State dodges new pension bullet

August 14, 2014

A unanimous Supreme Court today gave budget writers much needed good news when Justices rejected two union initiated pension lawsuits that could have added an additional $1.3 billion in new costs for the 2015-17 budget (state and local).

Writing perhaps the sweetest words lawmakers have heard recently from the Court, Justices said:

As in the companion case, we hold that the legislature reserved its right to repeal a benefit in the original enactment of that benefit and the enactment did not impair any preexisting contractual right . . . The legislature is allowed to condition its grant of pension enhancements using express language in the statutory provision that creates the right.

At issue in these cases is whether lawmakers had the legal right to make changes to what they said were conditional pension benefit increases.

The unions were challenging whether the statutory language used when granting pension gain-sharing and Cost of Living Adjustments (COLAs) actually gave lawmakers the right to condition these pension enhancements:

The legislature reserves the right to amend or repeal this section in the future and no member or beneficiary has a contractual right to receive this postretirement adjustment not granted prior to that time.

Here is how the Attorney General described the controversy in his brief:

Plaintiffs claim a contract right to billions of dollars in pension enhancements---money that could otherwise fund crucial needs from education to infrastructure repairs---based on a statute that explicitly barred any such right and said that it could be repealed at any time. Their argument misstates both the facts and the law, asking this Court to ignore plain statutory language, invade core legislative powers, and cripple state and local budgets . . .

When asking the Court to invalidate the Legislature's pension saving moves, the unions' brief said the proper solution would be to raise taxes to provide for the benefits:

The state estimates that by eliminating the UCOLA, it will save about $7.6 billion over 25 years, and $870 million in the 2011-13 biennium alone. Those savings will be reflected in lower employer contributions to Plan 1, a defined benefit plan funded by a combination of employer and employee contributions.

In repealing the UCOLA, the State is doing more than merely 'call[ing] upon public employees to share in the sacrifices required of the state citizens to preserve crucial services.' The State is placing an unfair and disproportionate burden on a small group of largely retired persons. It is doing so by eliminating a benefit for which those largely retired individuals have clearly 'paid' in the form of employment services rendered. '[S]acrifices required of the state citizens' should be shared by all citizens through use of general revenue mechanisms.

While today's ruling is good news for budget writers all is not rosy when it comes to the state's pension outlook. Last month the state Pension Funding Council decided to approve a phased-in three biennia approach to addressing pension funding changes needed in response to increased life expectancy for government employees.

The decision to go with phased-in pension payments versus adopting the actuarially recommended rate was made without knowing the long-term costs. According to the State Actuary (emphasis added):

It's important to note that funding less than the long-term expectations (100% of Scale BB) will ultimately increase future required contributions should our assumptions prove accurate.  We have not captured the long-term impact of these funding shortfalls in this analysis.

The State Actuary made a very clear pitch on what was at stake:

Adopt recommended rate:

  • Actuary's best estimate of future pension costs

  • Opportunity to 'pre-fund' expected costs and maximize plan health

  • Does not manage budget impacts; may not be affordable for employers or Plan 2 members

  • Largest short-term budget impacts; opportunity for most-long term savings

Adopt phased-in:

  • Not consistent with best estimate calculation

  • Not fully prefunding the expected costs of the system under current funding policy; does not maximize plan health

  • Allows time to manage budget impacts

  • Smaller short-term budget impacts; higher long-term costs

Washington Policy Center recommends that effective state pension reform should be based on the following principles:

  • Do not skip any pension payments;

  • Close the current defined-benefit plan to new hires;

  • Direct all savings toward paying down unfunded pension liabilities;

  • Enroll new hires into a defined-contribution plan;

  • Constitutionally require the actuarially-recommended pension payment and require a supermajority vote to enact new benefits.

It is important to note there is no life expectancy impact on the funding ratio for defined-contribution plans.

The private sector has been moving steadily away from defined-benefit plans for decades, instead offering employees defined-contribution pensions that provide retirement payments to an employee’s pension while helping companies accurately project future pension costs.

Part of what has contributed to the state’s nearly $6 billion unfunded pension liability is that legislators and past governors have not made the required actuarial contributions over the past decade so that lawmakers could spend that money on other programs. Washington’s multi-billion dollar pension problem was not created overnight, so it will take time to pay off these unfunded liabilities. Thankfully the Supreme Court did not make the problem even worse today.

Additional Information
Legislature Considers Defined-contribution Pension Reform for Public Employees and Elected Officials
Total Debt Scorecard for Washington