State pension funds: what went wrong
Original post made by Arnold on Oct 21, 2011
The conventional wisdom was that employers and employees could put less money into pension funds, and get much larger pensions in the future, because investment earnings would cover most of the cost.
Now in bad economic times CalSTRS, CalPERS and UC Retirement have huge debts and need big increases in government funding, leaving less money for other programs and increasing the pressure for tax and fee hikes...
Why had it seemed that investment earnings would provide the best of both worlds, lower contributions and higher pensions?
Proposition 21 in 1984 allowed public pension funds to shift most of their investments from predictable bonds to stocks and other investments, with higher yields but also higher risks.
The lid came off as stocks began to soar during a historic two-decade bull market. The boom gave the three state pension funds surpluses of different sizes, but the response was the same:
Lower annual contributions from employers and employees to the pension funds, and higher pensions for retirees through more generous formulas based on years of service and percentage of final pay or other means.
Bill analyses show that the Legislature was given questionable information about whether key measures for the California State Teachers Retirement System and the California Public Employees Retirement System would increase state debt.
In the case of CalPERS, critics soon began to say the higher pensions threatened government budgets, but there was no change. Then historic pension fund losses in the stock market crash two years ago triggered alarming forecasts of soaring pension costs.
Here's a look at what happened to the three state pension funds, beginning with the California State Teachers Retirement System, which has received less public attention than the other two funds.
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CalSTRS had an unusually low funding level in the mid-1970s, about 30 percent of what was needed for future obligations. A booming stock market and legislation increasing contributions boosted funding to about 110 percent by 2000.
As soon as CalSTRS neared full funding, a half dozen bills increased pensions in various ways. In a time of teacher shortages, advocates said, better retirement benefits would be attractive and keep experienced teachers on the job longer.
Contributions to the CalSTRS pension fund were cut for 10 years by a bill that expired Jan. 1. A quarter of the teacher contributions that would have gone into the pension fund have been diverted to a supplemental program.
The Defined Benefit Supplement Program gives teachers a lump sum or annuity in addition to their pensions.
Under legislation that expired at the end of the year, AB 1509 in 2000, a quarter of the teacher contribution, 2 percent of pay, went into the supplemental program rather than the CalSTRS pension fund, which has had a shortfall for several years.
"No (state) general fund effect and no effect to the solvency of STRS," said the analyses of AB 1509, unusually brief for legislation shifting billions of dollars. "The STRS surplus will absorb the cost of DBSP (Defined Benefit Supplement Program)."
When AB 1509 moved through regular committees, it dealt with a different issue, credit cards. The cut in contributions to the CalSTRS pension fund apparently was negotiated during the state budget process, presumably with powerful teacher unions.
The supplemental fund holds about $7.4 billion for 544,000 active and retired teachers, a CalSTRS spokesman said. The fund has guaranteed earnings based on the 30-year Treasury bond rate, and can get more when CalSTRS investments do well.
By 2006 the CalSTRS surplus was gone, after a dip in the stock market, and the funding level had dropped back down to 86 percent.
The CalSTRS board, which unlike most public pension funds cannot set employer contribution rates, began an unsuccessful attempt to get legislation giving the board rate-setting power.
The rate policy adopted by the teacher-friendly CalSTRS board would have taken the smallest bite from teachers: increases of up to 0.5 percent of pay for teachers, 1.25 percent for the state, and 4.75 percent for school districts and other employers.
The current total contribution to the CalSTRS pension fund is 20.75 percent of pay. Teachers contribute 8 percent of their pay, school districts and other employers 8.25 percent of pay, and the state general fund 4.5 percent of pay.
After the stock market crash and a decision to lower the earnings forecast from 8 to7.75 percent a year, CalSTRS is now said to need a rate increase of 15 percent of pay to reach full funding in 30 years.
How much additional money is that? One indication is that with the current contribution rate of nearly 21 percent of pay, the total received by CalSTRS in the fiscal year ending in June 2009 was $5.3 billion.
Although the 2 percent of teacher pay diverted for a decade resumes flowing into the CalSTRS pension fund this year, the Defined Benefit Supplement Program will continue to receive some money.
Another bill, AB 2700, expanded retirement credit to teaching beyond a standard year (for example, summer school and overtime) and puts the employer and employee contributions for the work into the supplemental fund. There is no expiration date.
A longevity bonus also enacted a decade ago did expire at the end of the year. The bill, AB 1933, adds $200 a month to the pensions of teachers who serve 30 years, $300 a month for 31 years, and $400 a month for 32 or more years.
Last fiscal year 56,567 retirees were receiving longevity bonuses, costing $19.4 million initially. Continuing to grant the bonuses to new retirees until 2018 would cost $600 million, a CalSTRS staff report estimated.
A package of bills in 1998 began the policy of spending the surplus by cutting contributions and increasing pensions. A reduction in the state contribution to CalSTRS, AB 2804, was expected to save $577 million in the first year.
The contribution cut was linked to another bill, AB 1150, that boosted pensions. A cap at 2 percent of final pay for each year served at age 60 was raised to 2.4 percent at 63. The increase was expected to cost $380 million in the first year.
Yet another bill, AB 1102, made a smaller boost, allowing unused sick leave to count toward years of service. Members who joined CalSTRS prior to 1980 already had the unused sick leave provision.
Two years later retired CalSTRS members got a boost in their pensions. AB 429 in 2000 gave members who retired in 1997 a 1 percent raise in their pensions, which increased with time retired to 6 percent for members who retired before Dec. 31, 1974.
The retroactive pension increase went into the base pension that gets an annual inflation adjustment of 2 percent. A legislative analysis said the increase, similar to one given CalPERS members a year earlier, had a "total present value cost" of $889 million.
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CalPERS sponsored legislation authorizing a major trendsetting pension increase when it had a surplus in 1999, famously telling legislators that state costs would not rise above the previous year's rate for a decade.
The CalPERS actuaries made an accurate forecast of how state costs could soar if, as happened, investment earnings fell below the target. But a 17-page brochure CalPERS gave to legislators about SB 400 only showed the optimistic scenario.
"This is a special opportunity to restore equity among CalPERS members without it costing a dime of additional taxpayer money," William Crist, the CalPERS board president at the time, said in the brochure.
CalPERS had strong investment earnings, 20 percent in each of the previous two years and an average of 13.5 percent during the past decade. The part of the pension fund covering most state workers had a funding level of 110.7 percent.
The powerful CalPERS board, which sets employer contribution rates, had given the state a contribution "holiday." State payments that had been $1.2 billion in fiscal years 1996 and 1997 were dropped to $159 million in 1999 and $157 million in 2000.
State workers, whose contributions are set by legislation, did not get a holiday. Most state workers continued to contribute 5 percent of their pay to CalPERS, and others as much as 8 or 9 percent.
The lack of a contribution holiday for workers was part of the rationale for the pension increase. But the sweeping legislation, SB 400, also allowed workers hired after 1991 to opt out of lower benefits given new hires under former Gov. Pete Wilson.
The legislation created a more generous pension formula for most state workers: 2 percent of final pay for each year served at age 55, increasing to 2.5 percent at 63. The previous formula was 2 percent at 60.
What became the best-known part of SB 400 was a formula negotiated by the Highway Patrol union, 3 percent at 50, up from 2 percent at 50. A patrolman with lengthy service could retire at age 50 with a pension paying up to 90 percent of their final salary.
The new Highway Patrol pension set a standard that spread to many local government police and firefighters in labor negotiations. Critics who say public pensions are "unsustainable" often point to the "3 at 50" pensions.
The landmark SB 400 also gave retired CalPERS members the increase later given CalSTRS retirees. In increments based on time retired, the increase went from 1 percent for persons retiring in 1997 to 6 percent for retirees in 1974 and earlier.
In addition to boosting state worker and non-teaching school pensions, the labor-friendly CalPERS board urged the more than 1,500 local governments in CalPERS to boost their pensions, offering to inflate the value of assets to cover the higher costs.
CalPERS said the SB 400 benefits would be paid for by using "excess" assets, an accounting change that recorded assets at 95 percent of market value instead of 90 percent, and amortizing excess assts over 20 years rather than 30 years.
An Assembly floor analysis of SB 400 said of the CalPERS plan to pay for the benefit increase: "They anticipate that the state's contribution to CalPERS will remain below the 1998-99 fiscal year for at least the next decade."
The 17-page CalPERS brochure given to the Legislature said the same thing, but in large boldface type: "CalPERS fully expects the state's contribution to remain below the 1998/99 fiscal year for at least the next decade."
The brochure said the state contribution to CalPERS in fiscal 1998-99 was $776 million. SB 400 sailed through the Legislature with little debate or opposition, passing the Senate on a 39-to-0 vote and the Assembly 70-to-7.
The stock market fell soon after SB 400 passed. By 2003 there were media reports that the Legislature had mindlessly rubber stamped a massive pension increase that could cost the state billions. By 2004 the state CalPERS contribution was $2.5 billion.
The rest of the story: Web Link
Today, beginning FY 2011/12, that began July 1, 2011, Calpers is down about 20 BILLION dollars in just 3 months and 21 days. Taxpayers are REQUIRED to increase funding/taxes to cover the shortfall.