A pension reform initiative filed last week requires voter approval of termination fees, the big upfront payment demanded by CalPERS when a plan is closed to new members.

CalPERS says it needs the money to ensure payment of the pensions promised members who remain in the closed plan. The termination fee is calculated by dropping the pension fund earnings forecast from the current 7.5 percent to as low as 2.98 percent.

It’s particularly important because if a closed plan does not have enough assets to pay promised pensions, CalPERS has the power under current law to cut the pensions to the level covered by the assets.

A series of state court decisions, a key one in 1955, are widely believed to mean that the public pension offered on the date of hire becomes a “vested right,” protected by contract law, that can only be cut if offset by a comparable new benefit.

But as U.S. Bankruptcy Judge Christopher Klein probed state pension law during the Stockton bankruptcy trail in May last year, David Lamoureux, CalPERS deputy chief actuary, described in detail how CalPERS pensions can be cut outside of bankruptcy.

Ruling that CalPERS pensions can be cut in bankruptcy, Klein said a termination fee that boosted the Stockton pension debt or “unfunded liability” from $211 million to $1.6 billion was a “poison pill” if the city tried to move to another pension provider.

The CalPERS board is said by some to be dominated by public employee union members and their allies. But under the state constitution, CalPERS has a fiduciary duty to give pension protection priority over minimizing taxpayer costs.

Pensions and taxpayers had equal standing until voters approved labor-backed Proposition 62 in 1992, a constitutional amendment giving public pension systems sole control of their assets and actuarial functions after a state “raid” on CalPERS funds.

The initiative filed last week by a bipartisan group is a constitutional amendment that requires voter approval of a “defined benefit pension plan” for new state and local government employees hired on or after Jan. 1, 2019.

Depending on the votes for everything from giant statewide CalSTRS and CalPERS school plans to six-member cemetery district benefits, some current plans could be closed to new members, triggering a termination fee.

If voters then reject a large CalPERS termination fee, would pensions be cut to the level covered by plan assets or would there be a lengthy legal battle?

Vallejo and San Bernardino officials said a CalPERS threat of a costly legal battle, possibly all the way to the U.S. Supreme Court, influenced their decisions not to try to cut pensions in bankruptcy. Stockton officials, on the other hand, said from the outset they wanted to protect pensions.


g) Retirement boards shall not impose termination fees, accelerate payments on existing debt, or impose other financial conditions against a government employer that proposes to close a defined benefit pension plan to new members, unless voters of that jurisdiction or the sponsoring government employer approve the fees, accelerated payment, or financial conditions.

Critics sometimes say of CalPERS, borrowing from an old “roach motel” pesticide commercial and the “Hotel California” pop song: “You can check in, but you can’t check out.”

Several small plans considered leaving CalPERS but did not after looking at a large termination fee. Democrat Chuck Reed, a leader with Republican Carl DeMaio of the bipartisan group that filed the initiative, has first-hand experience with the termination fee.

While he served as mayor of San Jose, Reed and the city councilvoted unanimously three years ago to explore switching their own retirement plan from pensions to 401(k)-style individual investment plans.

Most San Jose employees are in two large city-run plans. The council considered terminating its own CalPERS plan as a share-the-pain gesture after voters in June 2012 approved a Reed-backed reform that, among other things, cut pensions for new hires.

The small plan created in 1998 for mayors and the city council had about 30 members, 10 retired. The plan had 72 percent of the projected assets needed to pay future pensions, with a pension debt or “unfunded liability” of $976,000.

“CalPERS said, ‘You can write us a check for $5 million,’” Reed said last week.

The price tag was far too high. Reed, barred by term limits from running for re-election, left office in January and receives a CalPERS pension, a benefit that would have been unchanged even if the small plan had switched to 401(k) plans for new hires.

Two small cities, Pacific Grove and Canyon Lake, have looked at leaving CalPERS but balked at the high termination fees. Villa Parkofficials asked for a termination fee estimate to publicize the high CalPERS termination fee.

The Orange County city, population 5,800, has 30 members in its CalPERS plan, seven active, and contracts for police and firefighter services. The updated Villa Park minimum CalPERS termination fee was $3.7 million.

“We don’t have the money, and we are not going to borrow money,” Villa Park Mayor Diana Fascenelli said in a report last March in the Orange County Register.

For some, the big termination fee for plans closed to new members brings to mind a “Ponzi scheme,” where money needed to pay earlier investors comes from new investors. Reed and a former Villa Park mayor, Rick Barnett, made the comparison.

Gov. Brown had the same reaction to a CalPERS analysis of his proposal to give new hires a federal-style “hybrid” plan, combining a smaller pension with a 401(k)-style plan, that was rejected by the Legislature.

“When I read the PERS analysis they say if you close the system of defined benefit (pensions) and don’t let any more people in, then the system would become shaky — well, that tells you you’ve got a Ponzi scheme,” Brown told legislators in 2011.

During the Stockton bankruptcy trial, Lamoureux, the CalPERS chief deputy actuary, explained why the city had a $1.6 billion termination fee. A low bond-based earnings forecast was used to discount the future pension debt.

After the termination fee is paid, CalPERS becomes responsible for the pension debt and cannot get more money from the local government employer if funds fall short as pensions are paid during the lifetime of the retirees.

If a city cannot pay all of the debt owed for a terminated plan, the CalPERS board has the power to evenly cut pensions to an amount that would be covered by what the city was able to pay.

But after the payment has been made and responsibility for the plan shifts from the city to CalPERS, if the terminated agency pool falls short the funds of all of the state and local government plans in the system could be used to cover the shortfall.

CalPERS keeps a healthy surplus, and a lot of risk-free bond investments, in its Terminated Agency Pool. As of June 30, 2013, the pool had about 90 small plans, $78 million in future pension obligations, $194 million in assets and was 249 percent funded.

For the first time, the CalPERS board was given a detailed annualvaluation report of the Terminated Agency Pool last month in addition to the usual briefing on the status of the fund.

[divider] [/divider]

Originally posted at CalPensions.