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Future of Colorado retirement plan in doubt

August 17, 2013 Updated: August 19, 2013 at 11:29 am
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Balu Bhayani, 71, worked as an engineer for the Colorado Springs water department for 25 years before retiring. He left a higher paying job up in Denver for the stability of the PERA benefits package. Michael Ciaglo, The Gazette

Editor's note: A clarification was made in this story to show that the 2012 investment performance for the Public Employees Retirement Association made the pension fund more financially sound.

The financial stability of Colorado's $42 billion state pension fund will get worse before it gets better.

The Public Employees' Retirement Association is $22.7 billion shy of what is needed to pay out retirement benefits over the next 30 years. That unfunded liability grew by $143.4 million in 2012 despite a 12.9 percent return on investments.

But Greg Smith, executive director of PERA, said that's part of a deliberate long-term plan to get the fund's liability back in the black.

"We could have immediately increased contributions by the percentage it's going to eventually get to in 2017, but that would have put our divisions of government under stress and really impacted their ability to serve their residents," Smith said.

Instead, SB1 - passed during the 2010 legislative session - takes a 40-year trajectory at fully funding the retirement system. The legislation reduced lucrative retirement benefits for new hires, reduced the cost-of-living adjustments for retirees and increased the contributions required by employers incrementally over the next several years.

But whether PERA is in good shape after reforms that also did away with abusive loopholes depends on whose crystal ball you consult.

State Treasurer Walker Stapleton - who sits on the PERA board as an honorary member - said the fund is too far underwater for reforms made in 2010 to rescue the system from disaster.

"I want to see PERA succeed and make promises to workers it can fulfill," Stapleton said. "First and foremost, PERA needs to get to a rational and realistic rate of return, and then it needs to fund the plan properly. They're spending money in anticipation of investment returns that I don't believe in the long run they are going to earn."

But actuaries hired by PERA to forecast the pension's long-term viability have found the state will pay off the $22.7 billion unfunded liability within the next 40 years. That's a trajectory that is outside the general accounting principal of a 30-year outlook but still bodes well for the long-term finances of a plan that half a million people rely on for retirement.

PERA assumes an average 8 percent return on investment over the next 30 years and under that assumption the pension's unfunded liability is still expected to grow in coming years. In 2012 it would have grown by $143 million.

But PERA's strong return on investment last year, nearly 13 percent, made up for the anticipated shortfall in revenue and actually reduced the unfunded liability by $800 million.

Those predictions assume an average 8 percent return on investments.

Stapleton said that number is unattainable in the new reality of the stock market.

The past five years saw returns of 2.6 percent, including some spectacularly frightening single-year losses.

Smith points out the fund has averaged 9.4 percent in the past 30 years.

Common problem in U.S.

Almost all state pension plans across the U.S. are in the red - lacking the funds to cover the future cost of retirement pensions promised to workers.

"What we've seen over the past few years is a decline in these funded ratios for a variety of reasons, most notable the fact that the equity markets took a pretty substantial hit in 2009," said John Sugden, senior director in Standard & Poor's U.S. Public Finance Ratings Group, who wrote a pension report outlining the bumpy road ahead for the funds. "You're capturing at a potentially low point. We're going to see the market strengthen. We've seen these numbers fluctuate over time. Back in 1975, it was 51 percent, and with the market boom in the '90s, it was 100 percent or close to that."

Colorado now has one of the worst-funded pensions in the nation, according to two separate studies of 2011 financial data, and ranks as low as 10th in the U.S. in one study.

According to Standard & Poor's - one of the leading credit rating agencies in the world - the average funding ratio for public pension funds was 72.9 percent in 2011.

Using the same analysis, Colorado's funded ratio was 60 percent in 2011.

The funds are now at 61.9 percent funded, a slight increase according to the June 2013 Comprehensive Annual Financial Report.

But PERA has become a black mark in the state's debt and liability category of financial ratings.

"The debt and liability score for the state is one of the weaker of the scores of the various sections that we consider," said David Hitchcock, Standard & Poor's senior Colorado analyst. "Their debt load is pretty low, so it's really the pension issue that is in our view creating a weakness. It does affect the rating. Most other things in the state are ranked relatively highly . and it is one of the things that is holding the state back from potentially a higher rating."

PERA wasn't always in bad shape.

In 2000, PERA was 104 percent funded.

Then Lehman Brothers collapsed in September 2008, and everything changed. That year, PERA lost $10.5 billion in the stock market.

Most pensions took the loss from the financial crisis in 2008 and spread it out over multiple years to soften the blow. PERA just finished paying off those losses.

And the strong returns in 2012 helped speed along that recovery.

Stapleton cautions that a single year's return is no indication of future performance and that averaging the assumed 8 percent return on investment over the next 30 years is too ambitious.

Each pension board sets its assumed rate of return, and 8 percent is a common assumption, although tending toward the high end. For the PERA board, the vote has become closer every year and the debate more pronounced in part because of Stapleton's drumbeat.

Perhaps more troubling than the assumed rate of return is the fact that Colorado's unfunded liability is continuing to grow.

"Even at 8 percent, they're not funding what they would need to, to amortize the unfunded liability," Hitchcock said. "You might say the 8 percent is aggressive or unaggressive, but even with 8 percent, they're not funding what they need to."

In 2012, to pay off the state's unfunded liability within the next 30 years, an additional $143.3 million was needed for PERA. That deficit reached a high point in 2010 at $440.9 million, but recent reforms have helped close the gap - but not entirely.

PERA is instead paying annually what it would need to pay off the unfunded liability in the next 53 years.

Smith said that when you account for the lesser benefits that will be paid out to employees hired beginning in 2010, that payoff time drops to 35-40 years.

That payoff rate varies significantly among the five retirement funds PERA manages and the two health insurance funds.

The local government fund - made up of the retirements for municipal employees - is in the best shape, set to be 100 percent funded in 27 years.

The judicial fund is arguably in the worst shape with no clear picture of when the liability will be fully funded. It's projected at more than 100 years.

It's a small pool of highly paid individuals.

"The judicial division is only about 600 people total," Smith said. "In 2010, when we were looking at it, it was better funded than all the other divisions . now it's slipped over a little bit that's because it's such a small group that just a few employers not doing what was expected, like not giving any raises or people retiring a little earlier . very small changes make a difference in that division."

And like all the funds, it's not at risk of being unable to pay off obligations.

Teachers' salaries lower

Caught between this debate - being played out publicly in the early campaigning for 2014 - are taxpayers, retirees and public employers who seem cautiously optimistic about changes PERA has made to curb hemorrhaging retirement dollars and waning revenues.

"I keep a pretty close eye on it, and I think that it is on the right track," said Walt Cooper, superintendent of Cheyenne Mountain School District 12. "I don't think it's the looming crisis that some critics would level. I also don't think that . there aren't other sacrifices and pieces that we should pay in there to help it to a greater solvency."

Public employee pensions cost $81 million in 2012 for the city of Colorado Springs and 15 school districts in El Paso County.

That's 13.7 percent of the wages paid for the city and 15.65 percent for the school districts.

By 2018, school districts across the state will be paying 20.15 percent of their employees' eligible salaries to PERA. Employees are locked in at paying 8 percent of their salary to the fund.

In comparison, the private sector must pay 6.2 percent to Social Security - the government-run retirement system - and generally offers a retirement-fund match of 3 percent to 6 percent for a defined contribution plan like a 401(k).

So what do the additional contributions for public employees buy?

For El Paso County, PERA gives $376 million to 10,422 retired individuals and offers a health care plan for those retirees supplemental to Medicare.

It bought top-notch retirements that promised financial security in old age.

It allowed employees to retire early, sometimes "buying years" to get to a guarantee of up to 100 percent of their salary for life and a guaranteed 3 percent cost-of-living adjustment every year.

"There's no way my PERA benefit should be that high," said Glenn Gustafson, chief financial officer for Colorado Springs School District 11. "They should have never made the plan that rich, and you know who did it, it was the Legislature. They were fiscally imprudent about doing that, and every one of those legislators is in the PERA system."

Gustafson was an early critic of PERA, calling for reform of a system that was unsustainable.

"I was one of the ones banging the drum against PERA, but Senate Bill 1 satisfies me that they are doing the right thing," Gustafson said. "To do anything more would be brutal on us (the schools) because we're already seeing our employer contribution going up by almost double."

Gustafson said that in the future the high employer cost of PERA will cause school district's to struggle to be competitive with other states in teacher salaries.

"Our salaries will naturally be lower," he said. "We won't be able to give as great of pay raises because their money we could have put into salary increases is going into PERA. That's not a bad thing, but it's a challenge for us."

On top of lower wages, new hires will see decreased retirement benefits.

It's not something on the radar screens of most 25-year-old first-year teachers or city employees, but effectively they are paying for the rich retirements of those in the system, without an expectation of having a similar benefit themselves.

Employees used to seek the magic number of 80 - retiring at age 50 with 30 years of service. Now the benchmark is 90 - age 60 with 30 years of service.

In the great shake-up of 2010, retirees sacrificed some cost-of-living adjustment. The 3 percent annual bump is no longer guaranteed. In fact, it is capped at 2 percent.

Balu Bhayani, 71, said he was willing to take a cut in his COLA for the long-term stability of the plan he relies on in his retirement.

Bhayani worked for Colorado Springs Utilities for 25 years as an engineer in the water department. He retired with 35 years of service after dropping "six figures" to buy 10 years of service at age 59.

His retirement has been comfortable - filled with golfing trips and visits to see grandchildren - but his career with the city was not without sacrifice. Bhayani said he was making four times more working in Denver for his company when he quit in 1977 in search of better working hours for his family.

"When I looked at the total package at the Colorado Springs Water Department, even though my salary dropped a quarter to what I was making in the outside world, the benefit package was so strong it is one of the reasons I decided to take this job," Bhayani said.

He said the first few years were tough - struggling to make payments on a house he couldn't afford with his new salary.

But now, he is the envy of private-sector engineers who enjoyed higher salaries back then but lost much of their retirement in the 2008 financial crisis.

He is not concerned about the security of his retirement.

"I am in 100 percent disagreement with the state treasurer," Bhayani said. "PERA has administered programs so well that I really don't have any concerns at this point. . The PERA board is very cognizant."

Finally, he said, even if he was concerned, PERA has no control over its policies.

"When it comes to concerns, I'm going to talk to my own state legislator," he said.

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