Can LA Afford the Fire and Police Pension Plans?
- 27 Nov 2012
- Written by Jack Humphreville
LA WATCHDOG - The City’s contribution to the Fire and Police Pension Plans (the “FPP Plans”) is projected to be $562 million, a six fold, $475 million increase compared to the $87 million payment ten years ago.
Unfortunately, this budget busting pension contribution is seriously understated as City Hall is manipulating the assumptions that determined the Annual Required Contribution to the Fire and Police Pension Plans.
For example, the City is short changing the seriously underfunded FPP Plans by at least $100 million by phasing in the impact of changes in actuarial assumptions over three years, lowering the rate of healthcare inflation despite trends to the contrary, and deferring the recognition of losses in its investment portfolio by extending the “smoothing” period from five to seven years.
But these “savings” that have been manufactured by City Hall are chump change compared to the fraud being perpetrated by City Hall and the union leadership by relying on the overly optimistic investment rate assumption of 7.75%.
For 2012, the actuarial return on FPP Plans’ $15 billion investment portfolio was $861 million lower that the projected return, a loss that will eventfully be footed by the City and its residents.
This actuarial loss is not a fluke. Using the average rate of return of 5.5% over the last eight years, the projected shortfall would have been about $340 million.
With this systematic shortchanging (some might call it looting) of the FPP Plans, no wonder it has gone from being fully funded in 2004 to having an unfunded pension liability of $5.4 billion as of June 30, implying a funding ratio of only 72% for its almost $20 billion in future pension and healthcare benefits.
However, if the Fire and Police Pension Plans used an investment rate assumption of 5.5%, the unfunded pension liability would increase to at least $9.3 billion, representing a funding ratio of only 60%.
Despite this disastrous trend that will continue for many years, Mayor Villaraigosa, wannabe mayors Wendy Greuel and Eric Garcetti, and the Herb Wesson led City Council have refused to address pension reform for the Fire and Police Pension Plans because they do not want to alienate the politically powerful campaign funding leadership of the Police Protective League and the United Firefighters of Los Angeles, especially given that the March 5 election is only 14 weeks away.
The only attempt at true pension reform was Mayor Riordan’s proposed ballot measure for the May 21 election, the Bankruptcy Avoidance and Pension Protection Act of 2103, which would have resulted in substantial savings for the City and the DWP Ratepayers.
Under the Riordan Plan, new employees of the Fire and Police Departments would have participated in a Defined Contribution Plan where the City would have matched up to 12.5% of an employee’s salary.
Based on current hiring levels, starting salaries, and the normal costs associated with the FPP Plans, the City would have saved about $3 million a year, or $15 million in the fifth year, an amount equal to the Mayor’s penny ante Retirement Security Plan for newly hired civilian employees that was recently approved by his lackeys on the fiscally irresponsible City Council.
There would have also been significant operational savings for the FPP Plans in that a Defined Contribution Plan is less complicated and therefore easier to administer.
Importantly, the City would have been relieved of bearing the risk of the Wall Street casino where it is essentially guaranteeing an overly optimistic rate of return of 7.75%.
But this was not a one way street.
Under the Defined Contribution Plan, a 30 year employee would have been able to amass a nest egg of about $1.8 million, a level that would support an upper middle income retirement. And if the rate of return on the investment portfolio increased from 5.5% to 7.75%, the bonanza would have been $2.7 million.
Another advantage for participants of a Defined Contribution Plan is that it is portable, does not expire on the death of the employee (or his/her spouse or partner), and remains an asset in the estate.
The Riordan Plan would have also required active members of the Fire and Police Pension Plans to cover the “normal” cost (the annual cost excluding the amortization of the unfunded pension liability). After seven or eight years, this would have resulted in savings of over $300 million a year for the City, including a savings in the first year of over $40 million.
There would have also been considerable savings in that the Riordan Plan would prohibit spiking as any pension payment would have been based on the highest consecutive 36 month average of base salary and would have excluded overtime, bonus, and non salary compensation such as sick and vacation days.
In addition, the Riordan Plan would have limited increases in pensionable pay if the City’s contribution to the Pension Plan exceeded 25% of employee compensation. This would have been the case for the first seven or eight years. This lower rate of increase in salaries would have lowered the normal cost and reduced the funds needed to amortize the lower unfunded pension liability.
There is considerable disagreement over the how to amortize any unfunded pension liability, any investment shortfalls, and future pension obligations if the Riordan Plan was implemented. However, if the City was to continue to amortize the unfunded pension liability and any future investment shortfalls in the manner as it does currently, it would essentially be a wash between the existing Fire and Police Pension Plans and the Riordan Plan.
Next year, the City will spend $300 million to amortize the unfunded pension liability, which if continued for 20 years as is the case with the current arrangement, should be more than enough to amortize the $5.4 billion shortfall.
As of Monday, Mayor Riordan suspended his signature gathering efforts because of the difficulty of getting 250,000 valid signatures by December 28, especially in light of strong union opposition.
But it is obvious that the City cannot afford the projected increases in its pension contributions to the Fire and Police Pension Plans as the projected pension contribution will increase to almost $800 million in 2017, chewing up 16% of General Fund revenues.
Along with the pension contribution to the Los Angeles City Employees Retirement System, total pension contributions in four years will be $1.3 billion, representing 26% of the General Fund. And once again, these pension contributions are understated because of the reliance on an overly optimistic investment rate assumption of 7.75%.
So we come back to the basic question for not only our Elected Elite, but the Police Protective League, the United Firefighters of Los Angeles, SEIU 721, and all the other unions representing city workers as well as The Los Angeles Times and The Daily News:
How are you going to balance the budget, fix our roads and sidewalks, and fully fund the City’s pension plans?
Without detailed, well thought answers, why should Angelenos approve an increase in our sales tax to 9.5% that will once again permit City Hall, the campaign funding union leadership, and all their cronies to continue to “kick the can down the road” to insolvency?
(Jack Humphreville writes LA Watchdog for CityWatch He is the President of the DWP Advocacy Committee and the Ratepayer Advocate for the Greater Wilshire Neighborhood Council. Humphreville is the publisher of the Recycler -- www.recycler.com. He can be reached at: firstname.lastname@example.org) Illustration by Fred Harper –cw
Vol 10 Issue 95
Pub: Nov 27, 2012