State retirees ready to pounce on PERA fix

By Marianne Goodland
THE COLORADO STATESMAN

The Public Employees’ Retirement Association (PERA), the state pension plan, has a fix for its financial woes ready for action during the 2010 legislative session. But if it’s adopted, the new law probably will result in lawsuits against PERA, according to its executive director.

The legality of PERA solution based on Salazar’s opinion

The people who drafted PERA’s 2/2/2 Plus solution to its financial woes based their belief that they’re acting legally on a 2004 opinion written by Ken Salazar, then Colorado’s attorney general.

The opinion was written in response to a question from then-State Treasurer Mike Coffman, who formed a treasurer’s commission in 2004 to reform PERA.

According to the Salazar opinion, historically, any increase in employee contributions would result in a corresponding improvement in benefits, and employees would have a reasonable expectation of that.

But the General Assembly has the right to change the employer or employee contributions if that’s dictated by actuarial experience, the opinion stated. Statutory language refers to that as an “actuarial necessity,” and requires such a declaration by the courts. This was not done with regard to either of the bills passed in 2004 or 2006 that changed employer and employee contributions.

In 2006, after the passage of SB 235, the employee contribution was increased through a mechanism known as a Supplemental Amortization Equalization Disbursement. This mechanism required that 0.5 percent of the salary increase pool be paid into PERA to help shore up its finances. But because it came out of the pool before it was paid to employees, it counted as an employer contribution and is reflected that way on employee pay statements. In 2009, no SAED was taken because state employee salary increases were cancelled and there was no salary increase pool.

Whether employees could be asked to contribute more without an increase in benefits is predicated on whether the contributions are qualified “as a contractual right protected by the Constitution.”

Salazar wrote that this was not certain. However, if the contribution level is a contractual right, any adverse changes by the Legislature are legal only if an increase in contributions is balanced by an increase in benefits, is actuarially necessary or if the increase improves the pension plan, the opinion stated. On the other hand, employees should expect that contribution levels will increase from time to time, which is allowed under state law, Salazar wrote.

The declaration of an actuarial necessity can be done if the General Assembly requests the Colorado Supreme Court to do so. PERA Executive Director Meredith Williams told The Statesman it could be done either in response to lawsuits or if the General Assembly sent interrogatories to the Court regarding the PERA legislation.

Senate President Brandon Shaffer, D-Longmont, introduced the bill as Senate Bill 1 on Thursday. It was cosponsored by Senate Minority Leader Josh Penry, R-Grand Junction.

SB 1 would address the sharp decline in PERA’s assets that took place in 2008. According to a June 30, 2009 actuarial report, PERA’s market value assets lost $12 billion, dropping from $41.1 billion in 2007 to $29.3 billion at the end of 2008. The Dec. 31, 2008 Comprehensive Annual Financial Report (CAFR) showed that PERA’s domestic stocks lost 36.4 percent of their value, international stocks lost 45 percent, alternative investments lost 26 percent, real estate was down 18.3 percent, and fixed assets gained 4.2 percent in value.

Pension plans are supposed to have enough cash on hand and enough projected income at all times sufficient to pay their obligations over any rolling 30-year period. PERA’s ability to do that has been well below the 30-year benchmark since about 2003, and it got worse in 2008.

These days, PERA talks about its finances in terms of how long it will be before the pension plan goes broke.

On Dec. 17, PERA Executive Director Meredith Williams testified to the Joint Budget Committee.

“We project we will run out of money in the lifetime of most of our members, including our retirees,” he told the panel.

According to the CAFR, PERA had only $29.6 billion in assets to pay $57 billion in benefit obligations.

PERA’s troubles date back to 1999-2000, when the pension plan peaked at 104.7 percent on its ratio of assets to obligations (liabilities). The Legislature was feeling flush, and passed bills reducing the employer contribution. The PERA board of trustees also began allowing state employees to purchase additional service credit at prices well below actuarial value. In 2003, for example, state employees purchased $772 million in service credit contracts that created a $1.2 billion liability for PERA.

The recession of 2002 hit PERA hard, with a loss of $3.4 billion in its investment portfolio. By then, the asset-to-liability ratio had dropped to 87.9 percent, and PERA had an unfunded liability of about $4 billion. Legislators took the first action to solve the PERA shortfall in 2004, passing a bill to increase the employer contribution and setting up a new tier of membership for new employees that offered lower benefits.

In 2005, the plan lost another $2 billion, and its asset-to-liability ratio dropped to 70 percent. That led to 2006 legislation that set up another separate tier of PERA membership with still-lower benefits and increased employee contributions.

PERA trustees have been working on a solution to the problems created by the 2008 losses for the past 15 months. They came up with the 2/2/2 Plus Plan, which is now SB 1. It calls for a 2 percent increase in the employer contribution, a 2 percent increase in the employee contribution and a 2 percent limit on the annual cost of living increase (COLA) for retirees. The “plus” refers to structural changes in PERA’s benefits.

Williams told The Statesman that 2/2/2 Plus should restore PERA to fully funded status within 30 years — possibly sooner if there are a couple of consecutive years of good returns.

As of Dec. 18, PERA’s unaudited assets were $33 billion, representing a better than 10 percent return for the year.

Under 2/2/2 Plus, 90 percent of the costs for fully funding PERA would be borne by current employees, retirees and future employees, through a combination of increased contributions and reduced benefits. The final 10 percent would be covered by state and local government employers through higher contributions.

For retirees, the COLA may be capped at 2 percent, effective on the date the bill becomes law. In addition, the COLA would be indexed to the Consumer Price Index for Urban Wage Earners (CPI-W) and could drop to zero. Williams said that the COLA is adjusted every March. If the bill becomes law before the end of March, the COLA will be zero in both 2010 and 2011. Beginning in 2012 the COLA will be capped at 2 percent unless PERA has negative investment returns.

That’s where the lawsuits come in. Williams and others say numerous PERA members, especially retirees, have indicated they are likely to pursue litigation if their benefits are cut. PERA Counsel Gregory Smith told the committee that PERA has retained outside legal counsel on the matter, and he believes they will prevail in a lawsuit. PERA also is hoping the Legislature will ask the Colorado Supreme Court to review the matter through interrogatories before the end of the session.

No matter what, “There will be lawsuits,” Williams said.

In written testimony to the JBC, PERA retiree John Waldorf said he chose to retire “based on the pension offer you made me. Now you propose to unilaterally change the terms of our agreement to my permanent and increasing detriment. I don’t understand how it would be a breach of contract if I did that but it’s not if you do it.”

JBC Chair Sen. Moe Keller, D-Wheat Ridge, said she has received several e-mails from retirees asking her not to change the COLA.

The 2/2/2 Plus Plan also would change how PERA treats its retirees who return to work for state and local governments that are PERA employers. In the past, PERA retirees could return to work for up to six months of the year (or approximately 20 hours per week) and receive full benefits without making any additional contributions. Employers also did not pay additional contributions for those retirees. That changed in 2004, when PERA employers were required to pay a contribution for their working retirees. The 2/2/2 Plus Plan calls for retirees to make employee contributions at the same rate as all other employees. However, those contributions do not accrue additional benefits and are not deposited in the employee’s account.

For current employees, the plan would extend a supplemental 0.5 percent contribution from salary increases that began in 2006 and which was due to expire in 2013. Under 2/2/2 Plus, it would continue until PERA reaches full funded status.

PERA benefits are calculated using an average of the three highest years of salary. The age plus years of service requirement to gain full benefits at retirement would increase from 85 (e.g. age 55 plus 30 years of service) to 88 (age 58 plus 30 years of service) and would apply to those hired after Jan. 1, 2011. Anyone hired earlier is required to be either age 50 or age 55 (depending on the hiring date) and to have accrued 30 years of service.

PERA employers also would be expected to increase their contributions. They have been paying an additional 0.4 percent since 2006, but that additional contribution was scheduled to expire in 2013. Under this bill, that additional contribution would be extended until it reaches a cumulative total of 5 percent.

Williams explained that the employer and employee contributions would be decreased once PERA reaches a ratio of 110 percent of assets to liabilities. However, in its 78-year history, PERA has been above 100 percent in only two years, 1999 and 2000, and has never reached the 110 percent level.

Williams acknowledges that the plan won’t be popular with anyone.

“There’s something in this for everyone to dislike. None of us [at PERA] signed up to cut benefits, but changing the benefit structure is imperative if PERA is to continue paying benefits well into the future,” he said.

PERA critic Barry Poulson, an economics professor at CU-Boulder and a senior fellow at the Independence Institute, said the PERA plan is unlikely to fix the fund’s problems.

He contends that it’s “a bankrupt system” and maintains that PERA’s estimate of an 8.5 percent rate of return on investments is unrealistically high and should be closer to 4 percent. He also believes the length of time allowed for payoff of unfunded liabilities is out of compliance with both Colorado statutes and federal government standards.

Poulson called the PERA fix a “Band-Aid” solution that differs little from what was proposed a few years ago, with only modest benefit reductions and an increase in contributions insufficient to fix the problem.

Instead, Poulson believes PERA should be converted into a defined contribution plan.

PERA’s anticipated 8.5 percent rate of return was higher than some of the nation’s largest public pension plans, and, in October, the PERA board decided to lower it to 8 percent. The California system, the nation’s largest, has an expectation of 7.5 percent; its teachers’ pension plan expects 8 percent.

However, even those rates are considered “rosy” by some experts. Alicia Munnell, director of the Center for Retirement Research at Boston College, stated in a March 2009 article for Calpensions.com that the “controversial area is the rate of return assumed in the actuarial valuation of pension plans. Public sector sponsors tend to assume high returns (8 percent or more), which makes the taxpayers’ commitment for future benefits seem small and encourages major expansion.”

JBC member Rep. Kent Lambert, R-Colorado Springs, said the PERA plan has some “good aspects to it,” but remains insufficient.

“What they’re proposing is to increase the state taxpayer contributions to unprecedented levels, and to take employee contributions to 29 percent or 30 percent of a paycheck.

“It’s unfair to the workers. We have to get to a system that is self-sustaining and transition to a defined contribution system.” Lambert said.

Lambert plans to introduce different legislation on PERA, with the co-sponsorship of Sen. Keith King, R-Colorado Springs.

He says Rep. Jim Kerr, R-Littleton, also is drafting a bill on PERA reform.

Lambert said although he probably won’t have the votes to get his bill through the Legislature, he’s going ahead because he wants to demonstrate that there’s an affordable solution to the problem.

“This has gone on far too long. We can’t afford what PERA wants to do in the future,” he said.

As to the Shaffer-sponsored PERA proposal, Williams said he hopes it goes through with its major components intact. He cautioned that any amendments easily could undermine its effectiveness.

Williams said that although every pension plan in the country is in the same trouble, to his knowledge, Colorado is the first state to tackle the problem.

“We’re significantly ahead of the curve,” he said.

In March 2009, PERA was recognized by the Public Pension Coordinating Council for meeting professional standards for administering public pension plans, which would seem to indicate that it’s on the right track, despite Lambert’s concerns. The council is made up of the three national public pension plan organizations who set standards that “reflect the minimum expectations” for administration and management of public pension plans, and serve as “a benchmark by which all defined benefit plans should be measured.”

In addition, Williams noted, PERA’s 2008 losses were lower than the industry’s benchmarks.

Lynea Hansen is a spokesperson for the Colorado Coalition for Retirement Security, which represents nine organizations with 200,000 PERA members, including the Colorado Education Association, AFSCME and the Colorado Association of School Executives. She said her group advocates a modified 2/2/2 Plus plan. The coalition wants the COLA to be a flat 2 percent rather than the 2 percent capped-and-indexed rate proposed by the PERA board.

“Retirees need stability and knowledge of what’s coming each year,” Hansen said.

The coalition is negotiating on the “plus” portion as well, according to Hansen.

Colorado WINS (Workers for Innovation on New Solutions) — a group formed to help state employees negotiate partnerships with state agencies, is a member of the coalition — but has yet to sign off on the proposal, Hansen said.

WINS deputy director Robert Gibson said the PERA changes, along with cuts in salary and increases in health insurance costs, are “breaking the backs of state employees. We would like a discussion of the entire package (pay cuts, health care and PERA) in order to come up with a solution.”

Marianne@coloradostatesman.com