The bankrupt city of Vallejo cut health care payments for retired employees, but an initial recovery plan does not touch pensions.

When the old port city on the far side of San Francisco Bay filed a rare municipal bankruptcy in May 2008, there was speculation about whether bankruptcy would become a way for deficit-ridden cities to shed crushing retirement debts.

In groundbreaking actions in the Vallejo case, U.S. Bankruptcy Judge Michael McManus in Sacramento ruled last March that city labor contracts can be overturned in bankruptcy, and then in September dissolved a contract after mediation failed.

A “workout plan” approved by the city council in December, described as an opening position in labor negotiations, cuts nearly all general fund spending, except for employee pensions.

At an update hearing this week, McManus suggested that he may expect the city to have a final plan to exit from bankruptcy this summer, which could give other troubled cities a better notion of the risks and rewards of bankruptcy.

The judge told Marc Levinson, the city’s bankruptcy attorney: “You can probably anticipate that . . . you are probably going to have to live with a summer deadline for filing a proposed plan … I’m not saying on that now.”

Retirement costs are by far Vallejo’s biggest debt. The top two creditors listed by the city in its bankruptcy filing were retiree health, $135 million, and the California Public Employees Retirement Association, $84 million.

Although Vallejo has been hit by declining property values and the loss of some businesses, the bankruptcy filing seemed to acknowledge that the city council had let labor costs get out of control.

The bankruptcy filing said the city expected to begin the fiscal year in July of 2008 with an estimate of $77.9 million in general fund revenue, less than its $79.4 million cost for labor.

Vallejo employees have some of the most generous retirement formulas. Police and firefighters have “3 at 50,” three percent of final pay for each year served when retiring at age 50, capped at 90 percent of final pay.

Most of the other Vallejo employees, “miscellaneous” or non-safety, have “2.7 at 55.” That’s more than the “2 at 55” formula for miscellaneous state workers, which is uncapped and can produce pensions equal to 100 percent of pay after 40 years of service.

The city’s workout plan said the CalPERS chief actuary, Ron Seeling, has been quoted as saying that the “3 at 50” formula is “unsustainable.” But how much of the pension cost would be reduced by the workout plan is not clear.

To replace losses in the historic stock market crash, the city would devise its own schedule to increase payments to the pension fund, replacing a three-year phase in of higher payments adopted by CalPERS for its local retirement systems.

Among the few details about the city’s alternative in the workout plan is a chart (p. I – 3) showing the annual city contribution for police and firefighter pensions would be $7.2 million next fiscal year, well above the $4.2 million under the CalPERS plan.

The city plan would avoid pushing debt into the future, reducing annual payments in the long run. The chart shows the annual payment under the city plan dropping below the CalPERS schedule in three years, $7.9 million compared to $8.4 million.

Is bolstering the pension system a move to reassure labor unions that their retirement income is secure, presumably making it easier at some point to negotiate new labor contracts that lower retirement costs?

Or does it reflect the widely held view that pensions are vested rights, contracts guaranteed under a series of court decisions, while retiree health care lacks similar protection and some think under a federal court ruling last year can be cut?

The city’s attorney, Levinson, declined to comment, citing attorney-client confidentiality. Mayor Osby Davis and two council members, Joanne Shivley and Stephanie Gomes, did not reply to e-mail.

Like many California governments, Vallejo has set aside no money to pay for future health care promised retirees. The workout plan would begin switching retiree health from pay-as-you go to prefunding, as recommended by a governor’s commission.

“The city’s commitment had been to pay virtually the entire health insurance bill for its retirees and their families for the rest of their lives,” said the workout plan.

The plan proposes to reduce retiree health payments to a flat $300 a month. The big cut would be expected to shrink the $135 million debt or unfunded liability for future retiree health care to $34 million.

Under retiree health cuts that began last month, said a court filing, only a few are reduced to $300 a month: retired executives and executive staff and city council members.

Other retirees who once received 100 percent payment of “any available plan” were switched to a basic Kaiser plan. Police receive 100 percent of the Kaiser cost, managers and professionals 80 percent, and firefighters and electrical workers 75 percent.

Attorneys for a retirees committee contend that the city has no authority to cut retiree health care agreements without a court-approved “plan of adjustment” to emerge from bankruptcy.

“Retiree health benefits are vested under state law and cannot be arbitrarily reduced or taken away,” attorney Daniel Coyle said in a letter to the city on Jan. 20.

The retirees committee plans to seek payment from the city for the cut in retiree health benefits. The workout plan has a $50 million “placeholder estimate” of claims that eventually will be filed by parties not paid during the bankruptcy.

A “pendency” plan imposed during bankruptcy allowed the city to freeze debt and modify agreements. Claims are expected to be filed for pay, retiree health, leave balances not paid to retirees, reduced payments to bondholders and other things.

The city’s general fund spending has dropped from $87 million two years ago to a projected $68 million this year. Police staff dropped from a high of 155 to 104, nine fire companies were cut to six, and staff paid by the general fund is down 31 percent to 340.

Now the city is waiting for an arbitrator to rule on contracts with firefighters and electrical workers, providing costs needed to complete a final plan. But revenue is limited, including $5 million in the workout plan for claims.

The city attorney, Levinson, told Judge McManus that the arbitrator asked what would happen if the ruling went against Vallejo and the city was unable to pay.

“This is whack-a-mole,” Levinson said he replied, referring to a game in which when one mole is whacked back into its hole, a mole pops up in another hole.

“If you order us to pay, we can pay the firefighters more,” said Levinson. “But it just means we have to lay off another 20 cops, or we have to not pave the roads at all.”

Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at