PHOENIX - California's recent agreement with one of its employee unions to have employees prefund some of their retirement benefits is something its elected leaders want to extend to more state employees.
State Treasurer John Chiang announced Sept. 3 that, pending ratification by the union and legislature, California had reached a collective bargaining agreement with the Professional Engineers in California Government in which PECG members would contribute to their own retiree healthcare benefits for the first time.
California has funded such so-called "other post-employment benefits" (other than pensions) on a "pay-as-you-go" basis in California, something Chiang and Gov. Jerry Brown have pushed to change.
Chiang, a Democrat, was a vocal advocate of OPEB prefunding during his eight-year tenure as California's controller. He was elected treasurer in 2014.
California provides medical, prescription drug, and dental benefits to retired state employees through a single-employer defined benefit plan.
Governmental Accounting Standards Board statements 43 and 45 require employers sponsoring and subsidizing retiree healthcare benefit programs to recognize the cost of such benefits on an accrual basis. While GASB 45 does not require states to fully fund their obligations, the three largest credit rating agencies have urged states to at least have a funding plan in place to avoid any future downgrades.
The Golden State has more than 20 collective bargaining groups, and only a handful of the smaller ones have so far agreed to move toward pre-funding the benefits.
The largest, SEIU Local 1000, represents nearly 100,000 state employees and is not due for a new agreement this year. The state has previously reached agreements with retired highway patrol officers, maintenance workers, and physicians.
Chiang praised the PECG agreement, which calls for state engineers by 2019 to pay 2% of salary, matched by the state, into a special retiree health care trust.
"This moves us closer to a secure and sustainable health benefits system for retired state workers," Chiang said in a statement. "I commend the administration and PECG for using the collective bargaining process to begin undoing what has been decades of poor fiscal planning and a willingness to pass along debt to future generations."
The way the state has been handling OPEBs stands in contrast to its pension model, which employees already prefund. That prefunding allows the state to try to offset costs by investing employee contributions to generate returns that reduce the overall liability. Chiang has said that returns on those investments cover roughly two-thirds of payouts.
OPEB liabilities, along with pensions, are a growing concern for issuers of municipal bonds who have begun to realize that aging populations and in some cases years of underfunding have left them looking at the possibility of unsustainable costs in coming years. Those growing costs are a worry for credit analysts, who have increasingly cited both pension and OPEB liabilities as concerns negatively impacting issuer credit.
In December 2014, Chiang, who was then the state controller, released a report released a report saying the unfunded liability of providing health and dental benefits for state retirees under the current funding policy is about $72 billion.
The report said that if state employees pre-funded just 10% of its obligation, the up-front costs would add $250 million more than the current funding model but slice $3.2 billion off of the state's unfunded liability because of investment returns and compound interest.
"This agreement's importance to the state's finances cannot be understated," Chiang's Sept. 3 release said. "The current method of providing health benefits on a pay-as-you-go basis is the most expensive way for the State to pay for retiree health care and has led to the build-up of a $72 billion unfunded liability."
It is smarter is to set aside money in a trust to generate investment income that can significantly reduce future costs for both public employees and the taxpayers they serve, Chiang said.
Bruce Blanning, executive director of the PECG, said his group representing roughly 13,000 state employees came to the agreement as part of a bargaining process in which each side was able to achieve some of its objectives. Blanning said the PECG had been well aware of the state's desire to pre-fund OPEB liabilities and was sympathetic to the aim.
"That's reasonable, to want to reduce that liability," Blanning told The Bond Buyer, adding that the group didn't necessarily feel compelled to make that concession.
"We didn't have to do it," Blanning said. "It hadn't been done for decades, and it didn't have to be done now."
But the liability is growing rapidly, by Chiang's calculations. His first report on the topic, in 2007, identified the long-term liability at $47.8 billion - 33% below his 2014 report's estimate. A chart based on 2012 data compiled during Chiang's time as controller showed that prefunding OPEB costs at 25% would cut the net OPEB liability by 28%, while 50% prefunding would mean a 55% savings.
California's push for prefunded OPEBs is not an isolated move. Hawaii has taken steps over the past two years to partially prefund its liabilities and other governments throughout the country also prefund.
The Government Finance Officers Association recommends prefunding OPEB liabilities as a best practice. The GFOA recommends prefunding on an actuarial basis, but also conceded that pay-as-you-go funding "may be appropriate in some situations."
If a government isn't prefunding the annual required amount, the GFOA recommends that it explain the level of funding after consultation with counsel and actuaries.
Chiang said in his statement that he hopes to keep the ball rolling with other state collective bargaining groups as their turns come to renegotiate their contracts.
"As the State's other labor units come to the table, I urge them to similarly demonstrate how collective bargaining can tailor agreements to the unique needs of their members while, at the same time, advancing the interests of taxpayers," Chiang said.
