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UC regents approved a painful plan to begin closing a $21 billion retirement funding gap last week, getting support from faculty and staff groups despite a bite from their paychecks, higher health costs for most retirees, and lower pensions for new hires.
The plan emerged from a broad-based task force and suggestions from the university community that, fittingly, could be a model for a “collegial” approach to building support among stakeholders for retirement reform.
But a split regents vote, 14 to 3, reflects the view of some that more costs should be cut to make the system “sustainable” in the long run. UC administrators also must reach agreement with 28 bargaining units representing 45 percent of the workers.
The University of California president, Mark Yudof, told the regents he chose the “least worst” option supported by a “pretty strong coalition” that seemed to be the fairest to the faculty and staff.
“This is partly a dollars and cents calculation. I think it’s a good proposal,” Yudof said. “But partially it represents some effort to have more of a consensus around some very tough issues that people find very threatening.”
At an unfavorable time (a deep economic recession with budget cuts, layoffs, pay freezes, and rising student fees) UC resumed employer-employee pension contributions last April after a remarkable two-decade “holiday.”
Officials said the UC retirement system, with investments valued at $34 billion in September, had received no contributions for about 84 percent of the workforce since 1990, getting by on surplus investment earnings.
Even after heavy losses during the stock market crash two years ago, the UC retirement system was still 87 percent funded last July on an actuarial “smoothing” basis that spreads gains and losses over several years.
The funding level using the market value of assets was 73 percent. Experts regard a smoothed funding level of 80 percent as the acceptable minimum, the point at which corrective action should no longer be ignored.
Some regents began urging that pension contributions be resumed about five years ago. Despite the delay, Regent Bruce Varner, presiding at a joint committee meeting last week, said UC is acting earlier than “other constituent entities” on retirement issues.
“We really are ahead of it,” said Varner. “If we do this right we are going to have made some long-lasting contributions to this university.”
The UC plan follows what has become a common public pension reform: 1) a lower “tier” of pensions for new hires (pensions for current workers are protected by contract law), and 2) higher employee contributions.
The twist in the UC plan is that employer costs go up, way up, instead of down. For example, state payments to the California Public Employees Retirement System were cut $200 million last week because state workers agreed to pay more.
But under the new plan UC payments to its retirement system, zero last March for most workers because of the contribution holiday, are scheduled to gradually increase to about 20 percent of pay by 2018.
“This is a breath-taking cost to our campuses,” UCLA Chancellor Gene Block told the regents last month. Among the impacts he mentioned: reduced faculty recruitment, less staff support, potential research cuts and tighter medical center budgets.
The pension contributions made by UC employees, also zero for most last March, are expected to gradually increase to 8 percent of pay for current workers by 2014 and to be 7 percent of pay for new hires (with lower pensions) in 2013.
Generally, what happens under the plan is that contributions from both UC employers and employees climb back into the broad range they were at before the holiday began two decades ago.
A staff report to the regents last September said that if retirement contributions had continued at the “normal cost” rate during the last two decades the retirement system “would be approximately 120 percent funded today.”
Another consequence of the holiday is that the state stopped making contributions to the UC retirement system. Governor-elect Jerry Brown estimates that the state budget shortfall over the next 18 months could be $28 billion.
With state contributions unlikely to resume soon, UC is exploring other means to cover employer contributions for a third of its workforce. The rest are funded by medical centers and clinics, federal and private grants and contracts, and other operations.
Officials believe about $2 billion could be borrowed internally from short-term investment funds without jeopardizing daily operations and bond payments, while still allowing a cushion for unexpected events.
The UC plan also begins to deal with a huge unfunded debt for retiree health care, $14.9 billion, much larger than the $6.4 billion pension debt.
The UC contribution to retiree health care insurance drops from the current average of 89 percent of the cost to 70 percent. But retiree health benefits remain unchanged for 45 percent of the employees, with long service or near retirement.
The lower “tier” of pension benefits for persons hired after June 30, 2013, also is expected to lower retiree health costs by extending the retirement age for maximum pension benefits from 60 to 65, when retirees are eligible for federal Medicare.
The pension formula remains unchanged under the new plan, 2.5 percent of the highest three-year average pay for each year served. But the minimum retirement age also is extended from 50 to 55.
A governor’s commission estimated in 2008 that state and local governments in California have a $118 billion “unfunded liability” for retiree health care promised current workers and retirees over the next 30 years.
Most California government employers use pay-as-you-go plans to pay for retiree health. The commission recommended “prefunding” retiree health, making annual pension-like contributions to cover future costs and provide investment earnings.
In addition, debts owed for current services would not be transferred to future generations. A growing retiree health care fund created by CalPERS now has $1.47 billion in investments from 268 government employers.
UC is in a weak position to begin even token prefunding of retiree health care. And unlike pensions that are protected by court decisions, UC retiree health care is not regarded as a vested right and can be cut if necessary.
The normal cost for the lower pensions given new hires beginning in 2013 is 8.1 percent of pay for the employer and 7 percent for the employee. The change is said to reduce the UC contribution about 20 percent from the current normal cost.
But first, the plan calls for decades of higher contributions to pay off the debt and return the UC retirement system to full funding.
“We figured it took us 20 years to get us into this current problem, and we are going to design a plan to solve it back up to the 100 percent level in about 25 to 30 years,” Peter Taylor, the UC chief financial officer, told the regents.
Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune.