NCPERS 2013 Public Safety Employees Pension & Benefits Conference

Transcription

1 NCPERS 2013 Public Safety Employees Pension & Benefits Conference Implications of Detroit s Bankruptcy Filing for Public Pension Funds October 28, 2013 John A. Kehoe Girard Gibbs LLP

2 Underfunded Pension Obligations According to Northwestern University study, U.S. cities and counties have $574 billion in unfunded pension obligations as of cities (most populous in each state and those with more than 500,000 residents) account for $99 billion of the shortfall, funded at just 74% as of Aggregate amount of underfunded state pension obligations is estimated at $1 trillion, with some estimates as high as $4 trillion depending on future rate of return. Thirty-four states failed to make their required pension contributions in 2012, and nine have set aside less than 60 percent of what s needed. Some estimate that to fully fund state pension plans over next 30 years, contributions would need to increase by a factor of 2.5, an amount equal to 14.2% of state revenues.

3 Underfunded Pension Obligations

4 Increasing Rate of Municipal Bankruptcy Filings Orange County, Calif. (1994) Desert Hot Springs, Cali. (2001) Millport, Ala. (2005) Los Obos, Calif. (2006) Moffett, Okla. (2007) Gould, Ark. (2008) Vallejo, Calif. (2008) Westfall Township, Pa. (2009) Prichard, Ala. (2009) Central Falls, R.I. (2011)(receivership) Jefferson County, Ala. (2011) Boise County, Idaho (2011) Town of Mammoth Lakes, Calif. (2012) Stockton, Calif. (2012) Harrisburg, Pa. (2012) San Bernardino, Calif. (2013) City of Detroit, Mich. (2013)

5 Municipalities Attributing Bankruptcy to Underfunded Pension Obligations Vallejo, Calif. (2008) Prichard, Ala. (2009) Central Falls, R.I. (2011)(receivership) City of Detroit, Mich. (2013)

6 City of Detroit s Financial Crisis Accumulated Deficit From fiscal 2008 through 2012, on average expenditures exceeded revenues by $100 million annually. $326.6 million accumulated unrestricted deficit by 2012 fiscal year-end. Shortfalls addressed with long-term debt issuances: $75 million in 2008 $250 million in 2010 $137 million in Cash Flow and Liquidity City had negative cash flows of $115 million in fiscal 2012, borrowed $80 million from Bank of America to avoid running out of cash. As of April 26, 2013, City had $64 million cash on hand but current obligations of $226 million in loans, property tax distributions, and deferred pension contributions and other payments.

7 Detroit s Financial Crisis Leads Governor to Appoint Kevyn Orr as Emergency Manager Public Act 436: Local Financial Stability and Choice Act of 2012 An Act to safeguard and assure the financial accountability of local units of government to provide or cause to be provided necessary services essential to the public health, safety, and welfare to authorize a declaration of the existence of a financial emergency within a local unit of government to provide for the appointment and to prescribe the powers and duties of an emergency manager for a local unit of government

8 Extract From City of Detroit Office of Emergency Manager s Financial and Operating Plan, May 12, 2013 Prior to Bankruptcy Filing: $600 million in Unfunded Pension Obligations

9 Emergency Manager Petitions for Chapter 9 Bankruptcy

10 Question 1: Whether the City of Detroit s pension promise to its police, fire and general workers contributed to the City s fiscal crisis?

11 Detroit s Fiscal Crisis

12 Detroit s Fiscal Crisis

13 Detroit s Fiscal Crisis

14 Detroit s Fiscal Crisis

15 Pension Contributions Are Less Than 5% of Total Expenses ( )

16 Question 2: Whether Detroit can avoid pension obligations through a Chapter 9 bankruptcy proceeding?

17 Chapter 9 Eligibility Section 109(c) of the Bankruptcy Code provides that an entity may be a debtor under Chapter 9 only if such entity: (1) is a municipality; (2) is specifically authorized, in its capacity as a municipality or by name, to be a debtor under such chapter by State law, or by a governmental officer or organization empowered by State law to authorize such entity to be a debtor under such chapter; (3) is insolvent; (4) desires to effect a plan to adjust such debts; and (5) (A) has obtained the agreement of creditors holding at least a majority in amount of the claims of each class that such entity intends to impair under a plan in a case under such chapter; (B) has negotiated in good faith with creditors and has failed to obtain the agreement of creditors holding at least a majority in amount of the claims of each class that such entity intends to impair under a plan in case under such chapter; (C) is unable to negotiate with creditors because such negotiation is impracticable; or (D) reasonably believes that a creditor may attempt to obtain a transfer that is avoidable under section 547 of this title.

18 Constitutional Challenge Michigan Attorney General Bill Schuette: Michigan s Constitution, Article 24, is crystal clear in stating that pension obligations may not be diminished or impaired. STATE CONSTITUTION (EXCERPT) CONSTITUTION OF MICHIGAN OF 1963 Article 24 Public pension plans and retirement systems, obligation. The accrued financial benefits of each pension plan and retirement system of the state and its political subdivisions shall be a contractual obligation thereof which shall not be diminished or impaired thereby. Financial benefits, annual funding. Financial benefits arising on account of service rendered in each fiscal year shall be funded during that year and such funding shall not be used for financing unfunded accrued liabilities. History: Const. 1963, Art. IX, 24, Eff. Jan. 1, 1964.

19 States With Similar Constitutional Protections

20 Question 3: How underfunded are Detroit s pension plans?

21 How Bad is Detroit s Pension Situation? It depends on who you ask. Let me state emphatically that the pension fund is on solid ground and is projected to do very well by any reliable measure well into the next decade and beyond. The PFRS fund is 96.1 percent funded. With respect to funded status, the PFRS Pension Fund is in the top 10 percentile of public pension funds with $1 billion or more in assets. What this means is the PFRS pension fund s level of funding is better than 90% of public pension funds in the entire nation. The PFRS fund has nearly $3.1 billion in assets and is being managed with great efficiency. (March 21, 2013 letter from Matt Gnatek, Chairman, Board of Trustees Police and Fire Retirement System of the City of Detroit.) We differ with the pension boards on their assumptions. When you differ on the assumptions, you change the amount of funding. The emergency manager thinks it s prudent to have a more conservative assumption base than what the pension funds are using now. (Statement of Bill Nowling, spokesperson for Emergency Manager Kevyn Orr.)

22 Competing Actuarial Assumptions Milliman estimates City has $3.5 billion in unfunded pension obligations; funds estimate shortfall to be only $650 million. Milliman projects average annual returns of 6.3% and 6.6%; two pension plans (DGRS and PFRS) project returns of 8%. National Association of State Retirement reported that 126 public retirement systems projected an average rate of return of 7.7%. They achieved return of 7.8% over the past 10 years and 8.9% over the past 25 years. Milliman applies five year smoothing methodology; Detroit pension plans apply seven year smoothing methodology. Milliman increases mortality liability by 10% over Detroit pension plan estimates. Milliman adjusts for issuance of Pension Obligation Certificates to present a big picture view.

23 City of Detroit s Fiscal 2012 Report

24 Milliman Report on Detroit s Pension Obligation (Note: VRPG is acronym for Very Rough Preliminary Guesstimates )

25 Question 4: What is the impact of the Pension Obligation Certificates?

26 Creative Financing in the Form of Pension Obligation Certificates Source: Detroit Free Press

27 Source: Detroit Free Press Pension Obligation Certificates Becomes Crippling Debt

28 Question 5: Does public opinion matter?

29 Detroit s Pension Plans Subjected to Intense Scrutiny

30 Headline/Reputational Risk Detroit Spent Billions Extra on Pensions, New York Times (Sept. 25, 2013). Detroit Watchdogs Find Questionable Practices' at Pension Funds, CNN Money (Sept. 26, 2013). Corruption alleged After Detroit Pension Deal, The Detroit News (Sept. 30, 2013). Detroit Pension-Fund Practices Compel Orr to Call For Freeze, The Blade (Sept. 27, 2013). Extra Pension Payments Cost Detroit Billion, CNN Money (Sept. 26, 2013). Audit Finds Fraud in 13% of Detroit City Worker Jobless Claims, Detroit Free Press (Sept. 26, 2013).