had vested pension rights arising out of the MOUs between the city and the unions and arising out of the contract between the city and CaLPERS. The POA had not referred to any statute, code, resolution, or charter provision as the basis for a vested pension right, so that left the unlikely claim of a vested pension right by implication. But the law is clear, as set forth in the CEB seminar and the cases, that even such a claim must have its genesis in a legislatively adopted contract or a statute, and there was none. The trial court was not informed of this by Pacific Grove’s attorneys, who as experts in the legal issue, knew this requirement beyond all doubt.

In November 2012, Bill Kampe, a dyed-in-the-wool union backer was elected mayor, replacing then-mayor Carmelita Garcia. Garcia was a determined pension reformer whose love of the city was like a tattoo on her forehead.  After Kampe’s election, defense of the POA case by the city deteriorated from winning to lost; based on its attitude and statements, it became clear that the Kampe council majority hoped that the city would lose the law suit. Per the charter, the council, the city attorney, and the city manager all had an unqualified duty to enforce the pension reform ordinance. Measure R passed by a vote of 74% of the voters and thereby created a second pension reform ordinance that was challenged in the POA law suit.

I was concerned because it was clear that neither the city attorney, nor the San Francisco law firm defending the city, was aware of the content of my research of the charter, codes, resolutions, ordinances, MOUs, and other contracts. The history about the prohibition in granting a vested pension in the charter at the time PG joined CaLPERS would have defeated any claim of a vested pension right. And in particular, the CA Supreme Court had stated that there could be no implied vested right if it violated a legal prohibition. The vote requirement of the charter was such a prohibition.

When the POA sued, I protested to the council and the city attorney about the city attorney’s bias as openly displayed by him at the time the city adopted the pension reform ordinance. I, joined by the sponsors of the initiative, demanded that he not be involved in defense of the POA law suit. Regardless, he was allowed to choose and to supervise the lawyer selected to defend the case. In doing so, he restricted the lawyers from interviewing Dr. Daniel Davis and me.

Dr. Davis was the author and one of the three sponsors of the initiative adopted by the council. He had served for years on the city planning commission and two terms as a member of the city council. He was a practicing mathematician, with graduate degrees from Georgia Tech and a Ph.d. in math from Cal Tech. He had worked as a scientist at the Monterey Bay Aquarium Research Institute (MBARI) for 18 years, interfacing with David Packard. He was the key representative of the thousands of citizens favoring the pension reform (74%). He was ably qualified, and in 2008 wrote an academic-quality article about the risks arising from defined benefit pension plans. How could he not be allowed to participate in the defense of the law suit? Unless, of course, the mayor and the attorneys wanted to lose the law suit (at a defense cost of hundreds of thousands of dollars).

After the 2012 holidays I became very concerned that the city was not prepared for the trial of the POA law suit. I had made numerous e-mail requests to the city council and the SF attorneys demanding that Dr. Davis and I be allowed to participate in the defense of the vested rights case. Trial of the case was set for March 21, 2013. I met with Mayor Kampe and councilmen Cuneo and Huitt on March 13, 2013 and explained the need for our participation in the case. I received nothing in response, just blank looks. No “Yes,” no “No,” just “This meeting is over.”

On February 22, 2013, each side in the law suit filed its trial brief. I read both briefs and concluded that the city attorney and the SF lawyer wanted the city to lose the case. Why did I believe that? Most importantly, the city brief did not inform the judge about the law and evidence necessary for the POA to prove a vested right. The judge should have at a minimum been provided the six points listed in Part One from the LCW CEB seminar.

As set forth in the CEB seminar, when analyzing whether a pension or other benefit is vested, the beginning point is the language of the document conferring the benefit; and that vesting is a two-step process: is there a valid contract conferring the benefit, and if so does the contract contain an express or implied term that the benefit is not just for a limited term, but vested for life? Most importantly: there is a presumption that a vested right has not been created and the POA had the burden of producing evidence (the burden of proof) to overcome the presumption. The judge was not even informed of this basic principle.

The law in the case was so basic. The attorney for the city, supervised by the city attorney, did not inform the trial judge of the simple rules for determining the existence of a vested contract right. The omission concerning the presumption against creation of vested right, that put the burden of proof on the back of the POA, was well beyond legal malpractice.

As I have demonstrated, the judge assigned to the case had no understanding of the city’s defenses because the trial brief did not inform him of the basic law of vested contracts. I attended the first day of the trial. It was assigned to Judge Wills. By agreement, the case was submitted on declarations, documents, and judicial notice of documents. There was no testimony.

Judge Wills acknowledged that he had never seen the file until that moment and that he would review the file and the trial briefs and decide the matter. The city had turned a case that could not possibly be lost into a certain loser. I wrote several e-mails to the council and the press explaining how the case had been intentionally thrown.

Was there a statute, charter provision, code, ordinance, or resolution that provided for a vested pension benefit? No. To this day, none has been asserted by the city or the unions. There is none.

Was there an implied term in any of the statutes, charters, codes, ordinances, resolutions, or contracts that created an implied vested contract right? As set forth in numerous cases like Retired Employees of Orange Co., Inc. v. County of Orange, the implied vested right must flow from concurrent evidence surrounding the time of adoption of the contract or statute (minutes, agenda reports, etc.), not an oral utterance or publication for new hires years later. Attorneys reading this must be thinking, “How in hell could the court admit a hearsay statement made 50 or more years after adoption of the benefit? How could one witness be allowed to testify in a declaration that all new hires were told they had a fixed-cost pension benefit?” Even the declaration of the witness was not so raw as to say that they had been promised the benefit for life. Both the city and SF attorney understood that for the last 40-50 years, retirement benefits for new hires were set forth in a writing, an MOU agreed to after collective bargaining; the best-evidence rule required that the writing, not an oral comment of one union member to another, was the best evidence of what employees were to receive as pensions. And the court had already ruled that the MOUs did not create vested contract rights. But the attorneys for the city could have, but did not, object to the hearsay declaration of the union witness. In my view, a failure of that magnitude could only be intentional. Both the city an SF attorneys were experts in this area of the law.

According to the Pacific Grove Charter, “The compensation of all officers and employees shall be fixed by Ordinance.” Under the law there are no exceptions to such a provision. In June 2012, LCW in its California Public Agency Labor and Employment Blog discussed the case of San Diego Firefighters, Local 145 v. Board of Administration of the San Diego City Employees Retirement Board. In the case, the appellate court held that because the benefit in question had only been approved by a resolution and not an ordinance as required by the city charter, the contract granting the benefit was void. So clearly, oral statements by administrators describing compensation as asserted by the POA could not possibly grant a vested right. Only an ordinance could do that. The case also held that there was no estoppel based upon the employees’ reliance on the contract. The case was not cited in the city brief.

As set forth in the LCW CEB seminar outline, it is “legislative intent” expressed at the time of the adoption of a contract or statute granting the pension benefit that is critical to establishing an implied vested pension right. Why? Because, by law, the only intent that could create a vested contract right is the legislative intent (the city council); after it adopts a contract or statute, the only type of evidence that supports an implied claim is evidence “concurrent with the adoption,” but not set forth in the document.

An administrator informing a new hire of the current pension plan orally or in a publication of any kind 50 years later cannot prove the required legislative intent.  LCW proved that beyond all doubt in its defense of the city in the South Pasadena case discussed above. To date, all of the appellate cases that dealt with a claim of an implied vested right have been lost by the claimants. In every case, like the Orange County case and the South Pasadena case, claimants argued that decades of  MOUs proved a vested benefit right. They lost because they could not show legislative intent by evidence concurrent with the time of adoption of the benefit.

What evidence would provide the legislative intent to grant a vested right although the contract or statutes did not? I believe a concurrent agenda report or benefit committee report that made it clear that the adopted benefit was intended to be for life would do the trick. But that is just my opinion.

After reviewing the trial briefs, Dr. Davis and I independently did what we could. Dr. Davis wrote a letter to the council indicating that the city’s brief did not set forth even a token defense, let alone the clear winning evidence. Dr. Davis said: “We have repeatedly pointed out that the City Attorney’s opinions . . . created a conflict of interest with regards to a defense of the 2010 initiative. . . . Now that the City has utterly failed to defend the fundamental basis of pension reform in the POA law suit the City has proven that our fears were justified.”

I wrote several e-mails to the city council, the SF attorney defending the case, and even met with the pro-union mayor and two of his council yes-men prior to trial. I expressed that based on the city trial brief, the case was not ready to be tried, would be lost, and that it was imperative that Dr. Davis and I be allowed to participate in defense of the city’s case. It did not happen. The Kampe council majority, the city attorney, city manager, and the unions made sure that the city lost the pension reform law suit.

Read the entire series:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

*   *   *

Note to readers:  During 2014 author John Moore published the first chapter of The Fall of Pacific Grove in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand
 – Conclusion, February 24, 2014

Pension Reform Requires Mutual Empathy, not Enmity

Attending a high school reunion after more than a few decades ought to be a memorable experience for anyone. Hopefully the occasion is filled with warmth and remembrance, rekindled friendships, stories and laughs. But as our lives develop and we build our adult networks based on shared values and common professions, a high school reunion offers something else; a unique opportunity to meet people we knew very well and still care about, whose lives all went in completely different directions.

My high school classmates chose a diverse assortment of careers. Some became engineers, some went into sales, some are entrepreneurs; some work in high-tech, some in aerospace, others in construction. And some are teachers, some are police officers, and some are firefighters. Without any exceptions I could observe, all of them made conscientious choices, all of them worked hard, all of them were responsible with their savings and investments. And now they’ve reached the age where whatever retirement plans they made are unlikely to change much.

How to ensure government pensions are not blown up by the next sustained market downturn is a complex challenge, complicated further by ideological divisiveness and political opportunism. On one side are powerful financial special interests in the form of the pension systems, and their government union allies. On the other side are poorly organized taxpayer activists whose grassroots strength, combined with fiscal reality, attract support from increasing numbers of local and state politicians. But caught in the middle are the people who served in government jobs, the overwhelming majority of whom did those jobs well, and have earned the right to retire with dignity. It’s personal.

Figuring out how to make government retirement benefits financially sustainable should be part of a bigger conversation, which is how all Americans are going to have the ability to retire with dignity. It is part of a conversation even bigger than that – how to nurture sustainable economic growth while coping with an aging population, environmentalist considerations, globalization, debt/GDP ratios at historic highs, and mushrooming new technologies that present unprecedented potential to eliminate human jobs. All of these mega-trends are this generation’s challenge, all of them are urgent, all of them are personal.

It’s easy to solve all of these challenges if you are willing to ignore reality and hew to an ideological pole-star. Libertarian answers to social and economic policy issues inevitably advocate privatization. Socialist theorists inevitably advocate state ownership. But both of these ideologies, in their most orthodox forms, are utopian. Libertarians envision a stateless, humane society based on personal liberty and private ownership. Socialists envision a stateless, humane society based on common ownership. If these extremes are so absurd, why is the center so uninviting?

It’s a long way from Silicon Valley to utopia, but in that fabled land, anchored by what was only referred to as San Jose back when we were high school students there, thoughtful futurists abound. Some think we shall all become independent contractors, linked by technology to virtual employment opportunities all over the world. They believe secure full time jobs will wither away entirely, and everyone will thrive as free agents in a wired world. Others think automation will eliminate so many jobs, and create so much abundance, that guaranteeing a minimum income to everyone will be feasible and necessary, whether they work or not. The conversation taking place among the Silicon Valley elite regarding the political economy of our future is helping to define that future as much as their innovative new products. It’s a conversation worth listening to without ideological blinders.

My classmates who chose careers in public service, just like my classmates who pursued careers in the private sector, are starting to retire. Just like everyone else – our friends, our families, our neighbors – they want answers, not ideology. They want constructive solutions, not controversial schemes. Is there enough room in the political center to permit a conversation that sticks to facts and practical solutions, or will the professional chorus of perennial opponents crush them, abetted by all those millions who are comforted by inflexible ideologies?

One ideologically impure, centrist way to save defined benefits would be to borrow concepts from Social Security. Reformed defined benefits would be (1) awarded according to progressive formulas, where the more someone makes, the less the pension benefit is as a percent of their final salary, (2) there is a benefit ceiling which no individual pension can exceed, (3) pension contributions in the form of employee withholding can be increased without commensurate increases to overall salary, (4) annual pension accrual multipliers, going forward for active workers, can be reduced depending on the system’s financial health, and (5) when necessary, pension benefits to existing retirees can be reduced, in order to maintain the overall financial health of the system. Often that can be as little as skipping a COLA.

When political professionals, volunteer activists, policymakers, commentators, analysts, or anyone else influencing the pension debate speak on the topic, they should imagine the following situation: With every word, they are looking into the eyes of two close friends or family members, two people nearing retirement, one of them about to collect a government pension, the other a taxpayer who will rely on Social Security supplemented by a lifetime of personal savings. People who didn’t create the financial challenges we collectively face. People we love.

*   *   *

Ed Ring is the executive director of the California Policy Center.

The Fall of Pacific Grove – A Primer on Vested Rights

The Final Chapter, Part 1 of 4

Editor’s Note:  In early 2014 we published a eight part series, “The Fall of Pacific Grove,” written by retired attorney and Pacific Grove resident John Moore. It describes in detail how this small coastal city slid inexorably towards insolvency by yielding, again and again, year after year, to pressure from local government unions to award unaffordable pension benefits to city employees. Pacific Grove’s challenges are a textbook case of how there is simply no interest group, anywhere, currently capable of standing up to the political power of government unions. This small city now faces the possibility of selling off every asset they’ve got, primarily real estate, to private developers to raise cash for the city’s perpetually escalating annual pension contributions. They face the possibility of rezoning to allow construction of huge tourist hotels that will destroy the quality of life for residents, in order to enable new tax revenue producing assets to help pay the city’s required pension contributions. Anyone familiar with local politics knows that one of the only special interests with the financial strength to oppose government unions are major developers. This end-game, where public assets are sold to developers to generate cash for pension contributions ought to put to rest any remaining debate as to who runs our cities and counties. Of course developers aren’t going to oppose government unions. By extension, and in a tragic twist of irony, why should any libertarian leaning private sector special interest oppose government unions? As these unions drive our public institutions into bankruptcy, private sector investors buy the assets of our hollowed out public institutions at fire sale prices.

In this new four part series, author John Moore challenges the so called “California Rule” that supposedly makes pension modifications – even prospectively – legally impossible. But he also summarizes another legal approach to reform, one that takes into account the lack of due process and the ignorance of specific commitments made in the original granting of financially unsustainable pension benefit enhancements. It is an approach that has many facets and can be utilized in many California cities and counties. Sadly, Moore also exposes why this approach to reform, while viable, was only tepidly attempted in Pacific Grove. Regardless of how Pacific Grove’s situation evolves, what Moore has come up with here offers insights to anyone serious about pension reform in California.

The California State Bar governs the practice of law in California. Licensed active attorneys must continue their education by attending Continuing Education of the Bar (CEB) courses on a wide variety of subjects. Recently the law firm of Liebert Cassidy Whitmore (LCW), a large multi-office law firm emphasizing public law, was authorized by the State Bar to present a CEB course entitled Understanding “Vested” and Other Post-Employment Benefits. In order to understand precisely how the city government of Pacific Grove (city attorney, city manager, unions, and a union-backed council majority) defeated citizen pension reform, I can now, for the first time, with reliance on the course materials and the seminar, set forth important established principles of vested pension rights in California government agencies without being subjected to the retort that my assertions are only my opinions. The LCW seminar materials provide ample gravitas to my assertions. But first, here are some general principles that limit the applicability of vested right determinations.

Principle One: As set forth in the CA Supreme Court case of Valdez v. Cory (1983), state employees have vested pension rights. The court found there was a statutory scheme that gave state employees a contract right that continued for the life of each affected employee and was protected by the state and federal contract clause. Cases discussing state employee pension rights are not germane to the issue of whether a local agency’s employees have a vested pension right, because the discussions in the state employee cases assume that the employees have vested rights, while in non-state cases the issue is whether the legislative body granted a vested right.

Principle Two: California Teachers Assn v. Cory (1984), like Valdez, grants teachers in the State Teachers Retirement System a vested pension right.

Principle Three: Certain counties and some other local public agencies provide pension benefits pursuant to the County Employee Retirement Law (CERL). There is no case holding such benefits as vested, but a government code provision provides that benefits cannot be reduced or eliminated without the consent of all agency unions. A trial judge in Ventura found that unlike CaLPERS, CERL agencies did not have the right to terminate its plan. Its pensions are clearly vested-like.

Principle Four:  The California Constitution grants plenary authority to charter cities to provide for compensation of officers and employees (Article XI, Section 5[b]).

20151019-UW-Moore1
Will Pacific Grove’s parks be sold to developers to fund pension contributions?

There is no sweeping principle that provides a vested-right litmus test for particular at-law cities, charter counties, charter cities, cities and counties in CaLPERS and other cities and local municipal agencies.

The LCW CEB seminar sets forth the general rules that govern the process to determine whether a governing body had granted a vested pension or other post-employment right. Here is a summary  of those rules, based on the seminar and CEB course documentation:

  1. Vested rights are created by contract (that contract is protected by the state and federal contract clause). Contracts can create vested rights, but also charters, ordinances, resolutions, codes, etc., dependent on the expressed intention of the legislative body.
  2. When analyzing whether a pension or other benefit is vested, the beginning point is the language of the document conferring the benefit.
  3. Vesting is a two-step process: Is there a valid contract conferring the benefit, and, critically, does that contract contain an express or implied term that the benefit is only for a limited term or is it vested for life?
  4. The established rule, supported by a legal presumption, is that a statute–like a charter, ordinance, resolution, or contract–does NOT create vested contractual rights. Employees have a heavy burden of proof to overcome the presumption.
  5. Written contracts like MOUs (contracts between labor and the employer) and contracts with a pension administrator like CaLPERS have the potential to contain contract language vesting a benefit, but rarely do. In the 2013 Pacific Grove vested rights law suit, the court, in a pre-trial ruling, held that neither the MOUs, nor the contract with CaLPERS, granted vested contract rights. Recently, the US. Supreme Court in M&G Polymers, Inc. v. Tacket (2015) held that benefits (medical) provided under a collective bargaining agreement are presumed to expire when the contract expires.
  6. The final area covered in the seminar dealt with implied vested contract rights. As an example, for analysis, LCW discussed the 2015 case of South Pasadena Police Officers Assn et al v. City of South Pasadena. LCW in fact defended that city against a claim that plaintiffs had a vested contract right to certain medical benefits at a fixed cost. To succeed in such a claim, the facts must show that the legislative body intended to grant the claimed benefit for life. Such claims are very difficult to prove, and the LCW attorney successfully and adeptly defeated the claim.

In the Pacific Grove case, the Pacific Grove POA argued that evidence set forth in the affidavit of a police officer and job advertisements indicated that new hires were entitled to a “fixed-cost pension benefit” and hence an implied vested pension right for all. That turned out to be the KEY issue in the law suit.

*   *   *

Why is there so much confusion about whether a government agency has granted a vested pension right? In my experience, the present confusion is caused by statements by commentators, CalPERS, city, county, and agency lawyers describing the law that applies IF it has been established that a vested contract right existed. Quotes from Allen v. City of Long Beach (1955) are consistently out of context.

Kern v. City of Long Beach and Allen, were the foundation of the California Rule, which holds that in California (and 12 other states), if employees have a vested pension, not only pensions earned are vested, but employees are entitled to the rate of the current benefit and any increases for life (a benefit for work not yet performed cannot be eliminated). Earlier, in Kern, the Supreme Court held that a certain pension right set forth in the Long Beach charter could not be unilaterally eliminated by the city because current employees had a vested contract right created by the charter. A later attempt by the city to increase the employees’ contribution rate from 2% to 10% was struck down in Allen as a violation of that charter-granted vested contract right.

The confusion arises because quotes from Kern and Allen are cited as if the state and federal contract clauses created a vested pension right upon the date of employment without first establishing that a contract or a statute (charter, ordinance, resolution) had created the vested contract right for work not yet performed. In Pacific Grove, there was never any such statute, or any vested right to any employment contract ever adopted by the city legislative body or the charter. In both Kern and Allen a charter provision created such a right. The federal and state constitution protected the contract right, but did not and could not create it for a charter city like Long Beach or Pacific Grove.

Part Two will discuss Pacific Grove’s unprecedented non-defense in opposing the POA claim that the Pacific Grove police had a vested pension right based NOT on a document indicating legislative intent, but  by a claimed instance of an oral contract between one administrative city agent, possibly the police chief, and one newly hired police officer, opining that all new hires had been told they had a fixed-cost retirement benefit.

Additionally, both Kern and Allen distinguished modifications by an agency when there is no financial threat of the pension system losing its integrity (the ability to pay pensions). If facts were presented showing that a pension system was flawed, e.g. that by mistake or fraud its cost was so great that all pensions were threatened, the system could be modified without off-setting benefits. The most oft-quoted misstatement of Allen is: “Reasonable alterations of pension rights must bear some reasonable relation to the theory of a pension system and its successful operation, and changes to a pension plan which result in disadvantage to employees should be accompanied by comparable new advantages.” The court went on to say (this is always omitted by commentators): “There is no evidence or claim that the changes enacted bear any material relation to the integrity or successful operation of the pension system.” Also in Allen (and earlier in Kern), the court said again: “The city does not claim (that changes) were necessary to preserve the pension program applicable to persons employed prior to March 29, 1945 (the date pensions were eliminated in Long Beach) and there is no indication that the city would have difficulty in meeting its obligations.” Several cases where pensions were reduced without off-setting benefits, because the integrity of the pension system was in peril, were cited in Kern and alluded to in Allen.

In other words, Kern and Allen dealt with a city where there was no threat to the ability of the system to pay pensions, but both cases made it clear that even agencies that have created vested pension rights may claim that the vested pension rights are unsustainable, but it must offer financial evidence that the system is failed. A court, pursuant to Kern and Allen, could find that the financial condition justified a reduction of vested benefits without off-setting benefits. No such evidence was offered in Kern or Allen, but it is maddening that pension reformers do not demand that legislative bodies reduce even vested benefits pursuant to the integrity doctrine of Kern and Allen. Almost all California pension systems are irrevocably under water financially. And the assertion that Allen stands for the proposition that vested pension rights have been created by the courts without the creation process described in the CEB LCW seminar is simply based on ignorance.

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34734) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

Read the entire series:

The Fall of Pacific Grove – A Primer on Vested Rights
 – The Final Chapter, Part 1, October 20, 2015

The Fall of Pacific Grove – The City’s Tepid Defense of the Vested Rights Lawsuit
– The Final Chapter, Part 2, October 27, 2015

The Fall of Pacific Grove – The Judge’s Ruling
– The Final Chapter, Part 3, November 2, 2015

The Fall of Pacific Grove – The Immediate Future
– The Final Chapter, Part 4, November 9, 2015

*   *   *

About the Author:  John M. Moore is a resident of Pacific Grove, Ca. He is a licensed member of the California State Bar (#34749) and a member of the “Public Law” section of the State Bar. He is retired and no longer practices law, but has Lexis/Nexis for research. John graduated from San Jose State College with majors in Political Science and Economics (summa cum laude). He then received a JD from The Stanford School of Law and practiced business and trial law for 40 years before retiring. In 1987, he was the founding partner of a Sacramento law firm that he formed in 1987 to take advantage of the increased bankruptcies brought about by the Tax Act of 1986. Although he did not file and manage bankruptcy cases, he represented clients in numerous litigation matters before the bankruptcy court, including several cases before judge Klein, the current judge of the Stockton bankruptcy case. He is an admirer of Judge Klein, for his ability and accuracy on the law. As managing partner, he understood the goals of bankruptcy filings and its benefits and limitations.

*   *   *

Note to readers:  During 2014 author John Moore published the first chapter of The Fall of Pacific Grove in an eight part series published between January 7th and February 24th. For a more complete understanding of the history, read the entire earlier series:

The Fall of Pacific Grove – How it Began, and How City Officials Fought Reform
 – Part 1, January 7, 2014

The Fall of Pacific Grove – How City Thwarted Reform, and CalPERS Squandered Surpluses
 – Part 2, January 14, 2014

The Fall of Pacific Grove – CalPERS Begins Calling Deficits “Side Funds,” Raises Annual Contributions
 – Part 3, January 21, 2014

The Fall of Pacific Grove – Outsourcing of Safety Services Causes Increased Pension Deficits
 – Part 4, January 28, 2014

The Fall of Pacific Grove – Anti-Pension Reform Mayor Claims to Favor Reed Pension Reform
 – Part 5, February 3, 2014

The Fall of Pacific Grove – Privately Owned Real Property are the Only Assets to Pay for Pensions
 – Part 6, February 11, 2014

The Fall of Pacific Grove – The Cover-Up by the City After the Hidden Actuarial Report Surfaced in 2009
 – Part 7, February 18, 2014

The Fall of Pacific Grove – Conclusion: The “California Rule” Cannot Stand
 – Conclusion, February 24, 2014

Funding Pensions for Unionized Government Workers – It's Never Enough

Editor’s Note:  Here’s another government pension horror story coming from Chicago. If you think it can’t happen here, think again. California’s political system, state and local, is just as dominated by government unions as Illinois. At least in Illinois, Governor Rauner is using every legal and political weapon he can possibly muster to fight these unions. California Governor Jerry Brown, who knows better, is hoping incremental reforms combined with incessant tax increases will save the pension system. As Jon Coupal points out here, California’s taxpayers have one advantage – Proposition 13. Without the limits Prop. 13 places on property tax increases, California’s urban residents could easily end up facing what Chicago’s residents currently face, or what has already happened in New Jersey, where people living in modest homes pay annual property taxes of $15,000 or more to support – just like in Illinois, pensions for unionized public employees. First Detroit, then Chicago. One sustained market downturn, and Los Angeles will be next.

Chicago, Carl Sandburg’s “City of the big shoulders,” is about to find out just how heavy a tax burden homeowners are able to bear. Mayor Rahm Emanuel has revealed his plan for a massive property tax increase to pay for unfunded pension obligations. And for taxpayers, it isn’t pretty. The mayor wants a $543 million increase in property taxes to cover police and fire pensions, as well as additional taxes and fees to close a projected $745 million budget shortfall.

How much this will cost the average homeowner is not yet clear. Emanuel is seeking approval from the Legislature to exempt those homes worth less than $250,000 from the increase, meaning more valuable properties would absorb the entire burden.

The uncertainty may also be contributing to a decline in home values in recent months, as shown by the Case-Shiller Home Price Index. Buyers may not be so ready to cut a deal that will see them inheriting a massive property tax hike.

In order to illustrate the seriousness of the city’s fiscal crisis, and perhaps to make it easier to extort more from property owners, Emanuel is claiming that without the additional revenue, public safety will be decimated. Twenty percent of the police force and forty percent of firefighters will lose their jobs, he threatens.

Still, two years ago, the mayor foreshadowed the coming tax increase when he warned that in order to pay the mounting bill for government employee pensions — a bill that would triple in 2015 when a balloon payment comes due — property taxes could be forced to go up 150%.

This is a frightening scenario for homeowners, but not so much for homeowners in California. For us, notwithstanding equally daunting pension problems, the good news is Proposition 13. Although city mismanagement is also common to California – a number of cities have been forced to file for bankruptcy in recent years, largely due to exploding government employee pension debt – officials are prohibited by Proposition 13 from soaking property owners to cover up their dereliction. While Chicago homeowners are sitting ducks for higher property taxes, in California, increases are limited to two percent annually.

Add to the property tax limitations that Proposition 13 gives voters the final say on new local taxes and requires a two-thirds vote of each house of the Legislature to increase state taxes, and it becomes easier to understand why it is a target of so many Sacramento politicians, most of whom owe their election to their government employee union allies. If they can eliminate the impediments to tax increases established by Proposition 13, the politicians will be in a much better position to repay and reward their political benefactors.

Without Proposition 13 Californians could soon experience what it is like to live in Chicago without ever having to leave their homes. And it could be even worse. Chicago’s budget director has already gone on record as saying Mayor Emanuel’s property tax increase is not enough.

Jon Coupal is president of the Howard Jarvis Taxpayers Association — California’s largest grass-roots taxpayer organization dedicated to the protection of Proposition 13 and the advancement of taxpayers’ rights.

California's Pensions Are An Economic Burden, Not Benefit

Last month an article entitled “Pensions as Economic Stimulus” was posted to Fox & Hounds Daily. The author, Charles Beckwith, is a former CalPERS senior financial manager. Beckwith’s article, while thoughtful, invites a response. Because California’s pension systems may stimulate the economy in some ways, but equally significant ways, they are killing the economy.

Beckwith’s primary argument is this: California’s pension systems pay out over $3.0 billion per month to retired state and local government workers, who go out and spend this money, “at auto repair shops, home improvement centers, tuition for grandchildren, hair salons, rent, and at a thousand other small and large businesses.”

The problem with this reasoning rests on a fundamental assumption Beckwith makes, which is that all the money taken from taxpayers to fund these pension investments would not have created a similar economic stimulus if they had been free to spend it themselves. Mr. Beckwith goes on to extol the virtues of professional financial managers placing pension fund investments around the world, then pouring the returns back into California’s economy, but when he does this, he ignores the actual cash flows in and out of California’s state and local pension systems.

To dive deeper into the cash flows of California’s pension systems, unfortunately we must rely on the scandalously outdated, yet most recent available consolidated financial report for California’s pension systems, the Public Retirement Systems Annual Report for the fiscal year ended 6-30-2011, released over two years ago. But the proportions have probably not changed all that much in the last four years. And as can be seen on page xxii, figures 12 and 13, during that fiscal year taxpayers contributed $27.6 billion to California’s state and local government pension funds, and retirees collected $36.2 billion. This is a net benefit of $8.6 billion per year – IF you assume 100% of retirees still live in California.

A May 2015 analysis conducted by the Sacramento Bee on CalPERS retiree payments showed that 15% of their participants live outside California – if we assume that percentage is true for all California’s state and local government retirees, then that $36.2 billion shrinks to an in-state total of $30.8 billion. This more likely net benefit, $3.2 billion per year, represents a mere 0.14% of California’s $2.3 trillion economy.

That’s nothing, Mr. Beckwith. In the most recent year for which we have consolidated numbers, pension funds took $27.6 billion from taxpayers, then gave 30.8 billion back to retired government workers living in California. That’s $3.2 billion, net, that trickled down to private sector participants in an economy over 700 times larger.

With benefits come costs, and in this area, Beckwith, along with virtually every other defender of state and local government pensions, skirts the unpleasant realities. A California Policy Center study completed earlier this year, “California City Pension Burdens” used State Controller data to compile the employer pension contributions as a percent of total revenue from taxes and fees for every city in California. It estimated that pension fund contributions in 2015 for all California’s cities would amount to 6.9% of ALL revenue into those cities – including cities who run their own utilities – water, power, waste management. Equally significant, using figures provided by the pension systems, it showed that on average, these pension contributions would increase by 50% between now and 2020, to eventually constitute 10.3% of all revenues to California’s cities. These estimates do not take into account the current and projected funding for retirement healthcare, certain to add additional costs. Nor do they take into account the inadequate funded status of CalSTRS, or the many independent pension systems serving California’s counties, which are also supported by taxpayers in those cities.

In many cities, of course, pension burdens cost far more than 6.9% of all revenues. In San Jose, the total is 13.9% of all revenue. San Diego, 9.3%. And the already announced 50% increase to these employer pension contributions depends on a perilously weak assumption; that markets will continue to deliver 7.5% average annual returns on investment for the next several decades. Good luck with that.

At what percent of total revenue will everyone agree that funding public employee retirement benefits are “crowding out” other services and constitute the hidden agenda behind ALL proposed increases to taxes and fees? 10%? We’re already there. 20%? That’s reality already in many cities and counties. 30%? That’s where we’re headed.

Mr. Beckwith goes on to defend the defined benefit, writing that “the structure and strategy of a defined benefit plan cannot be debunked. It is a social benefit that should be available to all Americans in both private and public employment to assure a stronger American economy and social stability.” But he doesn’t explain what he means by “structure and strategy,” providing yet another frustrating example of why most reformers have given up on the defined benefit and almost universally advocate moving state and local workers onto individual 401K plans.

Constructive solutions to California’s state and local government worker defined benefit plans would include a “structure” that permits reductions to benefits – such as a suspension of retiree cost-of-living increases, or a reduction in rates of future annual benefit accruals – when market returns fail to meet expectations. And they might include a “strategy” that would return to the financially sustainable system that existed prior to Prop. 21, passed in 1984, which greatly loosened restrictions on investing in stocks, enabling much higher and much riskier rate-of-return projections, and before SB 400, passed in 1999, that started the process of retroactively increasing pension benefit formulas for what eventually became nearly all of California’s state and local government workers.

In an otherwise nuanced article, Beckwith’s one foray into demagogy was when he characterized investment setbacks as the result of the “Wall Street induced economic recession.” Because ever since Prop. 21 passed over 30 years ago, pension funds and “Wall Street” have been joined at the hip. When you’ve got nearly $4.0 trillion in state and local government pension funds chasing 7.5% annual returns, with no consequences other than to cut services and increase taxes to cover your shortfalls, you are indelibly part of the problem with financial special interests in America.

Pensions as they are today, Mr. Beckwith, are an economic burden to everyone in California who doesn’t have one, but has to pay for it anyway.

*   *   *

Ed Ring is the executive director of the California Policy Center.

Median Total Compensation for Redwood City Firefighters – At Least $226,365

Back in February 2014 the California Policy Center publicly announced the Transparent California website, developed in partnership with the Nevada Policy Research Institute. An article covering this announcement was posted on the Forbes Magazine website, entitled “Hundreds Of California Government Employees Are Paid Over $400,000 A Year,” which a review of 2013 Transparent California data (2014 data is still being assembled) easily confirms. As a matter of fact, in 2013, total compensation in excess of $400,000 was paid to 1,292 public servants in California. A staggering 2,818 of California’s public employees collected total compensation in excess of $300,000 in 2013.

Some have argued that it is misleading to claim people are making, for example, over $400,000 per year, when in fact the $400,000 being referenced is total compensation, not regular earnings. We reject this argument categorically. It is incumbent on anyone who assesses compensation to treat total compensation as the only valid measurement both for comparative purposes and, especially, when considering employer costs. Total compensation represents the actual cost to the employer, and it represents the actual value earned by the employee. Every penny of total compensation, whether it’s to fund future retirement benefits or to pay for current benefits such as health insurance, is something a worker will have to pay for themselves out of their regular earnings, unless it is instead paid for by the employer.

When talking about how much we pay our public servants, we contend that it is misleading to reference anything but total compensation.

The Forbes article published in Feb. 2014 also cited examples of excessive pay from Redwood City, which raises another issue, which is the reliability of the data gathered. As it turns out, and as the city acknowledged, the data provided to Transparent California by the city was not intentionally misleading, but easily misunderstood. This lead to the author of the Forbes article claiming that “nine employees made over $400,000 in total compensation with a total of 33, mostly police and fire department employees, making over $300,000 in total compensation in 2012.” The city’s response:  “No Redwood City employee earned more than $400K. Furthermore, the correct number of employees earning more than $300K is 28, not 33 as stated in the op ed.” The city had put “exit incentive” payments into two data columns instead of just one and they got double counted by Transparent California’s researchers during the formatting process.

These are innocent mistakes. It’s worth noting that even the State Controller issues this disclaimer on all of their downloadable raw data spreadsheets showing public employee compensation – “the information presented is posted as submitted by the reporting entity. The State Controller’s Office is not responsible for the accuracy of this information.”

The real question, the real issue that isn’t going to go away, is how much should we be paying our public servants? How much can we afford to pay, and how much is fair both to these employees but also to taxpayers? So let’s take a look at 2013 data for Redwood City’s firefighters. We choose firefighters because the fire department in Redwood City, just as in nearly every other city in California, has the highest average pay and benefits of any major department.

To make this assessment, we used data provided to the State Controller for three years, 2011, 2012, and 2013. Here are the results:

Redwood City Compensation Analysis  –  Full Time Firefighters
20150601-UW-Redwood

As can be seen, during 2012 these firefighters earned significantly more overtime pay, probably because in 2012 full-time staffing was down from 2011, but then recovered again in 2013. It’s important to observe that the median total compensation is higher than the average. This is common when evaluating public safety pay and benefits in California, and refutes the claim that highly compensated executives skew the averages.

When evaluating the median total compensation of Redwood City’s full-time firefighters in 2013 of $226,365, it is necessary to consider what primary variables are driving that amount. The issue of overtime, for example, can be quite misleading. If you read the MOU in effect between Redwood City and IAF Local 2400, you will see that the 56 hour (fire suppression personnel who work 24 hour shifts) employees are apparently paid overtime when they work on any of the 12 paid holidays (MOU page 22, section 8.1). This makes sense, but if you assume these firefighters are, on average, earning 224 hours of vacation per year (10 years service, ref. MOU page 25, section 9.3), then their estimated actual 24 hour shifts per week are 2.32, an amount that includes only 3.9 hours of overtime. Holiday coverage is a sacrifice, to be sure, but apart from holidays, it does not appear that Redwood City’s firefighters are working significant amounts of overtime. Yet their median total compensation was $226,365 in 2013. Making these estimates is admittedly a fairly complex exercise and readers are invited to review the calculations on the “notes” tab of the downloadable spreadsheet “Redwood City 2013 – Firefighter Pay Analysis.xlxs,” a document that also shows all original SCO compensation data and the median/average calculations.

Another important variable affecting total compensation are pension contributions made by the employer. It is necessary to make two points on this topic with respect to Redwood City’s firefighters:

(1)  The Firefighter MOU grants a raise to cover every increase to their payroll withholding for pensions:

To fully appreciate this, read page 33, section 17.3 of the MOU, which covers the calendar years 2013 through 2017. In year 1 (2013), the employees begin to pay 2% towards their pension costs via withholding, and their pay is increased by 2%. In year 2, another 2% is withheld, and another 2% raise is granted. In year 3, another 2% is withheld, and another 2% raise is granted, and in year 4, another 1% is withheld, and a 1% raise is granted. In all, by 2017, Redwood City firefighters will be paying 7% of their pay towards their pensions. As a percent of regular pay, the city (the taxpayers) in 2013 made a 40% pension contribution. That’s 7% (eventually) from the employees to pay for their pension, and 40% from the city. That’s a nearly six-to-one employer match for retirement.

(2)  The city’s required pension contribution is going up, way up, no matter what. In February 2015 the California Policy Center published a study entitled “California City Pension Burdens,” compiling data and projections provided by the various pension systems, including, in this case, CalPERS. Here are some pension facts that confront Redwood City: Their estimated pension contribution in 2015 will be 6.61% of total revenue (all taxes and fees). Their pension contribution between 2015 and 2020 is assumed – according to CalPERS own projections – to increase by 54%, which, barring significant increases to employee withholding, means that instead of paying, on average $47,191 per firefighter (that is the 2013 number, the 2015 number is almost certainly higher), they will be paying $72,674 per firefighter. Just to fund their pensions. And barring pay decreases, that will elevate the median total compensation per full-time firefighter to at least $251,848.

All of these numbers are conservative, because in reality the increases to required pension contributions for firefighters will be more than what CalPERS projects for all of Redwood City’s employees, because firefighter pensions are far more expensive than those offered to miscellaneous employees. These numbers are also conservative because Redwood City is almost certainly not adequately funding their “OPEB” benefit (other post employment benefits), in particular, retirement health insurance (MOU page 49, section 19.2). And, of course, these numbers are grossly understated if you have any doubts regarding CalPERS’ ability to earn 7.5% per year through 2020 and beyond.

Asking whether or not California’s taxpayers should be paying firefighters roughly $250,000 per year is a question fraught with controversy. Clearly firefighters deserve a pay premium for the risks they take in their job. But firefighter unions have exploited the well-deserved respect firefighters have earned, and used that in conjunction with their dues revenue, to exert almost irresistible pressure on local politicians.

The rates of total compensation currently earned by Redwood City’s firefighters are by no means unique. Comparable levels of pay and benefits for firefighters are in place throughout California’s cities. When firefighter jobs that pay a quarter-million a year in exchange for slightly over two 24 hour shifts per week open up, literally thousands of people apply for them. The goal of public safety would be enhanced if we could hire more public safety personnel, firefighters in particular, for less money. But today there is no viable political coalition, anywhere, with the power and will to make that happen.

*   *   *

Ed Ring is the executive director of the California Policy Center.

Aggregate U.S. Pension Data Shows Grim Outlook

Editor’s Note:  This analysis by economics blogger Mike Shedlock clearly shows why government employee pensions are taking an awful risk by continuing to forecast annual investment returns of 7.0% or more per year. In his first chart Shedlock points out how between 2008 and 2014 the aggregate value of state and local government worker pension system assets only increased 12.7% – a return of 1.9% per year. If one extends the horizon back to 2003 – i.e., if one backs up to include the stock market run-up from 2003 through 2008 – that annual return improves, to a still paltry 4.3%. The headwinds facing global investment portfolios include an aging population, which means there will be a higher percentage of retirees selling their assets which drives down prices and returns, as well as interest rates, everywhere, now at historic lows, which means that debt stimulated economic growth is more problematic than ever. What do the pension systems intend to do, if they can’t hit their 7.0% per year annual returns over the next several years? The answer to-date is to raise every tax and fee in sight to feed the pension systems, which along with incremental benefit adjustments is claimed to be sufficient. But only if 7.0% returns are forthcoming. What if they are not forthcoming? What then?

One of my constant themes over the past few years is the underfunding of state and local pension plans. Illinois is particularly bad, but let’s look at some aggregate data.

The National Association of State Retirement Administrators (NASRA) provides this grim-looking annual picture in their most recent annual update:

State and Local Defined Benefit Plan Assets at Year-End
2003-2014 ($ = Trillions)
20150831-UW-Shedlock1

Between the end of 2007 and end of 2014, pension plan assets rose from $3.29 trillion to $3.71 trillion. That’s a total rise of 12.76%.

Plan assumptions are generally between 7.5% to 8.25% per year!

S&P 500 2007-12-31 to 2014-12-31
20150831-UW-Shedlock2

In the same timeframe, the S&P 500 rose from 1489.36 to 2058.90.

That’s a total gain of 590.54 points. Percentage wise that’s a total gain of 40.22%. It’s also an average gain of approximately 5.75% per year.

Analysis

  • In spite of the miraculous rally from the low, total returns for anyone who held an index throughout has been rather ordinary.
  • The first chart is not a reflection of stocks vs. bonds because bonds did exceptionally well during the same period.

Drawdowns Kill!

To be fair, the first chart only shows assets, not liabilities, but we do know that pensions in general are still enormously underfunded, with Chicago and Illinois leading the way.

Negative Flow

Reader Don pinged me with this comment the other day: “Nearly all public pension funds have a negative cash flow, meaning they pay out in benefits each year more than they receive in contributions. For all public pension funds, the negative cash flow is approximately 3% of assets, which means an average fund needs to produce an annual return of 3% to maintain a stable asset value.

That’s fine if assets have kept up with future payout liabilities and plans are close to fully funded.

However, it is 100% safe to suggest that neither condition is true.

So here we are, after a massive 200% rally from the March 2009 low, and pension plans are still in miserable shape.

And plan assumptions are still an enormous 8% per year. Let me state emphatically, that’s not going to happen.

Stocks and junk bonds are enormously overvalued here.

GMO Investments Forecast

20150831-UW-Shedlock3

“The chart represents real return forecasts for several asset classes and not for any GMO fund or strategy. These forecasts are forward‐looking statements based upon the reasonable beliefs of GMO and are not a guarantee of future performance. Forward‐looking statements speak only as of the date they are made, and GMO assumes no duty to and does not undertake to update forward‐looking statements. Forward‐looking statements are subject to numerous assumptions, risks, and uncertainties, which change over time. Actual results may differ materially from those anticipated in forwardlooking statements. U.S. inflation is assumed to mean revert to long‐term inflation of 2.2% over 15 years.”

Over the next 7 years GMO believes US stocks will lose money (on average), every year. Those are in real terms, but returns are at best break even, assuming 2% inflation.

Bonds are certainly no safe haven either. I strongly believe GMO has this correct.

Assume GMO Wildly Off

Even if one assumes those GMO estimated returns are wildly off to the tune of four percentage points per year, pension plans needing 8% per year will be further in the hole with 4% per year annualized returns.

Illinois Non-Answer

Illinois house speaker Michael Madigan and Chicago governor Rahm Emanuel believe tax hikes are the answer.

Both are sorely mistaken. Here are a few viewpoints to consider.

The only way out of this mess is a pension restructuring coupled with municipal defaults.

*   *   *

Mike Shedlock is the editor of the top-rated global economics blog Mish’s Global Economic Trend Analysis, offering insightful commentary every day of the week. He is also a contributing “professor” on Minyanville, a community site focused on economic and financial education, and a senior fellow with the Illinois Policy Institute.

CalSTRS CEO Jack Ehnes Recommends 50% Increase to CalSTRS Retirement Income

Author’s Note: The original title of this post was “CalSTRS CEO Jack Ehnes Recommends 50% Increase to CalSTRS Pension Benefits.” That was inaccurate. What Ehne’s specifically recommended per the quote immediately below this note was “income replacement of 80 percent to 90 percent to maintain a similar lifestyle in retirement,” in reference to his assertion that presently “the median CalSTRS pension replaced less than 60 percent of final salary for the members who retired last year.” To be perfectly accurate, Ehnes’ is recommending a 50% increase in CalSTRS participant retirement income. While he does not specifically recommend increasing their pension benefit by 50%, in order for teachers to achieve a 50% increase in their retirement income, either some other employer paid form of compensation would have to increase – for example, supplemental 401Ks, fed by either greater teacher salaries or greater employer matching, or both, or something else – or teachers would have to live more frugally in order to save more retirement funds on their own without an increase to compensation. Which is it? While this note constitutes a retraction of the original title, and the author apologizes for the misconceptions that resulted, it is still necessary to wonder why pension fund executives are suggesting that 60% income replacement for a public servant is inadequate, when private citizens may consider themselves extraordinarily lucky to secure a retirement income anywhere close to that amount.

“The median CalSTRS pension replaced less than 60 percent of final salary for the members who retired last year. CalSTRS recommends income replacement of 80 percent to 90 percent to maintain a similar lifestyle in retirement. Public educators do not receive Social Security benefits for their CalSTRS service.”
– Jack Ehnes, Chief Executive Officer, CalSTRS, Introduction to CalSTRS Comprehensive Annual Financial Report 2014, page 11)

Here we go again – a recommendation for another 50% pension benefit increase. Will it be retroactive this time? That went well last time. Remember SB 400, quietly passed for CHP officers during a robust bull market in 1999, and by 2005 rolled out to nearly every state/local agency in California? No consequences whatsoever.

And, here we go again – somehow getting a CalSTRS pension instead of Social Security is a monstrous sacrifice!

Social Security recipients making roughly what veteran teachers make can expect to receive a benefit at age 68 that is roughly equivalent to 25% of their final year’s earnings. Twenty-five percent. The average teacher receives 2.5 times that much each year via their pension, starting about seven years earlier. Mr. Ehnes thinks that’s not enough. He ought to know better. If every Californian retiree got a pension equivalent to what a CalSTRS recipient currently gets, it would cost over $600 billion per year. Where’s that money going to come from, Mr. Ehnes?

There’s a lot to chew on for anyone trying to wade through CalSTRS most recent publicly available annual financial report. This additional gem, also coming from Mr. Ehnes himself, illustrates just how out of touch the pension bureaucrats have become:

“The funding approach in AB 1469 is predicated on the actuarial assumption that CalSTRS will earn a 7.5 percent annual rate of return throughout the life of the plan.” (CalSTRS 2014 CAFR, page 8)

Jack Ehnes is referring to California Assembly Bill 1469, passed in May 2014, which will phase in massive contribution rate increases over the next several years, mostly from taxpayers, so that CalSTRS will be fully funded by around 2047. That is, in exchange for even higher contributions from taxpayers, CalSTRS will get its financial house in order “in about 32 years.”

But what if “throughout the life of the plan,” CalSTRS is unable to earn a 7.5 percent annual rate of return? Does it matter at all that recently reported gains were logged during this latest bull market that’s running out of steam? Will even more massive contribution rate increases be the solution? According to the most recent data available, CalPERS is currently $73 billion in the hole, or only 67% funded. (CalSTRS 2014 CAFR, page 158)

The problem with seasoned financial professionals like Jack Ehnes fostering expectations like this – bull market returns of 7.5% for the next 32 years, and pensions for teachers that need to elevate from the current 60% of salary to “80 per cent to 90 percent” of salary, is that people who aren’t financial professionals actually believe them.

From professional government union supported PR firms, to the rank-and-file workers they assist to prepare op-eds, unrealistic expectations from people like Jack Ehnes are packaged into propaganda designed to destroy public support for pension reform.

For an example of this, look no further than the August 22 guest op-ed in the Sacramento Bee, “Another View: State pension funds are recovering,” purportedly written by Lydia Petitjean, a public school secretary and CSEA union official. Pettijean’s lead sentence is pure propaganda:

“Perhaps an oil slick is clouding the crystal ball of Stephen Eide of the Koch brothers-funded Manhattan Institute when he suggests that the effort to undermine the retirement security of millions of Californians – disguised as ‘pension reform’ – is gaining steam.”

This is sophomoric trash talk. It is vacuous, cynical drivel. The Manhattan Institute is a respected organization, Stephen Eide is a policy analyst with unimpeachable integrity and proven financial acumen, the Koch Bros have little if anything to do with the Manhattan Institute, and “oil slicks” is an image calculated to elicit disgust, but has nothing to do with pension reform. Nothing.

Anti-reformers like Lydia Petitjean base much of their rhetoric on a false premise – that big moneyed “Wall Street” special interests would like get their hands on all that pension money. This is patently false. As it is, the finance industry benefits immensely from government pension funds, because they have an enormous amount of money already invested on Wall Street – $4.0 trillion in assets nationwide. The pension funds relentlessly advocate, and then manage, benefit plans so generous that they are forced to invest in high-risk, high-return financial instruments that the financial industry is all to happy to invent and sell to them. Even better, when they don’t hit their numbers, the taxpayers bail them out. And even if every government worker’s defined benefit plan was converted to a 401K tomorrow, the same pension systems, CalSTRS and CalPERS and all the rest, would still be the administrators.

There’s nothing there, Ms. Petitjean. Not even “oil slicks.”

The reality is maybe pension reformers just want to prevent the pension systems and their government union allies from running every city and county in California into the ground.

Sooner or later, if public employees hope to keep their defined benefit pensions, they will have to accept lower benefit formulas. When the next market downturn hits, and it will, people like Jack Ehnes will have a lot of explaining to do, and people like Lydia Petitjean will have to make a tough decision:

Do they want to become oppressors of the private sector taxpayer in partnership with some of the most aggressive financial predators in the world, so they can enjoy retirement benefits several times better than Social Security recipients? Or do they want to share the same economic challenges as the people they supposedly serve, and work towards feasible solutions to retirement security in America for everyone?

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Ed Ring is the executive director of the California Policy Center.

CALIFORNIA POLICY CENTER PENSION STUDIES

California City Pension Burdens, February 2015

Estimating America’s Total Unfunded State and Local Government Pension Liability, September 2014

Evaluating Total Unfunded Public Employee Retirement Liabilities in 20 California Counties, May 2014

Evaluating Public Safety Pensions in California, April 25, 2014

How Much Do CalSTRS Retirees Really Make?, March 2014

Comparing CalSTRS Pensions to Social Security Retirement Benefits, February 27, 2014

How Much Do CalPERS Retirees Really Make?, February 2014

Sonoma County’s Pension Crisis – Analysis and Recommendations, January 2014

Are Annual Contributions Into CalSTRS Adequate?, November 2013

Are Annual Contributions Into Orange County’s Employee Pension Plan Adequate?, August 2013

A Method to Estimate the Pension Contribution and Pension Liability for Your City or County, July 2013

Moody’s Final Adopted Adjustments of Government Pension Data, June 2013

How Lower Earnings Will Impact California’s Total Unfunded Pension Liability, February 2013

The Impact of Moody’s Proposed Changes in Analyzing Government Pension Data, January 2013

A Pension Analysis Tool for Everyone, April 2012

Government Union Assault on Taxpayers Continues in California

Editor’s Note:  This article discusses multiple proposals to raise taxes that are making the rounds in California’s government union controlled state legislature. Two in particular are mentioned, Senate Constitutional Amendment 5 that takes Prop 13 protections away from business owners, and Assembly Constitutional Amendment 4 that lowers the two-thirds vote requirement for local tax increases. On top of that they are considering transportation taxes, tobacco taxes, managed care taxes, new real estate transaction fees, and new “cap and trade” fees, to name a few. And this is happening at the same time as the government union spokespersons and their political puppets are crowing about a “six billion budget surplus.” Make no mistake about it. ALL of these proposed new taxes are to pay for excessive pay and obscenely inflated pension benefits for unionized government employees. Government workers should face precisely the same economic challenges as private sector workers. Only then will policies be crafted for the betterment of all Californians. As it is, California’s unionized state and local government workers are a privileged class, running the state’s economy and beleaguered taxpayers into the ground.

Although comparisons to actual wartime fighting should be used sparingly, California taxpayers can’t help but feel a bit like the 20th Maine Regiment at the battle of Gettysburg during the American Civil War. The actions of the 20th Maine, depicted in the Pulitzer Prize winning book “Killer Angels” by Michael Shaara, are well known to Civil War buffs.

Led by Joshua Chamberlain, who later became Governor of Maine, the 20th Regiment became famous for its defense of Little Round Top, a small hill on the flank of the Union forces. On July 2, 1863, the 20th Maine was positioned at the far left of the Union line with elements of the 44th New York, 16th Michigan, and 83rd Pennsylvania. As the Confederacy began its attack, Chamberlain was alerted that the enemy seemed to be pushing toward the regiment’s left. Chamberlain ordered a right-angle formation, extending his line farther to the east.

After an hour and a half under heavy attack and running low on ammunition, Chamberlain saw the rebels forming for another push and ordered a charge down the hill with fixed bayonets, which caught the enemy by surprise. During the charge, a second Confederate line tried to make a stand near a stone wall. The isolated group of Union soldiers, now in a position from which to provide the rest of the regiment with support, fired into the Confederate’s rear, giving the impression that the 20th Maine had been joined by another regiment. This, coupled with the surprise of Chamberlain’s bold attack, caused panic among the Southerners’ ranks.

The Confederates scattered, ending the attack on the hill. If the 20th Maine had retreated instead, the entire line would have been flanked and the Union likely would have lost Gettysburg. Most Civil War historians agree that holding the hill helped the Union win Gettysburg and turn the tide of the war.

What is notable about the 20th Maine was the number of direct assaults launched directly against its ranks. Time and time again, enemy forces assailed the small force made up of mostly farmers, woodsmen and fishermen. Chamberlain himself was no professional soldier, but rather the Professor of Modern Languages at Bowdoin College.

Like the constant attacks on the 20th Maine, which depleted both the energy and ammunition of its members, political forces in California are lined up against taxpayers ready to make a final push as the current legislative session enters its final few weeks. The question is whether taxpayers and their allies in the Legislature – mostly Republicans – can repel all the tax hikes being proposed.

The proposals are many, varied and all dangerous. Senate Constitutional Amendment 5 seeks to rip Prop 13 protections away from business owners, including tens of thousands of mom and pop stores. Assembly Constitutional Amendment 4 seeks to lower the two-thirds vote for local taxes which, if passed, will subject local citizens to massive new tax hikes. In a special session, which is not subject to the same time deadlines as the regular legislative session, there will be a huge push for new transportation taxes, slamming middle class working Californians who rely on their cars for both work and their family life.

Fortunately, there is plenty of ammunition taxpayers can use to counter the assault, starting with the argument that California is already a high tax state with a hostile regulatory environment that has driven many of its citizens and businesses to more friendly jurisdictions. Also, taxpayers will surely assert that, with a $6 billion surplus, the last thing we should be talking about is tax hikes. Finally, government waste in California continues to eat up tens of billions of dollars annually. All these contentions must be brought to the fore if taxpayers are to be victorious in stopping those who want even more money out of our pockets.

Jon Coupal is president of the Howard Jarvis Taxpayers Association — California’s largest grass-roots taxpayer organization dedicated to the protection of Proposition 13 and the advancement of taxpayers’ rights.