Employees Likely to Face Massive Pension  Contribution Increases under Turner Plan

     The centerpiece of Turner’s pension proposal is its “corridor” mechanism which supposedly caps the amount the City will ever be required to contribute to the pension plans.  How the cap would actually work in reality is anybody’s guess.  It is a hideously complex, completely untested, experimental model, which has never been tried anyplace in the public or private sector as nearly as I can tell.
     But assuming it would be implemented as advertised, what would the effect on the City’s employees be?
     The proposal provides that if the City contribution exceeds the cap, the pension plans must decrease the cost-of-living adjustments (COLA), increase retirement ages and/or increase employee contributions.
     When you do the math, you find out that there is not much savings from further decreasing the COLAs or increasing the retirement age.  So, most of the adjustment will have to come from increasing the employees’ contributions.  The problem is that it will take huge increases in the employees’ contributions to make up even a small miss on the investment returns.
     The effect on the three plans is different.  Firefighters will be the most penalized.  The payroll for the fire department is roughly $300 million.  The firefighter pension fund has about $3.7 billion in assets.  If it misses the assumed rate by one percent (6% vs. 7%), that is $37 million that would have to be made up by an increase in employee contributions.  That means that the firefighters’ contributions would have to increase by 12.2% ($37 million/$300 million payroll).  The firefighters are already contributing about 10% toward their retirement, so this would take the required employee contribution to 22.2%.
     If you run the same calculation for the police plan you come up with 9.4%, which will take their employee contribution to 19.4%.  The effect on the municipal employee plan is not as great.  They would be looking at about an additional 4%.  One of the perverse outcomes of the corridor is that the better funded the plan, the harder the members of that plan are hit.
     If the investment returns are less than 6%, the increases in employee contributions would rise proportionately.   Keep in mind that the most recent 5-year average for the three plans is in the 5-6% range.
     Of course, requiring employees to contribute anything close to 20% is patently absurd and will never happen.  When we get to that point, and if the City were to actually attempt to enforce the increases, there would be mass resignations, strikes and, of course, more litigation.
     This is the fundamental flaw with Turner’s cap.  To claim that the City’s exposure is capped, it relies on a mechanism that will never be enforced because it is impractical.
     The timing of when employees will face higher contributions, and how high those increases will be, depends on how the plans do in the markets.  There are also a number of dampening features and trapdoors in the corridor language that will allow the City and plan administrators to manipulate the numbers to avoid hitting the cap, at least in the short term.
     But in the meantime, we are going to have to attempt to recruit and retain City employees with this sword of Damocles hanging over their heads.
     The corridor mechanism has been promoted as eliminating the need to begin the transition to defined contribution plans.  It does not.  There is no magic formula, no secret sauce.  The only real, long-term solution to Houston’s pension crisis to begin phasing out its defined benefit pension plans by moving new employees to defined contribution plans, just like 96% of the private sector has done.

Why Not Put New City Employees into Defined Contribution Pension Plans?

     According to a recent CNN survey, 96% of private sector employees have a defined contribution pension plan.  The private sector phased out defined benefit plans over the last several decades because it is impossible to predict what their ultimate cost will be.   They have proven to be particularly problematic in the public sector where elected officials, unions and pension boards have an incentive to understate the costs by jiggering the numbers – like assuming an 8.5% rate of return on pension assets.

     Predictably, that kind of chicanery eventually catches up with the pension plans and the entities sponsoring them.  One city after another that has played this game has found itself driven into insolvency and without sufficient revenues to provide basic municipal services.  Which, of course, is where Houston finds itself today.

     Turner has proposed a mechanism, the so-called “corridor”, to cap the growth of the City’s exposure to rising pension costs.  No other entity has ever adopted such a measure.  It is completely untested and experimental.  It is also hideously complex.  Complexity leads to ambiguity, which in turns leads to parties gaming the system and litigation.

     Of course, you might want to ask yourself, if this is such a great plan, how come no one else has ever used it?  You would have to believe that the same financial geniuses that got Houston into this mess have suddenly become so brilliant that they have devised a solution no one else in the country has been smart enough to think of.  Excuse me if I am skeptical of that unlikely scenario.

     But the truth is that no one knows how well it will work, or if it will work at all.  I have previously expressed my doubts and reservations.  Others, like the Arnold Foundation’s Josh McGee, have a more favorable view of its potential benefits.  But I have not heard anyone, other than Turner and his surrogates, claim it is a permanent fix to our pension problems, because it clearly is not.

     If our goal is to limit, to define the taxpayers’ exposure to pension liabilities, we know how to do that.  We know how to do that because the private sector has already shown us the way — phasing out defined benefit plans in favor of defined contribution plans.  By the way, in addition to the private sector, other public sector organizations in our area, such as the Port of Houston and Metro, have already done this.

     The easiest, the fairest, and the least painful way to start the transition is stop offering new employees defined benefit plans.  It will take years to work out of the problem, but at least, we know there is an end someday.

     So, the question I have been asking for the last few weeks is this: Why not add phasing out the City’s defined benefit pension system in favor of defined contribution plans for new employees to Turner’s plan.  There is nothing that prevents us from doing both.  What is wrong with a belt and suspenders.

     The only answer I ever get is that the employees will not agree to that.  Huh?  Let me get this straight, 20,000 employees, over half of which do not live in the City, are dictating what kind of pension plan the other 2 million of us are going to offer to new employees!!  Are you kidding me?

     I completely support someone who came to work for the City being promised a defined benefit pension to demand they receive what they were promised.  But the employees have no right to veto taxpayers deciding to move new employees to defined contribution plans, something they favor by more than a 2-to-1 margin.

    So why would our elected officials bow to such an outlandish demand?  Well, as they say, follow the money.  The employee groups, along with the vendors that are feeding at the pension trough ($50 million last year), make very generous campaign contributions.  In the last City election, the “Workers’ Voice PAC”, which has a Washington, D.C. address, doled out over $300,000 alone.

     Of course, the ultimate irony is that a continuation of defined benefit plans is just as bad, if not worse, for the current employees as the taxpayers.  If Turner’s plan is implemented and really enforced, contributions from police officers and fire fighters are almost certain to rise to nearly 20% in a few years.  And COLAs, well, you can forget about those altogether.  What kind of luck do you think the City is going to have trying to hire new police officers when they tell recruits they have to contribute 20% of their salary to a pension that does not have a COLA?

     But, of course, it is the taxpayers who will, at the end of the day, be left holding the bag.  It is time for Houston taxpayers to take a stand and say, “NO MORE!”  If Turner wants to put his “corridor” in place, so be it.  But Houston taxpayers are entitled to a backstop in case the rosy promises we are hearing now end up being like the ones we heard about how the drainage fee was going to solve our flooding problem.

     We know that phasing out the defined benefit pension by switching new employees to defined contribution plans will absolutely make this problem go away, eventually.  So again, I ask the question, “Why not?”

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