By Ted Sickinger
At the heart of Democratic leaders’ plan to rein in the costs of Oregon’s public pension system is an accounting ploy. It provides short-term cost relief to public employers, but at the cost of further underfunding the system and leaving it more vulnerable to future market downturns.
Democrats unveiled a series of concepts designed to hold down pension costs in the Ways and Means Capital Construction subcommittee on Friday. As previously reported by The Oregonian/Oregon Live, the overwhelming majority of those savings would be generated by extending the payback period for the system’s $27 billion deficit.
Supporting proposals include a series of controversial cuts to employee retirement benefits that could land the state back in court and may lead to a surge in retirements. They include temporary employee contributions to the pension fund, a reduction in the interest rate used to calculate benefits under the system’s lucrative money match formula, and a limit on the final salary used in benefits calculations.
Missing in action are all the one-time sources of revenue that were part of Gov. Kate Brown’s own PERS proposal. Those included raiding the state workers compensation fund surplus, limiting tax rebates and redirecting various state tax revenues to protect schools from increasing pension costs.
All told, the measures reviewed Friday could be enough to hold public employers’ required pension contributions flat in the two-year budget cycle that begins in July 2021, according to an analysis by the system’s actuary. But they do almost nothing to address the system’s underlying problem – its massive debt.
And they could actually make the problem worse.
“It’s a temporary fix,” said Sen. Tim Knopp, R-Bend, the legislator who has probably focused the most on PERS costs and potential money-saving changes. “The only thing it does is lower rates in the short term. But with the political dynamics that exist, we’ll be hard pressed to get too much more from inside the building.”
Two-thirds of the savings that Democrats propose involve refinancing the PERS deficit. That plan involves legislators taking control of one of the pension system’s key funding assumptions, usurping the role of the PERS Board members appointed by the governor to safeguard the system’s funded status.
The plan would provide short-term cost savings. But it does so by reducing contributions to the pension fund. And that leaves the system more poorly funded, increases total costs to taxpayers over time and pushes the burden into the future.
It’s akin to refinancing a mortgage. But in this case, the principal is an obligation that moves up and down, sometimes in a volatile fashion, depending on whether the pension fund meets it assumed return on its investments. That rate is currently set at 7.2 percent annually.
The PERS Board is currently responsible for setting that repayment period. At this point, it’s 20 years for the bulk of the unfunded liability and the system is already well into its payback period, with rates set to eliminate it by 2035.
However, lawmakers’ proposal would refinance the entire deficit over a new 22-year period starting in 2020, extending payments until 2043. In 2035, when the deficit would otherwise be theoretically eliminated, the new plan would leave $11.6 billion in obligations on the table.
If the economy enters a downturn in coming years and investment earnings fall short at the same time employers are shortchanging contributions, the hole will get deeper.
“There’s no question that the danger we face is another market correction,” said Knopp. “If we get a catastrophic failure like we had in 2008, it will wipe us out.”
Gov. Kate Brown’s office said Friday that re-amortizing the deficit isn’t her first choice, but she’s supportive.
“In the face of significant increases in employer rates that would force cuts to teachers, public safety, and other public services, extending the amortization in a reasonable way balances the state’s needs, and the needs of the people we serve,” said a statement from her office.
Others are less sanguine.
“Lengthening the amortization period increases liabilities and makes it that much harder to address future costs,” said John Thomas, the longtime chair of the PERS Board until Brown replaced him last year. “We have witnessed the negative implications this has had on other public plans that are now even more seriously underfunded.”
Democrats have already seen pushback from unions on the proposal to redirect a portion of employees’ required 6 percent retirement contributions to the pension fund, rather than to the supplemental defined contribution plan where they go today.
The idea is to redirect a portion of those contributions — 2.5 percent of pay for Tier 1 and Tier 2 employees and 0.75 percent of pay for Tier 3 employee – to a pension stability account. That’s not a cut in take-home pay for employees, but a reduction in total compensation that would reduce the balance in employees defined contribution accounts at retirement.
The hit to employees would be largely dependent on where they are in their careers. A Tier 1 employee with five years left to work, for example, would see their individual account balances decline by 7.8 percent at retirement, the actuary calculated. A Tier 2 employee with 10 years left to work would see a 12.5 percent reduction in their individual account balance at retirement, while a Tier 3 employee, with a lower proposed contribution but 20 years left to work, would see a 7.1 percent reduction.
The proposals would shelter employees earning $30,000 or less from any contribution to the pension. And the redirection is theoretically temporary, as it would cease if the system’s funded status reaches 90 percent again. This proposal would not affect employees’ pension benefits, which provide the lion’s share of overall retirement benefits.
That employee contribution plan is similar to one that Brown offered to hold schools’ pension costs constant. But it’s less onerous for employees than those included in ballot measures filed by business groups.
But for public employee groups, it’s a non-starter.
“The proposed 12.5% cuts are illegal, unfair, and will send the state back to court,” said Karl Koenig, President of the Oregon State Firefighters Council.
The Democrats also have proposed to halve the interest rate used to calculate member benefit annuities under the system’s money match formula. The system currently uses its assumed earnings rate of 7.2 percent in that calculation, which is at least double the rate available on annuities in the private sector.
A declining number of members are retiring under the money match each year, as pension reforms in 2003 took some of the rocket fuel out of that formula. But it is still a significant percentage of retirees – 43 percent in 2017 – and is by far the more lucrative formula for many older members, who can see benefits as high as 200 to 300 percent of their final salary in extreme instances.
The money match proposal would only save a limited amount of money for employers, as it would only apply to a declining number of older employees. But for those employees, the hit could be severe – up to a 33 percent reduction in their benefits under that formula. That could push them to retire before the change took effect. More than 21,000 active Tier 1 members are currently eligible to retire because of their age or service. Another 12,000 former employees have yet to activate their PERS benefits but could at any time.
A third proposal would limit the salary amount used in members’ benefit calculations to $195,000, indexed for inflation. That would only apply to small number of employees, so the savings are insignificant.
Finally, the Democrats are proposing to eliminate restrictions on retirees returning to work. However, they would require employers to pay full pension contributions on those returned employees.
Since returning retirees accumulate no additional pension benefits, those contributions would accelerate the repayment of the unfunded liability. Besides refinancing the deficit and redirecting employee contributions, this measure generates the most savings for employers.
It’s a relatively non-controversial proposal. But amid the other proposals affecting employee benefits, there will be plenty of pushback to go around.
“They’re asking working families to shoulder a large part of the burden while other options go unexplored,” said Melissa Unger, executive director of SEIU Local 503. “We challenge the Legislature and the Governor to consider bolder ideas that protect working families, such as selling the state-owned SAIF Corp., to pay down the pension debt. In its current form, we cannot support this proposal.”