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New: Unfunded Liabilities And The New Berkeley Police Contract (News Analysis)

By Shannon Brown
Saturday September 08, 2012 - 10:51:00 AM

The city has published a draft of its proposed three-year contract (we are currently in year two) with the Police Union. Unfortunately, the draft does not include all the demographic and actuarial information that is necessary for a complete understanding of its terms, but some analysis is possible and useful.  

The new contract highlights three changes: the creation of a second-tier pension plan for all new hires; an increase in the employee contribution from both existing employees and new hires; and the replacement of a (taxable) supplemental retiree income plan by a (non-taxable) retiree health insurance premium assistance plan.  

In the new second-tier plan the age of retirement eligibility for new hires will increase from 50 to 55. Everything else stays the same. Savings are estimated at “1.8% of covered payroll and roughly $1 million over 10 years”. Since police salary and benefits are currently about $53 million per year ($530 million over 10 years), saving $1million over 10 years will contribute very little to improving the city’s finances. Presumably, this reflects the limited turnover and, thus, few new hires that are projected for the next ten years. And it is probably why the City Auditor said that “most of the cost-saving won’t kick in for a long, long time.” But, it is not certain that this change even then will save money - it could actually increase costs. 

This might happen because the new second-tier plan doesn’t change the annual contribution required to fund a pension (promised to be 3% of salary per year) — it only extends the date at which retirement can begin and, thus, creates the possibility of five more years of contributions and five fewer years of payments to retirees. But the possible savings could be negated by increases in cost resulting, for example, from the city having to pay higher pensions due to the higher salaries that employees may earn during the extended five year period. The net effect of the changes cannot be evaluated without access to the actuarial facts which have not been made available to the public. 

Also, it must be kept in mind that this is a three year contract and that savings projected over the next ten years (even small ones) may not materialize. A two-tier pension system may not be politically sustainable since rewarding people differently for the same work is not a winning recipe for harmony and morale in the workplace. When times get better, the pressure to eliminate the less favorable system would probably be irresistible, especially if it saves very little money. 

The second change the contract proposes is to increase the employee contribution by 1.5 % in year 1 and to 3.0% in year 2 and, presumably, thereafter. This is supposed to save the city $1.5 million over the three years of the contract. Again, compared to an expenditure of about $159 million in salaries and wages over those same three years, that is a very small amount.  

The third change is the elimination of the taxable supplemental income plan by a non-taxable retiree health insurance premium assistance plan. By switching to a non-taxable benefit program both the police and the city are getting more benefit from the same expenditure. This change has been under discussion for many years and its accomplishment represents a win/win outcome for all. 

But some of the details are not clear. Will the changeover to the new benefit be mandatory or voluntary for all? What will happen to the $55 million of unfunded liabilities in the existing plan as of 7/1/2010? What will the city’s contribution actually be? (In the past it has been a dollar amount equal to the two-party Kaiser monthly medical premium, even if only one person is involved.) The new contribution will apparently be capped at the lesser of the Kaiser rate or 6.0% per year. But medical premiums are projected to grow slowly over the next two years, so it is doubtful that the 6.0% cap will be meaningful. The new plan allegedly will save $14.5 million over 30 years. Again, we are projecting 30 years of savings based on a 3 year contract. But, in any case, this is a miniscule amount of money considering that something like $1.5 billion of salaries and wages will be paid to the police in those same years.  

In sum, it seems like the new Police contract will do very little to address the problem of unfunded liabilities in the Police Pension Plan (Calpers). These were $124.8 million on 6/30/2010 (most recent data). It would be a shame if this were so, as the police contract is often a model to be followed in the other employee contract negotiations. But more worrisome is the thought that this failure to make more progress with the Police may indicate that the city is unwilling to deal effectively with the problem of unfunded liabilities in all the city’s pension and retiree benefit plans which, collectively, amount to about $520 million. And compounding this problem is the Calpers practice of over–estimating the rate of return it can earn and the resultant underfunding of current obligations. If the city government is unwilling to take up the difficult task of fixing these problems, Berkeley may be in for some hard times. This is so, because, starting next year, the new GASB reporting rules will require the city to report unfunded liabilities much more like bonded obligations. This may well affect Berkeley’s bond ratings and ability to borrow money.