Originally posted at CalPensions.
By Ed Mendel.
After a five-day trial last month, a judge is looking at 13 issues in suits filed by unions and retirees against a San Jose pension reform. The big one is whether pensions earned by current workers can be cut.
Measure B, approved by 70 percent of San Jose voters last year, challenges the widely held view that a series of court rulings mean pensions promised state and local government workers on the date of hire become a “vested right” that cannot be cut.
Most attempts to reduce pension costs, including a statewide reform pushed through the Legislature by Gov. Brown last year, spare current workers but give new hires a lower pension, delaying savings for years or decades.
Critics who think under-funded and overly generous public pensions are a runaway train say there is a quicker way to brake growing costs: Give current workers lower pensions for the work they do in the future.
In San Jose, as the city struggled with budget deficits totaling $670 million during the last decade, retirement costs ballooned from $73 million to $245 million, the court was told. The number of sworn police dropped 21 percent, firefighters 11 percent.
Retirement costs now eat up about 20 percent of the city general fund, diverting money from other programs. Actuaries for the city’s two independent retirement systems are continuing to project big cost increases.
“These costs will exceed 25 percent of the general fund by 2017-18,” Mayor Chuck Reed said in his June budget message, “unless we implement the additional employee contributions and lower-cost pension option for our current employees, and get all new employees into the Tier II plan, as approved in Measure B.”
This year the city contributes 57.7 percent of pay for police and fire pensions and retiree health care, while the employees contribute 11.16 percent of pay, the court was told. Next year the city is projected to contribute 70.55 percent, employees 11.67 percent.
(In comparison, the state contributes 35.9 percent of pay for Highway Patrol pensions this fiscal year and employees 11.5 percent under rates set by the California Public Employees Retirement System.)
Pension critics think San Jose, located in wealthy Silicon Valley, is where the future arrived first unless the rigid California retirement systems are given some flexibility to control costs.
The watchdog Little Hoover Commission’s top recommendation in 2011 after a study of public pensions: “The Legislature should give state and local governments the authority to alter the future, unaccrued retirement benefits for current public employees.”
Private-sector pension funds in the United States can give current workers lower pensions for future service. In the Netherlands, retiree pensions were cut this year to help meet an unusual requirement that pension funding levels remain safely high, 105 percent.
A pension reform approved by 66 percent of San Diego voters last year sought immediate savings by directing the city to freeze pay used to calculate pensions for five years.
The city negotiated a five-year freeze on pensionable pay that was expected to cut city pension costs by more than $108 million. But the board of the city’s independent pension funds failed to recalculate the first-year bill, eliminating $20 million in savings.
“This is an important turning point for the city,” Mayor Bob Filner, now battling sexual harassment allegations, said in a news release in June when the city council approved the labor contracts.
The San Diego pension reform, Proposition B, also gives all new city hires, except police, a 401(k)-style individual investment plan instead of a pension, following the private-sector trend that switches risk from the employer to the employee.
The San Jose pension reform is expected to save about $20 million this year, mainly from eliminating a bonus “13th check” to retirees when investment earnings exceed projections and a switch to a lower cost retiree health plan.
Bigger savings would come from giving current workers an option: choose to earn a lower pension for future service, or contribute up to an additional 16 percent of pay to continue earning the previous pension amount.
Would court approval of the option have any impact on the “vested rights” of current workers in other retirement systems? The city’s main argument is based on an unusual, if not unique, voter-approved amendment to the San Jose charter in 1961.
A key city charter phrase highlighted in an opening-day presentation to the court: “The Council in its discretion may at any time, or from time to time by ordinance, amend or otherwise change the retirement plan established by said Section 78a.”
If the courts deny the option, the measure authorizes the city to make a 16 percent reduction in pay, a San Diego-style pension cut that goes well beyond a freeze in the pay used to calculate pensions.
As the five-day trial concluded on July 26, Santa Clara County Superior Court Judge Patricia Lucas set dates for follow-up action: Sept. 10 and Oct. 10. Her decisions on the Measure B issues are likely to be appealed.
The San Jose and San Diego pension reforms also are being contested by the state Public Employment Relations Board. Unions contend that state bargaining laws were bypassed before the public vote.
Another hurdle for the San Jose option is the need for approval from the U.S. Internal Revenue Service. Under a ruling in 2006, the IRS could deny tax-deferred status if an individual chooses a retirement plan with a lower benefit.
Mayor Reed said the option issue has been placed on the IRS “work schedule” for decisions. Orange County has been unsuccessfully seeking IRS approval of an option plan for current workers negotiated with employees in 2009.
U.S. Rep. Loretta Sanchez, D-Santa Ana, introduced legislation two years ago to give tax-deferred status to optional retirement plans with lower benefits. Her bill expired at the end of the last session without a hearing.
At a legislative hearing last year, former Orange County Supervisor Bill Campbell said a quarter of the county’s new hires had chosen the option with a lower pension and lower employee contributions, reducing the bite from their paychecks.
The Little Hoover report in 2011 said state workers were given the option of a lower pension with no employee contribution three decades ago. CalPERS found that 47 percent of new hires from 1984 to 1988 chose the lower pension.
Last June, Reed and Santa Ana Mayor Miguel Pulido said in a U-T San Diego opinion article that the state constitution should be amended to give state and local governments clear authority to cut pensions current workers earn for future service.
“Such an amendment would not take away benefits that employees have earned for prior years of service,” the mayors wrote. “However, it would allow government agencies to prospectively adjust benefit formulas, employee contributions, retirement ages and cost-of-living increases — either through collective bargaining process or by voter approval.”
Reed has talked to legislators about placing a constitutional amendment on the ballot, regarded as unlikely due to union opposition, and to other leaders about placing an amendment on the ballot through an initiative, the San Jose Mercury-News reported last month.