Public Safety Personnel Retirement System (PSPRS): The Task Force s Perspective Scott McCarty, Chair League of Arizona Cities and Towns Pension Reform Task Force Finance Director, Town of Queen Creek scott.mccarty@queencreek.org GFOAz Summer Conference August 2, 2017
Initial Thoughts You Are Managing a Pension Plan Critical Financial Issue Facing AZ Taxpayers Tiers 1 and 2 Unfunded Liabilities Are Impacting the Ability to Provide Services Recent Reform is a Step in the Right Direction But Work Still Remains 2
Taxpayer Perspective A Taxpayer Pays for PSPRS Numerous Times 1. Police / Sheriff (via Local Taxes) 2. Fire / Fire District (via Local Taxes) 3. County Jail (via County Taxes) 4. State Agencies (i.e. DPS via the Gas Tax, Income Taxes, Sales Taxes) 3
Today s Presentation 1. How Did We Get Here? 2. Where Are We Now? 3. Where Are We Headed? 4. What Can You Do? 4
How Did We Get Here? 5
System Overview 6
System Overview Statewide Defined Benefit for All Public Safety Employees Created in 1968 1. Cities and Towns 2. State Agencies 3. Counties 4. Fire Districts 5. Tribal Governments 7
System Overview (continued) 230 Individual, Active Plans ~34K Members ~19K Actives ~15K Retirees/Others Three Tiers of Benefits Based on Hire Date Average EE Salary: $77K Average Retiree Pension: $52K Average DROP: $65K 8
System Overview (continued) Annual ER Contributions: $812M ~75% From Cities and Towns ~25% From State Agencies (i.e. DPS), Counties, and Fire Districts $7.7 B Unfunded Liability is DEBT Estimated Liabilities $14.2 B - Assets - $6.5 B = Unfunded Liability = $7.7 B 9
System s Unfunded Liability (in billions) $9.0 $8.0 $7.0 $6.0 $5.0 $4.0 $3.0 $2.0 $1.0 $1.5 Steady Increase Since 2006 Largest: City of Phoenix Police at $1.7B $7.7 $0.0 6/30/06 6/30/07 6/30/08 6/30/09 6/30/10 6/30/11 6/30/12 6/30/13 6/30/14 6/30/15 6/30/16 10
System s Funded Status: 46% Assets Estimated Liability $6.5 B = = $14.2 B 46% Funded Status For Every $1 of Estimated Future Expenses, the System has $0.46 on Hand 11
90% 80% 70% 60% 77% System s Funded Status Steady Decline Since 2006 50% 40% 30% 20% 10% Lowest: Bisbee Fire at 5.5% Funded Assets: $583K Liabilities: $10.7M 46% 0% 6/30/06 6/30/07 6/30/08 6/30/09 6/30/10 6/30/11 6/30/12 6/30/13 6/30/14 6/30/15 6/30/16 12
System Overview (concluded) INCREASING Unfunded Liabilities 92% of Plans (211) are Less than Fully Funded INCREASING Employer Contributions 76% of Plans (174) Have ER Contributions Rates 20% or Higher 37% of Plans (84) Have ER Contribution Rates 40% or Higher Highest: City of South Tucson at 161% 13
League s Task Force Analysis 14
How Did We Get Here? 1. Permanent Benefit Increases (PBI) 2. Inadequate Governance 3. Investment Returns Below Actuarial Assumptions 15
1.Permanent Benefit Increase (PBI) Approved by the Legislative in mid-1980s Objective: Equalize Pensions for Rural and Urban Retirees Rural Retirees Typically Had Lower Salaries, Therefore Lower Pensions SAME DOLLAR Increase for Every Retiree Up to 4% Annually of the System s AVERAGE Pension Paid 28 Straight Years Until FY 13-14 16
1. PBI (continued) The Actual PBI Percent Increase Varied by Plan Because It Was Based on the Average Pension Average Annual Pension $5,000 X 4% PBI Increase $200 Bisbee PD Retiree Pension $3,000 PBI $200 PBI Increase for Bisbee PD 6.7% 17
1. PBI (continued) Rural Plan Pensions Increased at a Faster Rate than Urban Plan Pensions Because of the Same Dollar Amount Annual Increases Year Bisbee PD Phoenix PD 2000 $17,035 $32,844 2016 $40,509 $59,413 $ Increase $23,474 $26,570 % Increase 138% 81% 18
1. (PBI) (concluded) 50% of Investment Returns in Excess of 9% Into a Separate PBI Pot A Dividend Only HALF of the Peaks Available to Fill In ALL of the Valleys Paid Regardless of Funded Status Dollars Were Not Used to Increase Plan Assets and Reduce Unfunded Liability 19
2. Inadequate Governance Three Responsible Parties Did Not Perform As Expected 1. State Legislature 2. PSPRS Board and Administration 3. Employers and Local Boards 20
2.Inadequate Governance (continued) State Legislature Lack of Oversight Few Reporting and Performance Measure Requirements Approved Benefit Increases Without Funding Requirements PBI, DROP Approved Ineffective Reforms that Have Been Legally Challenged Fields and Hall Cases 21
1. Fields Case Court Cases Reinstated PBI for Retirees Back to 6/1/11 Reflected in FY 13-14 Actuary Valuations 2. Hall Case Reinstated Employee Contributions Back to 7.65% (from 11.65%) Reinstated PBI for Active Members 22
Inadequate Governance (continued) PSPRS Board and Administration Fiduciary Responsibilities Set Contribution Rates Below Normal Cost in Late 1980s / Early 1990s Pension Funding Policy Focused on System Aggregate, Not Individual Plans It s Your Plan Approach Disability Retirements Ineffective Reform Measures 23
Inadequate Governance (continued) PSPRS Board and Administration (continued) Unattained Actuarial Assumptions Resulting In Understated Normal Cost Understated Unfunded Liability Contribution Increases 24
Employer Contribution Rates 60% 51.84% 50% 40% PSPRS (Average) 30% 20% 10% 16.52% 9.10% ASRS 11.34% 0% FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 25
Employer Normal Cost Contribution Rates 18% 16% 14% 12% 10% 10.08% 8% 6% 4% PSPRS (Average) 16.16% 6.71% 6.65% ASRS 2% 0% FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 26
Employer Unfunded Liability Contribution Rates 40% 35% 35.68% 30% 25% 20% PSPRS (Average) 15% 10% 5% 6.44% 2.39% ASRS 4.69% 0% FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 27
Inadequate Governance (continued) PSPRS Board and Administration (continued) Key Actuary Assumptions 1. PBI Excluded from Assumptions Until FY 15-16 Valuation Report Exclusion Raised in a 2007 Audit 28
Inadequate Governance (continued) PSPRS Board and Administration (continued) Key Actuary Assumptions (continued) 2. Interest Rates Board Decisions to Not Reduce Interest Rate Assumptions Have Been Strongly Influenced by the Fact Employer Contributions Would Increase 29
Inadequate Governance (concluded) PSPRS Board and Administration (concluded) Key Actuary Assumptions (concluded) 3. Mortality Tables People are Living Longer 4. Employee Growth 2000: 2.7 Actives to 1 Pension 2016: 1.6 Actives to 1 Pension 30
Inadequate Governance (continued) Employers and Local Boards Lack of Understanding of Our Role and Responsibility In Managing a Pension Plan Paid the Amount We Were Told Assumed Like ASRS Did Not Know Our Numbers 31
Inadequate Governance (concluded) Employers and Local Boards (concluded) Local Board Practices Vary Impact of Disability Retirements No Adopted Pension Funding Policy What s the Plan? 32
3.Investment Returns Statutory Restrictions Limited Diversification (Only Domestic, Publically Traded Securities and Real Estate) 2002 Dot Com Crash 1987 Investment Strategies in Place at that Time Heavily Invested in AZ Real Estate $1.7B Loss to Trust (20% of Total Assets) Great Recession 33
Task Force Conclusions 1. Unsustainable System 2. Reform is Necessary 3. Successful Reform is a Shared Responsibility of Members, Elected Officials, Employers, and Taxpayers 4. Unfunded Liability is DEBT 5. Know Your Numbers 34
Know Your Numbers 35
Department of Public Safety (DPS) 6/30/15 6/30/16 Estimated Liabilities $1.02B $1.1B - Assets $356M $356M = Unfunded Liability $672M $735M Funded Percent 35% 33% 36
Department of Public Safety (DPS) Steady Decline of Funded Status 80% 70% 66% 60% 50% 40% 30% 33% 20% 10% 0% 6/30/07 6/30/08 6/30/09 6/30/10 6/30/11 6/30/12 6/30/13 6/30/14 6/30/15 6/30/16 37
Department of Public Safety (DPS) FY 17-18 Contribution Rate FY 17-18 Amount % Normal Cost 17% $13M 19% Unfunded Liability 70% $52M 81% Total 87% $65M 100% 38
100% 90% Contribution Rates: DPS vs Average 4x 86.97% 80% 70% 60% 50% 40% 30% 20% 10% 22.51% 16.52% DPS PSPRS (Average) 3x 51.84% 0% FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 39
Normal Cost Contribution Rates: DPS vs Average 18% 16% 14% 12% 10% 8% 10.87% 10.08% DPS PSPRS (Average) 16.90% 16.16% 6% 4% 2% 0% FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 40
80% 70% Unfunded Liability Contribution Rates: DPS vs. Average 70.07% 60% 50% 40% 30% DPS 35.68% 20% 10% 0% 11.64% 6.44% PSPRS (Average) FY 07-08 FY 08-09 FY 09-10 FY 10-11 FY 11-12 FY 12-13 FY 13-14 FY 14-15 FY 15-16 FY 16-17 FY 17-18 41
DPS: Contributing Factor #1 1. The Number of Active Employees Has Not Change Since FY 2001-02 DPS System FY 01-02 1,031 14,886 FY 17-18 1,030 18,706 # Change -1 +3,820 % Change 0% + 26% 42
DPS: Contributing Factor #2 2. Retirees Outnumber Employees DPS: For Every One EE, There are 1.4 Retirees System: For Every One EE, There is 0.7 Retiree DPS System Employees 1,030 18,706 Retirees 1,404 13,228 43
Where Are We Now? 44
Reform Overview Collaborative Effort of Stakeholders Includes Many Elements of the YARDSTICK Tiers 1 & 2 Are Less Expensive for Employers Tier 3 is More Affordable for Employers But Still Work to Do 45
Tiers 1 and 2 Tier 1: Hired Prior to 1/1/12 Tier 2: Hired Between 1/1/12 6/30/17 Closed to New Entrants Closing DID NOT Increase Costs Assets Should Equal Liabilities at Any Time Not Like Social Security Unfunded Liability Remains with Employer 46
Tiers 1 and 2 (continued) New COLA (not PBI) Proposition 124 PBI Eliminated Estimated Savings: $1.5B over 20 Years Phoenix-Mesa CPI Based COLA with 2% Cap COLA Increase to Individual Retiree s Actual Pension (Not the Same Amount for All Retirees Like the Old PBI) 47
Tiers 1 and 2 (concluded) Defined Contribution Plan Added to Tier 2 Applies Only If ER Not in Social Security 3% Employer and Employee Contribution 3% Employer Represents Increased Costs Why Added? Enhance Tier 2 - Not Well Thought Out Creates Third Leg of Retirement Stool 48
The Yardstick: At A Glance Yardstick Element Included in Tier 3? 1.Defined Benefit Plan 2.Free from Legal Challenge 3.New Statewide System 4.Plan Elements Full Pooling Equal Cost Sharing Pension Increases YES YES YES PARTIAL-Not Full Pooling YES YES In Lieu of Social Security Program YES 5.Goverance Structure Board of Trustees Disability Board PARTIAL-Not Independent Board Members TBD 49
Tier 3: Plan Design Employees Hired after July 1, 2017 Three Types Within Tier 3 1. Defined Benefit Only 2. Defined Benefit Hybrid 3. Defined Contribution Only 20% Normal Cost Split 50 / 50 Lower Employer Costs Lower Normal Cost Eliminated / Lower Unfunded Liability 50
Why Does Tier 3 Cost Less? 1. Increased Retirement Eligibility 55 Years Old / 25 Years of Service 2. Costs Shared 50 / 50 With Employees Tier 3 ER @ 10% vs. Tiers 1&2 ER Average @ 16% 51
Why Does Tier 3 Cost Less? (continued) 3. COLA and Waiting Period Phoenix-Mesa CPI Based COLA Up to 2% Based on Funded Status Waiting Period: 7 Years After Retirement or Age 60 Funded Status COLA Less Than 70% None 70% to 80% 1.0% 80% to 90% 1.5% Greater Than 90% 2.0% 52
Why Does Tier 3 Cost Less? (continued) 4. Salary Cap $110K Maximum Salary Base for Contribution Calculation Increased Over Time Based on Inflation Beginning in 2021 53
Tier 3 Phoenix PD Example: Less Cost Current System Tier 3 Normal Cost 18% 10% Unfunded Liability 50% 0% Total 68% 10% ER Cost (on $50K Salary) $34K $5K Savings per New Hire $29K 54
Tier 3: Risk Pooling (Partial) Separate Employer Plan if Greater Than 250 Members (17 Plans) Separate Contribution Rate Separate Funded Status All Other Employers Grouped Together in One Plan (213 Plans) One Contribution Rate One Funded Status League Advocated for Full Pooling 55
Tier 3: Retiree Pool Regular and Disability Retirees from All Plans In One Pool Actuarial Present Value Transferred to Pool at Time of Retirement or Disability 100% Funding Requirement from Investment Earnings ( PBI Like ) Dead Pool - Concerned How This Will Operate? 56
Tier 3: Hybrid (DB + DC) If ER Not In Social Security Defined Benefit Plus 3% Defined Contribution Program EE and ER Match Created to Take Pressure Off Defined Benefit Plan (i.e. DROP) All Tier 3 Members Have 3-Legged Retirement Stool 57
Tier 3: Defined Contribution Only In Lieu of Defined Benefit Plan 9% EE and ER Contribution 10-Year Vesting Expected Participant: Retired Chief from Another State Who Already Has a Defined Benefit Retirement 58
Governance: Board Eligibility and Experience Requirements Increased Increased from 7 to 9 Members Law Enforcement: 2 Members Firefighters: 2 Members Cities / Towns: 3 Members Counties: 1 Member Governor Appointment: 1 Member 59
Governance: Advisory Committee Liaison Between Board, Members, and Employers Study Specific Issues In-Depth 10 Members Law Enforcement / Fire: 5 Members Employers: 5 Members One Member from Cities/Towns, Counties, State Agencies, Fire Districts, and Tribal Governments 60
Key 2017 Legislative Change One-Time Ability to Re-Amortize An Individual Plan s Unfunded Liability to 30 Years (19 Years Remaining at 6/30/17) 18 Plans Have Extended to 30 Years Comparability of Individual Plans Not Possible if Amortization Period Differs 61
Where Are We Headed? 62
FY 18-19 Actuarial Valuations Contribution Rates and Unfunded Liabilities Will Mostly Likely Increase Why? 1. $551M of Unrecognized Investment Losses Exist and Remain to be Smoothed 7-Year Smoothing Period Hopefully Will Be Offset by FY 16-17 Investment Returns 63
FY 18-19 Actuarial Valuations (concluded) 2. Board Adopted New Mortality Tables People Are Living Longer so the Number of Years a Pension Is Paid Will Increase Estimated Impact 3 Percentage Point Increase to Normal Cost 2 Percentage Point Increase to Unfunded Liability 64
Active Groups Still Work To Do House Legislative Ad Hoc Committee Mayors Summit Meetings League s Task Force 65
Still Work to Do 1. Evaluate Interest Rate Assumptions One Investment Strategy so Why Two Different Assumptions? Tiers 1 & 2: 7.4% Assumption Actuaries Recommended a Reduction to 7.3% for FY 18-19 (Board Did Not Approve) Tier 3: 7% Assumption 66
Still Work to Do (continued) 2. Liability Valuation Setting the Discount Rate Highly Debated Issue Options: Assumed Interest Rate, Risk-Free Interest Rate, Bond Rate Should It Match the Assumed Interest Rate? Discount Rate Relates to Liabilities, Not Its Assets 67
Still Work to Do (continued) 3. Tier 3 Contribution Rate Not 50 / 50 Cost Sharing Because Includes Tiers 1 and 2 Unfunded Liability Higher Contribution Rates in Tiers 1 & 2 If Unfunded Liability Was Not Spread to Tier 3 (Total Payroll) Example on Next Slide Consider Fixed Amortization of Tiers 1 &2 Liability, Not Percent of Pay Impact of New Mortality Tables 68
Tier 3 Example: DPS The Unfunded Liability Is Spread Across an Employer s Entire Payroll (All Tiers) Tiers 1&2 Tier 3 Normal Cost 17% 10% Unfunded Liability 70% 70% Total 87% 80% 69
Still Work to Do (continued) 4. Evaluate Pooling Structure Unique Structure Pooled Plan 20% Deviation Provision Exists for Single Employer Separate Plans (See Next Slide) 70
Tier 3 Separate Plans 1. Chandler Fire 2. Chandler Police 3. DPS 4. Glendale Fire 5. Glendale Police 6. Maricopa County Sheriff 7. Mesa Fire 8. Mesa Police 9. Phoenix Fire 10. Phoenix Police 11. Pima County Sheriff 12. Scottsdale Fire 13. Scottsdale Police 14. Tempe Fire 15. Tempe Police 16. Tucson Fire 17. Tucson Police 71
Still Work to Do (continued) 5. Evaluate Retiree Only Pool Dead Pool 100% Funding Requirement PBI Like Transfer of 100% Estimated Present Value Required For Retiree and Disability Investment Strategy 72
Still Work to Do (continued) 6. Evaluate Employee Transfer Calculation for Tiers 1 and 2 7. Options to Finance Unfunded Liability Lease / Lease-Back Asset Transfer State Loan Program 73
Still Work to Do (continued) 8. Governance Local Board Structure League s New Position PSPRS s New Position Advisory Committee Stakeholder Reports Legislature, Employers, and Members Annual Meeting Performance Measures 74
What Can You Do? 75
What Can You Do? 1. Prepay Your Annual Contribution on July 1 st to Earn Extra Interest Income # of Plans Amount Extra Interest Earned FY 15-16 47 $363M $480K* FY 16-17 37 $421M $11.6M** *0.6% Investment Return ** ~12% Investment Return as of May 31, 2017 76
What Can You Do? (concluded) 2. Pay Down Your Unfunded Liability Faster Estimated Savings from Additional Payments Presented in Actuarial Report Re-Direct Tier 3 Savings to Your Tiers 1 and 2 Unfunded Liability Do Not Take the Credit for the 2% Fire Insurance Premium Tax Against Your Annual Payment 77
What Can You Do? (continued) 3. Know Your Numbers Actively Manage Your Plan What Percent of Operating Budget Goes to PSPRS? Smoothed vs. Market Value Valuation Cash Flow Analysis Your Performance Compared to Actuary Assumptions Pension Amount, Number of Disabilities, Wage Growth, Staffing Growth, etc. 78
What Can You Do? (continued) 4. Adopt A Pension Funding Policy to Address Your Unfunded Liability It s DEBT It s Not IF the Unfunded Liability Will be Paid Off, It s WHEN and HOW Reform DID NOT Reduce Your Plan 1 and 2 Unfunded Liability Avoids Transferring Costs to Future Taxpayers 80% to 120% Funding Goal Based on Economic Cycle 79
What Can You Do? (continued) 5. Facilitate the Public Policy Discussion Adopt a Pension Funding Policy Have Your Council Accept the Annual Valuation Report Annual Joint Meeting With Council and Local Board(s) 80
Employer Actions: City of Globe Background Unfunded Liability (Police and Fire):$12M Funded Status: Fire 39%, Police 37% ER Contribution Rate: Fire 61%, Police 63% Action Council Approved 0.3% Dedicated PSPRS Sales Tax Increase (to 2.3% Local Rate) Sunsets When Paid Off $1M One-Time Payment from Savings 81
Employer Actions: Coconino County Background Unfunded Liability: $30M Funded Status: 25% ER Contribution Rate: 62% Action $10M One-Time Payment from Jail District $25M Savings $15 ROI 82
Employer Actions: Queen Creek Background $1.5M Unfunded Liability for Fire Action Adopted Pension Funding Policy Unfunded Liability Paid Off Annually $200K Interest Avoided Annually 83
Employer Actions: Paradise Valley Background Unfunded Liability: $22M Funded Status: 32% ER Contribution Rate: 67% Action $1M One-Time Payment in FY 15-16 $5M One-Time Payment in FY 16-17 84
Employer Actions: City of Prescott Background Unfunded Liability (Police and Fire):$78M Funded Status: Fire 28%, Police 24% ER Contribution Rate: Fire 92%, Police 84% PROPOSAL August 29 th Voter Election for a ¾ cent Dedicated PSPRS Sales Tax Increase Sunsets in 10 Years or Unfunded Liability Reaches $1.5M (if Sooner) $11M One-Time Payment from Savings 85
Employer Actions Any Others? 86
Discussion and Questions 87