Column: Pension reform needs a ‘yes’ vote on Prop 124

No, our Republican state legislators and police and fire union leaders did not suffer heat-stroke under the desert sun. Spearheaded by Senator Debbie Lesko and the Reason Foundation, these divergent groups really did come together to craft much needed reform to the Public Safety Personnel Retirement System (PSPRS). And Governor Ducey signed S.B. 1428 into law last February. All that awaits for comprehensive reform of the PSPRS to take full effect is voter approval of Prop 124 in the May 17 special election. I strongly urge a “yes” vote.

Rising public pension debt and annual contribution rates to PSPRS are crushing cities, counties, and fire districts across our entire state. How we got here is not all that complex. As a recap, the PSPRS’s main structural flaws include:

(1) unrealistic expected rates of return on investments such that the PSPRS fund has not met actuarially valued returns for over a dozen years;

(2) the formula used to calculate the annual benefit increase for retirees literally diverts funds which could be used to pay down the growing pension debt; and

(3) the annual benefit increase for retirees has been paid out consistently for more than two decades despite the declining solvency of the plan.

The main consequence is, since 2002, PSPRS accumulated $6.6 billion in pension debt and stands at a 48% funded ratio. Simply put, the PSPRS fund has less than 48 cents for every dollar in pension benefits it owes.

While legislative reform could not possibly deal with all these structural deficiencies given the very nature of a defined benefit plan, it does address several major concerns and place PSPRS on the path to solvency. First, it changes the broken annual benefit increase mechanism for retired and current workers, and secondly, it creates an entirely new retirement plan for all officers hired after July 1, 2017. However, change to the system’s current Permanent Benefit Increase (PBI) for retirees and current employees is the single component of S.B. 1428 which requires voter approval. This is because public pension benefits are protected under the Arizona State Constitution. Therefore any modifications to pension benefits already accrued require an amendment to the constitution – which only the voters can approve.

Prop 124 seeks to amend our constitution and change the existing PBI formula to a conventional cost-of-living adjustment (COLA) for retirees and current members of PSPRS. Under the existing PBI formula, half of all investment returns to the fund in excess of 9% are distributed to retirees rather than reinvested into the fund to reduce the pension debt. And other than this past year, retirees received an annual 4% compounded benefit increase for more than two decades. Prop 124 corrects this unsustainable benefit by replacing the PBI with a COLA based on changes to the consumer price index (CPI) for the Phoenix/Mesa area (as opposed to the national CPI). Additionally, this new COLA benefit will be capped at a maximum of 2% annually. Passing Prop 124 will eliminate the old PBI formula experts blame for the rapid increase in both pension debt and annual pension contribution rates for state agencies, local governments and

fire districts.

The second reform under S.B. 1428 does not require voter approval as it deals with officers hired after July 1, 2017 for whom pension benefits have not yet accrued. And it is here the real cost savings to the municipalities, counties, and fire districts occur. Reason Foundation’s actuarial analysis of the bill estimates on average, government employers will save between 20% and 43% on the normal cost of retirement for each new employee hired as compared to employment costs under the current PSPRS plan.

Some of the major reforms for new employees include:

(1) For the first time, offers public safety personnel a choice between a defined contribution plan or a defined benefit hybrid plan.

(2) Changes age eligibility requirements from 52.5 to 55 years of age before an employee can collect pension benefits.

(3) Calculates an employee’s pension pay on a maximum salary of $110,000/year rather the current $265,000. This limits pension spiking.

(4) Requires employees to split retirement costs 50/50 with the employer. Currently, officers pay a maximum of 11.65% of their salary towards retirement while the employer’s (read: taxpayer’s) contribution is not capped at all.

(5) Reduces or eliminates COLAs if the plan falls below a 90% funded ratio.

S.B. 1428 also alters the composition of the PSPRS Board. Currently, the Board consists of 7 members, two of whom are union representatives. Under S.B. 1428, the Board will increase to 9 members including 5 independent professionals with at least 10 years experience in fields related to the Board’s duties. This is vitally important as among the Board’s fiduciary responsibilities is to set a realistic rate of return on pension investments. Most importantly, these governance reforms require any future benefit increases to be paid in the year they are enacted rather than amortized over time.

Finally, it is also important to understand S.B. 1428 and Prop 124 do not address existing pension debt accrued by the entities within PSPRS such as the city of Prescott or Yavapai County. Not only is that virtually impossible given federal and state constitutional protection for public safety pensions, it was not the goal of Sen. Lesko’s stakeholders’ group. Rather, the committee’s task was to reduce risk to the taxpayer due to stock market volatility. Other goals were to reduce long-term employment costs for the employer while at the same time preserving the entire pension system for retirees, and current and future members of PSPRS. Actuaries estimate over the next thirty years this reform will generate $1.5 billion in cost savings to employers from the creation of this new tier of employees. Moreover, with this bill limiting pension spiking, and even with only 5% of new employees (a conservative estimate) choosing the defined contribution plan, this reform will reduce existing pension liabilities by at least 36%. In these statistics, the pension reform task force succeeded beyond anyone’s expectations.

Please vote “yes” on Prop 124 and move our city, county and PSPRS toward a more secure future.