UNIVERSITY OF PITTSBURGH pensionsINSTITUTE OF POLITICS subcommittee report What to Do about Municipal Pensions CONTENTS Letter from Limitations on the Subcommittee Cochairs Subcommittee’s Scope page 1 of Work page 7 Introduction page 2 Subcommittee Activities page 7 Executive Summary page 3 Key Facts page 7 The Current Status of Municipal Pensions Options Reviewed in Pennsylvania page 8 page 4 Recommendations The Underfunding page 9 Problems and the General Assembly’s Response Educating the Public page 5 on Pension Needs page 10 Purpose and Mission of the Subcommittee Appendices page 6 page 11 Originally released April 2009 1 Letter from the Subcommittee Cochairs As cochairs of the Pensions Subcommittee of the University Since the initial release of our report early in 2009, of Pittsburgh Institute of Politics, we are pleased to release various other legislative proposals have been introduced the attached report, What to Do about Municipal Pensions. in the State House of Representatives and Senate. Underfunded municipal pensions were a serious problem We want to thank the members of our subcommittee, in Pennsylvania before the economic downturn of 2008; who are identified in this report, for their participation and they now are part of what could become a spreading contributions. We hope that this report will contribute to municipal financial crisis, especially in our cities. Various constructive discussions of policy changes to municipal proposals have been advanced to address this growing pensions in Pennsylvania. concern. The recommendations presented in this report have been agreed upon by a wide variety of stakeholders. While the recommendations’ enactment would not solve all our pension problems, the fact that they achieved consensus support from our subcommittee should make Jane Orie Dan Frankel them prime candidates for legislative consideration. Member, Member, Pennsylvania Senate Pennsylvania House of Representatives 1 Timothy Johnson, Allegheny County Department Introduction of Administrative Services Gerri Kay, the Pittsburgh Foundation, retired Joseph King, Pittsburgh Fire Fighters IAFF Local No. 1 Even before the precipitous market decline of late 2008, Bernard Kozlowski, Public Employee Retirement pension obligations were threatening the long-term fiscal Commission (PERC) stability of many municipalities. Urban centers with declining Scott Kunka, City of Pittsburgh Department of Finance populations and unfavorable retiree-to-employee ratios— Michael Lamb, City of Pittsburgh Controller’s Office such as Pittsburgh, where pension fund liabilities represent Jeffrey Lewis, Heinz Family Philanthropies a big chunk of the city’s financial woes—have the most Bill Lickert, Teamsters Local 205 serious problems, but underfunded pension plans can be Marick Masters, University of Pittsburgh found in dozens of Pennsylvania municipalities of all sizes. David Matter, Oxford Development Company Budgetary pressures, longer life expectancies, and the David Miller, University of Pittsburgh state’s aging demographics have contributed to these Brian Parker, McGuire Woods LLP pension problems. In addition, some local governments have incurred pension obligations in good economic times In addition, James Allen of the Pennsylvania Municipal that become harder to sustain when the economy stalls Retirement System; Paul Halliwell of PERC; staff of the and investment returns drop. The status of pension systems Pennsylvania Department of the Auditor General; and as contractual obligations to employees limits options for Elliot Dinkin of Cowden Associates, Inc., an actuarial firm, change; a defined retirement benefit promised to a 25-year- served as resources to the subcommittee. Institute of Politics old new hire today becomes an unbreakable financial staff members Marie Hamblett, Moe Coleman, and Bruce obligation that could last far into the future. Barron supported the subcommittee’s work. In response to the growing awareness of municipal pension The subcommittee completed a draft report in September problems in Pennsylvania, the Fiscal Policy and Governance 2008. During fall 2008, the Institute of Politics conducted Committee of the University of Pittsburgh Institute of Politics additional outreach to stakeholders, discussing the report’s formed the Pensions Subcommittee to gather information five recommendations and their viability with municipal and consider policy options. The subcommittee, cochaired organizations, business representatives, executive branch by State Representative Dan Frankel and State Senator Jane staff, and others. The subcommittee recognizes that Orie, met 10 times from April 2007 through August 2008. any legislation based on the recommendations in this Other subcommittee members were: report will undergo considerable debate and may require Henry Beukema, McCune Foundation further amendment before it can achieve passage. The Daniel Booker, Reed Smith LLP subcommittee also recognizes that, because of the current economic downturn, increased revenue from taxes on Patrick Browne, Pennsylvania State Senate out-of-state companies’ insurance policies (required to Richard Caponi, AFSCME, District Council 84 fund the redistribution of state pension aid envisioned Brian Ellis, Pennsylvania House of Representatives in recommendation three) may not materialize for some Angela Williams Foster, University of Pittsburgh time. Nevertheless, after reviewing the feedback received, Christina Gabriel, the Heinz Endowments the subcommittee still considers its five recommendations William “Pat” Getty, Claude Worthington to be sound. Benedum Foundation This report summarizes the subcommittee’s Marva Harris, PNC Bank, retired activity and recommendations. Brian Jensen, Pennsylvania Economy League of Southwestern Pennsylvania 2 3 Executive Summary Background on How existing law the subcommittee addresses underfunding • Formed by the Fiscal Policy and Governance Committee • The Pennsylvania General Assembly became concerned of the University of Pittsburgh Institute of Politics to about growing unfunded pension liabilities in the 1970s examine policy issues related to significant underfunding and 1980s. of municipal pensions in Pennsylvania • Act 205 of 1984, as amended, requires municipalities • Cochaired by State Representative Dan Frankel and to fulfill pension obligations on a 30-year amortization State Senator Jane Orie, with membership from business, plan (40 years for distressed municipalities). labor, government, academia, and philanthropy • Public Employee Retirement Commission reviews plans • Met 10 times from April 2007 through August 2008 to verify that municipal contributions comply with funding obligations. Current status of municipal • Pittsburgh and Philadelphia received relief from the General Assembly in 1998, in the form of delayed pension plans: Key issues amortization plan, favorable accounting assumptions, • Enormous number of separate local government and bonding authority. pension plans—more than 3,000, including more than 2,500 municipal plans Key subcommittee findings • Inefficiency and high administrative costs, especially • It is easier to address the asset side of pension funds in smaller plans (i.e., investment management) than the liability side • Significant underfunding, most notably in, but by (pension benefits), as promised benefits represent an no means limited to, large cities inviolable commitment to employees. • Underfunding as a long-term risk to municipalities’ • Municipalities and state legislators frequently face ability to carry out necessary operations political pressure to increase benefits. Conversely, it is difficult to pass legislation delaying eligibility for pension • All but one State Senate district having at least benefits, despite increases in life expectancy that lead one underfunded plan to higher pension expenditures. • Portability problem • State pension aid is generous, but any attempt to • Wide variance in management: 800 plans managed revise it to assist underfunded plans risks being by the Pennsylvania Municipal Retirement System; criticized as a bailout. many others managed independently • Defined benefit (rather than defined contribution) • Substantial state funding (through tax on out-of-state pension structures are required by state law for many insurance policies sold in Pennsylvania) providing plans and preferred by labor. full-cost reimbursement for hundreds of plans • Consolidating plans is difficult because of the various plans and their differing benefit structures; consolidating the administration of plans is more achievable. 2 3 Legislative options considered Legislative recommendations 1. Continuing education for investment officers 1. Continue education for investment officers 2. Consolidation of pension plans (several possible 2. Consolidate pension plan administration within PMRS approaches were discussed, including consolidation 3. Revise the state aid formula to freeze the unit cost with the Pennsylvania Municipal Retirement System reimbursement at its current rate, require all plans (PMRS), requiring underfunded and underperforming to pay a portion of pension costs, and place leftover plans to transfer their assets to state management, revenues in a pool for merit-based distribution to or setting a timetable for mandatory consolidation distressed municipal plans of plans depending on their size) 4. Pass fiduciary responsibility legislation to hold profes- 3. Altering the state pension aid formula sional advisors to a higher fiduciary standard, require