(Bloomberg) -- Cities across California are beginning to draft their fiscal blueprints for the next year -- and for many of them, that means paying more to the California Public Employees’ Retirement System.
The percentage of payroll that the average police and fire department shells out for pension costs is expected to reach 56% by 2024, with the number of local governments paying more than 70% doubling to 59 by then. That means that for every dollar those cities spend on salaries, they’ll need to contribute at least another 70 cents to Calpers, the largest public pension in the U.S.
Those contributions are rising in part because of decisions by the pension fund’s board to absorb market losses faster and to lower the assumed investment return, which requires larger contributions from California and its municipalities to make up for the smaller projected gains. If the fund misses that 7% annual investment target, as it did for the year that ended in June and may continue to miss over the next decade, as Chief Investment Officer Ben Meng warned, that means even higher amounts from taxpayers.
“Calpers is really putting additional pressure on the cities to achieve their goal of obtaining a much higher level of funding,” said Howard Cure, head of municipal research at Evercore Wealth Management. “It’s the right, prudent thing to do, but it’s a burden on these cities.”
Across the country, states and local governments have about $4.3 trillion less than what they need to cover retirement benefits -- the result of investment losses, inadequate contributions, longer lifespans and perks granted in boom times. Even San Francisco, the wealthy tech hub, is forecasting budget deficits partly because of the rising expense of its pension promises.
Solvency
In an environment of dimming return prospects amid low interest rates and an eventual end to the U.S. bull stock market, Calpers, like other public pensions, is seeking to cut costs and rework strategies to shore up solvency. Calpers has about 70 cents in assets for every dollar in liabilities. Nationally, plans are about 72.5% funded, according to the Public Plans Database.
“Our recent decisions have improved our financial position, but we know that rising contributions rates are a concern for the public agencies that contract with us to administer their pension plans,” Calpers said in a statement. “We’re laser-focused on achieving our investment return target and sustaining the Calpers fund. We remain committed to providing public agencies with resources and tools to help them plan their budgets and address their pension costs now and into the future.”
While the cost of public safety plans -- such as those for police officers and fire fighters -- is generally more expensive because of more generous benefits, cities are facing increasing payments for their other pension plans as well. Municipalities that are now seeing about a quarter of their payroll going to Calpers for non-safety plans will see that rate go up to 29% in 2024 on average, according to a November Calpers report.
Because of changes such as less expensive benefits for new workers and shortening the period in which market losses and gains are realized, Calpers says all the plans it manages should see full funding in the next 25 to 30 years and annual contributions from public agencies will decrease in 2026.
Few Years
But cities have to get through the next few years first, even if they have already taken steps such as making extra payments to chip away their liabilities, securing voter approval for tax increases for more revenue and asking workers to cover more of their pensions. And the payments are escalating so much for some that Calpers says it is concerned that the financial stress on cities poses a risk to its entire system.
“Employer contribution levels are climbing, and this is potentially increasing financial stress on some employers,” the Calpers report said. “The greatest risk to the system continues to be the ability of employers to make their required contributions.”
In Lodi -- a grape-growing town in the center of the state -- pension obligations will grow to 24% of the general fund in 2024 from 18% now, City Manager Steve Schwabauer said by telephone.
“Without any relief over the long term, services are going to suffer,” said Schwabauer, who works for the city of about 67,000 residents, which in 2018 approved a sales-tax increase.
Assistance appears unlikely from California, given that it didn’t intercede when the cities of Stockton, San Bernardino and Vallejo filed for bankruptcy, said Evercore’s Cure. The state is facing its own pension burden, too. In the current year’s budget, state lawmakers approved extra payments above required amounts for Calpers, as well as for the pension fund for school employees, to reduce the state’s liabilities for those systems. The boost didn’t affect the contribution rates for local governments, however.
Democratic Governor Gavin Newsom, when asked at a state budget briefing earlier in January about the rising retirement costs for cities, said his administration was “gaming a lot of scenarios out, the economy collapses and those obligations begin to crowd out services.” He didn’t elaborate.
“Those city concerns are very, very real in the next few years,” he said.
--With assistance from Dave Merrill and John Gittelsohn.
To contact the reporter on this story: Romy Varghese in San Francisco at rvarghese8@bloomberg.net
To contact the editors responsible for this story: Elizabeth Campbell at ecampbell14@bloomberg.net, Michael B. Marois, William Selway
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