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Pension Reform: A Dozen Years of Easy Answers to Hard Problems

by Larry Bush on 07/27/2011

in Paper Trails

This November two pension reform ballot measures will join nine earlier pension reform ballot measures – all approved by the voters since 1998. In every case, the voters overwhelmingly approved measures that promised more in retirement benefits while costing taxpayers nothing or at least saving money while improving pension benefits.

The only defeated measure was last year’s belt-tightener from Public Defender Jeff Adachi.

CitiReport reviewed the ballot arguments for all measures from 1998 onward, finding eight times that voters were asked to sweeten retirement benefits for city workers – sometimes for one category like police, other times for all city workers.

Proposition A in 1998 upped police pensions from 70% of salary to 75% using the last 12 months as the benchmark.

The Controller projected that this would be a free ride – and free for the next 15 years.

“City does not expect to make a contribution to the Retirement System for at least the next 15 years,” the controller stated in the Voter Handbook.

Prop E in November 2000 extended the same pension increase to police officers hired after 1976.

The controller estimated the effect would be to add $34 million each year for the next 20 years, but added “Even with this proposal, the City does not expect to have to make a contribution to the Retirement System for at least the next 15 years. If this measure were adopted, according to the actuary, the City’s Retirement System would still have a significant surplus (estimated at over $2 billion as of 6/20/99)

That same election, voters also approved Proposition F, offering early retirement.  Voters were promised that the increased early pension would be more than offset by the salary savings as the number of city workers decreased. But the real reason was that the city was considering lay-offs of city workers, and this would be a box of candy as they were shown the door.

“Proposition F helps the City save money by providing an incentive for employees to retire early. It is targeted to reduce harm to employees who will be laid off and only provides a benefit when a position is cut from the City’s budget. On average, the City saves approximately $85,000 in salary and benefits for each position removed from the budget.

“Proposition F helps the City balance its budget by encouraging employees to retire and reducing the number of City employees. It will remain in effect until June 30, 2005, but can be extended for two additional years by a three-fourths vote of the Board of Supervisors” stated the Voter Handbook.

However positions were ultimately added and not removed from the budget.

In November 2003, Proposition B offered better retirement benefits for public safety workers, allowing the city to negotiate with PERS for increased benefits even if costs increased – but promising that any increased costs would be paid by employees. The measure applied to District Attorney investigators and probation officers.

Less than six months later, in March 2004, voters approved Proposition F that extended the same bargaining rights to deputy sheriffs as those afforded to police and firefighters.

Next up was the February 2008 Police DROP program that paid police officers that would retire a pension while keeping them on salary. It promised that there would be no cost to the city.

By early 2011, the Controller estimated that the DROP program cost the city $52 million.

The Mother of Pension Reforms

The June 2008 Proposition B charter reform promised an across-the-board reform aimed at saving taxpayers some of the increased retirement costs.

The controller states that the measure would add approximately $84 million for the next 20 years, and then drop to about $27 million in increased costs each year.

However, in exchange city workers agreed to a wage freeze for the 2009-2010 fiscal year, saving an estimated $35 million. While this doesn’t exactly pencil out, being about $50 million shy, it was considered to be a good deal by everyone from business to labor.

By 2009 and 2010, the Civil Grand Jury begin looking at city pension costs, concluding that they were spiraling beyond the city’s ability to pay without sharp cuts in city services or increases in taxes and fees.

Unquestionably, Jeff Adachi’s 2010 pension measure was the offspring of those reports. It was soundly defeated in a campaign marked by passion and even some invective.

Pension Spiking

One point that the Civil Grand Jury raised was whether pension costs were being inflated by what is called “spiking,” or increasing an employee’s salary in the last year before retirement when it serves as the basis for a pension.

City officials soundly rejected the charge of spiking, which was nothing new. This was especially the view of the Fire Department where observers claimed it was a standard way of operating.

In July 2011, the Civil Grand Jury revisited the earlier report, updating the figures that might provide some insight into salary increases in an employee’s final year.

This is from that report:

The Fire Department claimed that, “Pension spiking has not occurred in the San Francisco Fire Department.”

“The Police Department stated it did not countenance, nor was it aware of “any practice which is violative of existing law or contrary to the provisions of the Charter: Pensions are governed by the provisions of the City Charter and overseen by the San Francisco Employees Retirement System.”

“The 2010-2011 Civil Grand Jury requested an update of the pension records for Police, Fire Department and other City employees (Miscellaneous employees). Data was reviewed for employees who began to receive a pension from May 1, 2010 through February 28, 2011. This data was reviewed to identify individuals whose retirement pay increased dramatically as a result of an unusual salary increase during the last year(s) of service.

“The Jury found evidence of an increase over 10% in salary during the last three years of service in 21.2% for the Fire Department employees, or 10 of the 47 employees who retired in this period.

“The Police retirement data contained 35 individuals. Two had increases over 10% in the three years prior to retirement, or 5.6% of the total police employees. The

“Miscellaneous Employee data only had 2.6% of the 1032 employees who retired during the period receiving an increase over 10%.

“21.2% of Fire Department employees received over a 10% increase in salary in their final three years of service. The Fire Department stated, in response to the prior pension report, that pension spiking does not exist in the department. The Jury questions whether the Fire Department considers this a standard practice and thus would not judge it to be spiking.

“A number of employees in the Fire Department and to a lesser extent the Police and other departments continue to receive annual salary increases in excess of 10% in at least one of the three years before they retire. This leads to a deficit in the City’s retirement system account, which is calculated on an anticipated 4.5% annual salary increase. It also unfairly spreads the costs of pension spiking to other departments that do not engage in this practice.

The mayor upheld the conclusions of his department heads, stating “pension spiking” is unfair and costly. However, I agree with the Controller’s Office there does not appear to be evidence to support the conclusion that this practice is occurring in the City. Additionally, there are appropriate controls in place on acting assignments and pay practices and pension benefits in accordance with Municipal Code and City Charter.”

The Circle of Blame

One consequence of what now can only be considered a battle over pension benefits has been to place blame on city workers, charging them with seeking pensions that exceed what would be available in the private sector, if not actually featherbedding their retirement years.

Elected officials are condemned for being under the thumb of unions who seek only improved benefits for their members and are heedless of the consequences for taxpayers and city services.

Standing outside this circle of blame is the city’s Retirement System whose responsibility is to carefully invest funds to ensure a stable income stream that meets retirement costs.

The Retirement Board’s records tell a different story than one of greedy city workers and a compliant set of elected officials.

“Between June 2007 and January 2009, the Dow Jones Industrial Average declined 40%,” notes the mayor and board in their proposed November charter pension reform.

“It caused the retirement fund to drop from being fully funded – or more than fully funded – to being only partially funded. As a result, to make up the shortfall in the retirement fund, the city has had to increase substantially its employer contributions, further exacerbating the City’s deficit.”

Retirement Board Escapes

San Francisco’s Retirement Board is made up of seven members – including Sean Elsbernd representing the Board of Supervisors, three mayoral appointees and three elected city employees.

For years, the Board and its director have rejected suggestions that it adopt prudent strategies that might better protect against corporate mismanagement that results in investment losses.

Unlike the California PERS program, it does not have a policy of “corporate governance” that eschews investing in companies whose directors are stretched too thin over too many corporations. In the case of PERS, it does not invest in companies where directors serve on more than three boards.

PERS also does not invest with companies that have crossover CEO’s and Board members who chair compensation committees. In those cases, the chair of a Board compensation committee may be the CEO of another corporation, and vice versa where the chair of that company’s compensation committee is the CEO of the first company.

PERS has suffered its own losses, heavily tilted toward poor decisions on investments in development. PERS officials believe that they were misled and now is bringing criminal charges against some of those who arranged for PERS money to be invested.

No such action has been contemplated in San Francisco.

Notwithstanding those factors, almost without exception all major institutional investors suffered serious losses during the 2007-2009 period. However, prudent strategies did make a significant difference in the consequences for those investors.

During 2008, Berkshire Properties, the Warren Buffet investment outfit, lost just under ten percent in value. The Standard and Poor comparable tracking showed a loss of 37 percent, closer to what San Francisco suffered during this period.

There was little doubt that during the 2007 period a dark cloud was growing in the investment world. The “housing bubble” started to burst, and with it came foreclosures. With that came lost investments held by banks and other institutions.

At the U.S. Department of Housing and Urban Development, the first signs came from California, where foreclosures became a serious issue by late 2007.

At the city’s Retirement Board, one of the mayoral appointees is a Wells Fargo vice president.

The Power to Hide

As San Francisco seeks to address its pension obligations against projected revenues, one place it still has parked to the side of the road is the policy and practices of the Retirement System Board.

Politically, it is just short of a third rail. The four elected Board members always include a police officer and a firefighter, who together have substantial sway over what retirees will pay into the system. However, their focus is not on investment strategy.

Elsbernd has participated in months of discussions regarding take-backs from city workers and work-around on pension costs, but as a member of the Retirement Board has not offered any reforms that might better protect investments, much less improve the return.

Those are hard questions, and so far, it is so much easier to tackle city workers who have only their pension to protect them in their senior years.

Rep. Barney Frank, who oversees much of the banking reform underway, tells the story of the fellow searching around under a street lamp. A passerby asks what he is doing and the man responds that he is searching for his wallet. “Which side did you lose it on,” he asked. “Oh, I lost it down the street but the light is so much better here.”


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