April 4, 2011

Analysis: Sticking points on pensions and retiree benefits affect budget for decades

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By Len Lazarick
Len@MarylandReporter.com

It is not unusual each year for the House of Delegates and Senate to disagree over parts of next year’s budget that will take them several meetings of a conference committee to resolve.

What is unusual this year is that some of the key disputes involve the long-term sustainability of the state’s pension system and benefits for retirees, and what they will cost in decades to come.

Major changes in the retirement system for state employees and teachers are usually handled in separate legislation. That’s what happened five years ago when every senator and delegate from both parties unanimously voted to enhance pension benefits in exchange for increased contributions from the employees.

But the proposed changes this year were bundled by Gov. Martin O’Malley into the Budget Reconciliation and Financing Act (BRFA or burfa), the legislation accompanying the budget bill that typically adjusts formulas. The pension changes are in the BRFA partly because the savings from the changes in pensions and in health insurance benefits for retirees are used to balance the fiscal 2011 budget.

What’s also unusual this year is that the Senate conferees and their staff failed to show up for a scheduled conference committee Friday afternoon to iron out the differences.

Here are some of the major sticking points.

RETIREMENT AGE: The Senate adopted the “Rule of 92” to receive full pension benefits. This means that the age of an employee or teacher at their retirement and their length of service must add up to 92.

CLARIFICATION: This adds several years of service to a This change was recommended in December by the Public Employees’ and Retirees’ Benefit Sustainability Commission, and it has older workers grousing.

Under the current requirements, adopted again by the House, anyone can retire with full benefits at any age after 30 years of service or at age 65 after 10 years of service.

Under the rule of 92, a worker who joined state service at age 50 would have to work until age 71 to get full benefits.

COST OF LIVING ADJUSTMENTS: Both houses tie cost-of-living adjustments to the rate of return on the investments of the pension system. If the return falls below the target of 7.75% in any year, the Senate said retirees would get no cost of living increase – another recommendation of the pension commission.

The House said pensioners would get a 1% increase regardless of investment performance, and a 3% COLA if the target was met. The Senate capped the COLAs at 2%.

Outside experts and even one member of the pension commission, George Roche, the former chairman and president of T. Rowe Price, the Owings Mills mutual fund firm, have raised serious doubts that the state can meet a 7.75% return on investments in the long haul. Even a slight drop in return on investments — to say 7% a year — would cost the state billions in the long-run, because most pension benefits are funded by investment income, not the contributions of employees and taxpayer dollars.

The retirement system lost a total of $9.5 billion in fiscal 2008 and 2009, and $5.4 billion in fiscal 2001 and 2002. These losses are the major reason the pension system has $18 billion in unfunded liabilities – not the 2006 benefit increases.

NEW PROPOSAL: The unions for state workers and teachers have been aggressively lobbying against the changes, and the Maryland State Education Association has offered a counter-proposal that combines higher employee contributions and lower cost-of-living adjustments.

Apparently there is another alternative that would maintain the higher benefit multiplier for new teachers – contrary to the plan as proposed by O’Malley and approved by the House and Senate.

Senate President Mike Miller railed against the plan from the rostrum on Friday. Miller claimed that the higher benefits would eventually cost an extra $400 million a year. He wants proponents to say where “we get the other $400 million.”

“If we’re going to pass the cost of pension onto the counties” – as Miller has pushed for several years, he said, “we need to fix the plan first.”

RETIREE HEALTH BENEFITS: There are substantial differences between the House and the Senate over how much to cut benefits and raise premiums for retiree health insurance. This only applies to retired state employees, not to retired teachers whose health benefits are paid by the counties.

Some of the changes were proposed by the pension commission, including lengthening the vesting period for health insurance from five to 10 years.

The House wants to make retirees pay 25% of premiums, but the Senate set it at 20% and increased the deductible.

Regardless of where the two sides meet, retirees would pay considerably more for health insurance.

  • Pingback: Budget Conferees Meet – Pensions and Retiree Health Areas of Disagreement « Conduit Street()

  • Whcampbell

    I suggest that the General Assembly get an actuarial assessment of these proposals. What I have read so far will ease, but not cure the pension problems. First and foremost, the pensions need to be funded at the “actuarial recommended conribution” (ARC), and not underfunded using the “corridor mehod”. Next, there should be a minimum age regardlessof years of service. Perhaps 55 years of age for law enforcement personnel, and 62 for everyone else. Both proposals resemmble the old Civil Service Retirement System that the Federal Government had until 1983. It is interesting to note that the Federal Employee Retirement System (FERS) replaced CSRS because CSRS was unsustainable from a funding perspective. If the Feds (who can print money) cannot afford such a pension, how can Maryland?

  • Karlpfrommer

    Pension Commissioner, George Roache and other ‘outside experts” are hoping for a 7.75% return on MSRP investments?

    I would be happy if the pension system earned 7% returns. However, MSRP only earned a 2.1% return for the past ten years. Eight neighboring states with comparable populations earned at least 1% more than Maryland in that decade. 1% equals $3.2 billion lost since 1999 not including 2010 & 2011, which were good years, 8% and 14%. But that’s not good enough to compensate for the consistent MSRP investment mistakes of the past decade.

    This MSRP sub par performance was achieved by spending more than twice what is being allotted for investment expenses. MSRP spent .5% of assets or $157 million in 2009. Nearly half of those fees are for alternative investments such as leveraged buyouts, venture capital and hedge funds. These are both expensive and risky. They underperform the market because of their higher fees. The fees are bad but the poor performance is the worst.

    “…most pension benefits are funded by investment income, not the contributions of employees and taxpayer dollars.” We have met the enemy and it is us. An actuarial assessment can’t make a silk purse out of MSRP’s ear. Without reform more funding will merely compound the problem.

    Meanwhile, MSRP, the governor and the legislature take no responsibility. Only retirees are forced to pay more for more management mistakes. Fire the managers. Please! Next… the politicians.

    (MSRP costs are not available for 2010 on the web site. Fees for administrative services, insurance charges, management, shareholder services and sales charges [loads or commissions] are not available either, although they are required by Federal law.)