A decade ago the San Francisco public pension system was known for being well-funded, winning good management awards, and going eight years with no annual payments from the city.
The distinctive feature of the San Francisco system — requiring voter approval of pension increases — was approved by voters for the San Diego pension system in 2006 and the Orange County pension system in 2008.
Last month, a Civil Grand Jury report concluded that most of the debt of the San Francisco Employees Retirement System, which has been underfunded for more than a decade, was approved by the voters who in theory are a safeguard.
“There are several causes for the underfunding of the Retirement System, but the main underlying cause is the retroactive retirement benefit increases implemented by voter-approved propositions between 1996 and 2008,” said the report.
“These retroactive increases were very expensive gifts to employees and retirees from taxpayers, paid for with money borrowed at a high interest rate from the Retirement System, and paid back over 20 years by taxpayers.”
The grand jury suggests voters may have been misled by official ballot pamphlet cost information on two of the three “significant” pension increases described in the report. A dozen retroactive retirement benefit increases between 1996 and 2008 are listed in a report appendix.
Voters were told that even with a retroactive pension increase for most employees (Proposition C in 2000) the city is not expected to make an annual payment to the retirement system “for at least the next 15 years.”
The eight-year period with no annual city payment to the retirement system, known as a “contribution holiday,” ended in 2004.
For a police and firefighter pension increase (Proposition H in 2002) voters were told that with a “large surplus” city contributions should not be needed for at least 10 years — but if needed, police and firefighters would pay “all or part” of the added cost.
“The Mayor, Board of Supervisors, Retirement Board, and Controller did not fulfill their responsibility to watch out for the interests of the City and its residents,” said a grand jury finding on retroactive pension increases.
The report echoes a well-known example of understating pension costs. CalPERS-sponsored legislation (SB 400 in 1999) gave state workers a retroactive pension increase, including an expensive Highway Patrol formula widely adopted by local police and firefighters.
“This is a special opportunity to restore equity among CalPERS members without it costing a dime of additional taxpayer money,” the CalPERS board president then, William Crist, said in a 17-page brochure given to the Legislature.
A legislative floor analysis of SB 400 said CalPERS expected “excess” investment earnings to keep the state cost at the 1998-99 level for a decade. But due to poor earnings and other factors, state costs went from $159 million in 1999 to $3.2 billion in 2009.
The California Public Employees Retirement System has calculated that 18 percent of the change in state contributions from fiscal 1997-98 to 2014-15 was the result of the SB 400 pension increase.
The San Francisco grand jury used a simple method to find that retroactive benefit increases caused $3.5 billion of the retirement system’s total debt of $5.8 1 billion — adding up the cost increase for each measure estimated in the ballot pamphlet.
The report said low pension fund earnings caused $1.4 billion of the debt, a projection of longer retiree life spans $1.1 billion, and a court overturning a voter-approved cut in supplemental cost-of-living adjustments (Proposition C in 2011) $1.3 billion.
In a costly reversal, San Francisco general fund pension costs that were expected to decline in a five-year plan issued in 2014 are now expected to increase, a swing totaling $171 million.
The new city five-year plan attributes the reversal to three of the factors mentioned in the grand jury report: below-target investment earnings, longer expected retiree lifespans, and the court rejection of the limits on supplemental cost-of-living adjustments.
Costs would go up again if the long-term average earnings forecast, 7.5 percent, is lowered, joining CalPERS and others at 7 percent. Meanwhile, pension fund earnings in the fiscal year that ended last week may be above 7.5 percent due to a rising stock market.
A retiree group filed the lawsuit overturning the voter-approved limit on supplemental cost-of-living payments to retirees when investments yield “excess earnings.” An appeals court cited what has become known as the “California rule.”
It’s based on court rulings that the pension offered at hire becomes a “vested right,” protected by contract law, that can’t be cut unless offset by a new benefit. So pension cost cuts usually are limited to new hires, taking decades to yield savings.
Two appeals court panels, citing different decisions, recently have ruled in two cases that the vested right is only to a “reasonable” pension, not the pension offered at hire as held by the California rule. The state Supreme Court has agreed to hear appeals.
The broad San Francisco reform measure limiting supplemental retiree payments was prompted in part by (along with large investment losses) a civil grand jury report that more than half of retired police and firefighters had pensions exceeding their highest salary.
For new hires, Proposition C in 2011 also extended the pay period on which pensions are based to a three-year average, up from what once was a one-year average. That makes it more difficult to manipulate final pay to boost or “spike” pensions.
The civil grand jury report in 2009 said pension spiking “may be institutionalized and ongoing” among police and firefighters. In the previous decade 25 percent of retirees had received a pay boost of 10 percent or more in their final year.
Despite the setbacks, the San Francisco pension finances are better than average. The latest annual actuarial valuation report shows that the San Francisco system was 82.6 percent funded as of last June 30 using market value assets.
CalPERS recently had an average of 65 percent of the projected assets needed to pay future pension obligations for state workers, the employees of 1,581 local governments, and the non-teaching employees of 1,439 school districts.
The San Francisco five-year plan said employer contributions for non-safety employees are expected to increase from 18.23 percent of pay this fiscal year to 21.2 percent in 2021, the weighted average for police and firefighters from 17.4 percent to 20.5 percent.
For San Francisco CalPERS members (mainly about 1,000 active safety employees and a similar number of retirees) the five-year plan said employer contributions are expected to increase from 25 percent of pay this fiscal year to 38 percent in 2021.
The unique consolidated city and county of San Francisco has had a charter provision requiring voter approval of pension benefit increases since 1889. Retirement measures are said to appear on the ballot an average of at least every other year.
San Franciscans seem to like direct democracy. Voters rejected three attempts in recent decades to let the board of supervisors set pension benefits, each time by a wider margin.
Proposition A in June 1966 was rejected by 60 percent of the voters; Proposition F in November 1993 by 63 percent, and Proposition E in November 1996 by a resounding 72.6 percent.