$1.4 billion.
The number refers to the outstanding deficit to the city of San Diego’s employee pension fund, officially called the “unfunded actuarial accrued liability,” or UAAL.
Mentioned in nearly every report on the city’s ongoing financial crisis, the figure has taken on a life of its own, but few understand its meaning.
It’s also at the center of an ongoing criminal investigation by several federal, state and city agencies, including the U.S. attorney’s office, the Federal Bureau of Investigation, the Securities and Exchange Commission, and the county district attorney’s and city attorney’s offices. Six city employees indicted by District Attorney Bonnie Dumanis for alleged conflict of interest violations pleaded not guilty last week.
For openers, the $1.4 billion isn’t a debt that the city owes, such as a bill for items it buys like books for its library system, or a new firetruck.
The term refers to an estimated shortfall between what the pension fund owes its current and future retirees (a figure that requires actuarial estimates) and what is actually held by the fund (much easier to define), according to several sources familiar with the concept and how pensions work.
“The $1.4 billion in financial terms is the shortfall of everything that is owed to those who are retired now and everyone who has yet to retire, and the present value of the pension fund,” said Tony Cherin, a San Diego State University professor of finance.
Bill Sheffler, an actuary for 30 years and a member of the city’s retirement board since April, said the unfunded liability is the amount of money owed to current retirees and employees still working for the city, less what’s in the pension fund today.
The current value of the city pension fund, officially called the San Diego City Employees’ Retirement System, is about $3.6 billion. The sum of all that’s owed current and future city retirees is about $5 billion, resulting in a deficit of about $1.4 billion, according to a report done by the pension fund this year.
Given the most recent numbers as of June 30 of last year, the pension fund has a funding ratio of 65.8 percent, according to Lawrence Grissom, the pension fund’s administrator.
Short-Term Stability
The person who oversees the pension fund’s operations and its 55-person staff, Grissom said despite the fund’s hefty liability, there’s no chance it is in danger of running out of money, at least in the short term.
“In the near term, there isn’t a chance,” he said. “In the long term, it’s possible.”
For the latter to occur, the city would have to stop all contributions to the fund, but even then, it wouldn’t run out of dough anytime soon, Grissom said.
“If the fund didn’t collect another dime, it could still pay pension benefits for the next 18 years,” he said.
The city’s pension fund wasn’t always in a deficit situation. Going back to 1997, the returns generated by a raging stock market created an actual surplus of profits for the fund.
City officials, attempting to balance the budget and pay for increased services, looked to the pension fund as a source of revenue. But to tap into what it viewed as a cash cow, officials had to strike a deal with the city’s unions.
That deal entered into in 1996 has come to be known as City Manager’s Proposal 1 or MP1. That deal essentially delayed city contributions into the fund in return for city employees receiving increased benefits.
According to a report on the pension issue done for the city by Vinson & Elkins last year, among the benefits granted to employees in MP1 were:
– Increasing the multiplier for calculating the basic pension benefit from 1.45 percent to 2 percent.
– Setting up a system allowing employees to buy service credits at a discount, increasing their service years and their annual pension payment.
– Setting up DROP, or Deferred Retirement Option Plan, permitting employees eligible to retire to continue working and collect two checks: their regular salary, and the other, their monthly benefit check, which would be deposited into a separate account the employee could add to and withdraw all at once when he or she finally retired.
The plan developed by then-City Manager Jack McGrory assumed the increased benefits would cause more employees to retire early, and assumed a continued growth trend to the stock market. But in early 2000, the Nasdaq crashed, starting a three-year decline that caused significant investment losses to the fund.
Early Warning
As the stock market continued falling in late 2001, a telling e-mail sent by one city employee to another revealed the depth of the fund’s losses.
The e-mail, as detailed in the Vinson & Elkins report, from Terri Webster, then the city’s former assistant auditor, to former Deputy City Manager Cathy Lexin was titled “EEEK.”
“YTD SDCERS earnings as of Aug. 31, 2001 in the SDCERS trust fund is about $15M compared to $53M same time 2000 a 71 % drop! BEFORE 9-11-01!” the e-mail stated.
But investment returns weren’t really what were causing the problems. It was the reduced annual contributions to the fund by the city, said Jim Gleason, a retired city employee and former member of SDCERS who sued the city over a second deal between the city and its unions’ top brass that is known as City Manager’s Proposal II or MP2.
That arrangement was caused when the funding ratio of the pension fund fell below a threshold mark of 82.2 percent. That floor, established in MP1, triggered an immediate balloon payment estimated at about $500 million by the city, an amount it could not afford in 2002.
City Councilman Scott Peters said making the balloon payment to the fund “was not really a choice,” and would have meant closing police and fire stations.
No Worries?
He said advice given to the council in 2002 by city staffers and hired pension consultants was that MP2 was a way out of the crisis.
“Everyone gave us a rosy view of the situation in 2002 from the auditor to the city manager and there was no sense that this was a serious problem, and that this could be worked out over time,” he said.
Gleason, who served on the SDCERS board for 12 years, mainly in the 1970s, knew better and wrote letters to Mayor Dick Murphy and the council, trying to put a stop to MP2. When his effort failed, he and another former city employee sued to reverse the agreement.
Gleason said MP2 eliminated the threshold funding ratio altogether and would further erode a pension system that was already seriously hemorrhaging, and in danger of collapsing.
In addition, in his suit, Gleason alleged that city managers, acting as negotiators, and union members, were all making deals that would benefit themselves.
“The whole ‘meet and confer’ process (negotiations between city management and unions) was turned into a vehicle of corruption,” Gleason said. “You had city management employees sitting down with union members, and all the while they were all negotiating for themselves.”
Last year, the city entered into a settlement on the Gleason suit that put up $500 million of city-owned real estate to ensure defined contributions through the 2008 fiscal year.
As per that settlement, in FY 2005 (ending June 30), the city contributed $130 million to the pension fund. It will make a $163 million contribution for the coming fiscal year.
Yet even with these additional payments intended to catch up to the deficit, the city won’t be able to close the gap by 2008, said Steve Meyer, the president of SDCERS and a supervising chemist in the city’s wastewater department.
“By 2008, we should be back at the 100 percent level, the full actuarial rate,” Meyer said. “That doesn’t mean that $1.4 billion is going to go away. It’s just not going to get any bigger.”
April Boling, the chairwoman of a Pension Reform Committee that presented a list of 17 recommendations to fix the pension fund’s problems, said the fund’s deficit will likely grow because the city has chosen not to heed the committee’s advice.
“The city set a bad precedent in 1996 (with MP1) that has come back to haunt us, and they’re continuing to do the same thing today,” she said.
