Your Questions about PERS, Answered

We shared an update last week about the PERS debate down in Salem and asked you for your burning questions — and boy, did you have questions.

To help get answers, we turned to North Star Civic Foundation executive director Caitlin Baggott Davis, who co-authored a recent report about the PERS crisis and how it should be addressed.

If you want to go really deep into the data, check out the full report or browse through these FAQs.

But we’ll start here with Caitlin’s responses to your questions…

How do other states do this? I’ve never heard of such a mess as Oregon’s system. Can’t we just copy someone else?
—Kathrine K.

Believe it or not: Oregon is one of the better-funded pension systems nationwide, ranking 12th out of 50. Most states are in heaps more trouble than Oregon. (Hello, New Jersey!)

The reason things feel so dire is that local governments like schools, cities, counties and fire districts can’t afford the monthly payment required by the state. The payment plan that was designed to keep us at #12 means that we’re gutting public services. So, we’re #12 in the nation for our pension debt but we’re #47 for graduation rates.

Here’s why: The Oregon legislature adopted a comparatively short time frame for fully funding its pension system – 16 years for some parts and 20 years for others. The average nationwide is 25 years, with some states setting their pay-off period at 30 years. You can see more info here. Our shorter timeframe means that Oregon public employers pay more each year, but the total (eventual) cost is lower, because we’re paying less interest

Also, to address large legacy obligations, some states have identified specific revenue sources – income taxes, lottery funds, etc. – to pay down their unfunded liabilities. Oregon is trying to do that, too, but not as aggressively as states like Illinois.

How long will we have to pay the generous awards [that were promised to Tier I and Tier II retirees]? All those recipients will eventually die, so when is it estimated to come down to the newer, less generous level?
—Ryan H.

Ah, the old “won’t they die soon?” question. Thankfully, the answer to your real question (“When is this over?”) is not about anyone’s untimely demise – just the timeline that the legislature sets to fully invest in the savings accounts.

Short answer: Until 2039. Or, if the legislature passes SB 1049, until 2041.

Oregon has a plan to fully fund the PERS obligation over the next 20 years. The problem is that the plan requires really big sacrifices. Schools, cities and counties will need to spend more and more of their budgets on funding past costs, and less on funding current needs, including current salaries and benefits. These aren’t “tighten your belt” kinds of cuts. The competition between current services and past obligations threatens community safety, economic growth, and an entire generation of Oregon kids.

John Tapogna, the president of the local economic consulting firm ECONorthwest, compared it to “a deep recession that lasts for 18 years.”

The good news is that the “newer, less generous” benefits you mentioned are already in play – and have been since 2003. The cost of saving for the retirement benefits of current teachers, parks rangers, and social workers is about 11 percentage points of payroll. That is stable and decreasing.

But the cost to manage the Unfunded Accrued Liability (UAL) adds another 15-20 percentage points of payroll on top of current expenses. And while current costs are stable and decreasing, the payment plan for the UAL is like a balloon mortgage – it gets bigger through the next decade.

Speaking of dying: One of the reasons that Oregon has “underfunded” retirement accounts is that actuaries (who estimate how much money the savings accounts will need) use mortality as a factor in their estimate. A few years ago, they realized that people were living a lot longer… and that the system hadn’t planned on providing retirement security to so many otco- and nonagenarians. Oops. That cost a couple billion. The new plan and increased payment schedule keep the grannies and grandaddies safe and cared for as long as needed.

My dad (a retired teacher in Ohio) was shocked when I told him that it’s my understanding that Oregon’s public employees don’t have to contribute/deduct part of their regular paychecks into a retirement account. Is that accurate?
—Kurt M.

Some do, some don’t. Generally, the ones who do not deduct the cost from their paychecks deducted it from their salary at the front end — in other words, they are paid less than they otherwise would have been. Of course, salaries and benefits are negotiated between hundreds of different public employers and their employees and labor representatives, so there are differences and exceptions across agencies and jobs.

And here’s an awkward reality: If employers required a paycheck deduction going forward, many would need to increase salaries to re-balance total compensation. Otherwise it would be a pay cut. This, in turn, would increase employers’ pension obligations because pensions are based on payroll and “final average salary.”

So, while this may seem like an easy and obvious way to save money in the system… it’s neither easy or particularly straightforward. Ultimately, it is more important to look at total compensation than at the generosity of any particular part of a worker’s contract.

How come whenever we talk about PERS and this $26 billion liability, we don’t also talk about how the windfall to property owners contributed significantly to the problem? How could some revisions to the property tax system actually put some money back into the government so they could pay their retirees?
—Chris B.

You are right — local governments in Oregon are constrained by property tax limitations. They prevent jurisdictions from raising funds that might help them pay for staff (including PERS payments), invest in new infrastructure, and maintain current service levels in the future. If property tax growth lags behind inflation in the coming years, local governments could experience significant budget struggles.

Oregon property tax limitations were passed in a citizen ballot measure in 1990 and 1997 and require a statewide vote to overturn them. Technically speaking, that’s wicked hard. Part of the reason politicians don’t talk about is that the first thing they hear is: “That’s impossible.”

To complicate things even more, a property tax overhaul can be regressive if it isn’t done carefully. No one wants to see a granny on a fixed income losing her home because she can’t afford the taxes. There are ways to do it… but there has historically been little appetite among elected leaders to tackle this issue.

[Can] changes be made such as switching pubic employees to 401K plans to avoid bloating the PERS $50 billion debt any further? It might take 20 to 30 years to do it, but that is better than anything the legislature has come up with so far.
—Ric Z.

Gotta unpack this one a bit.

First thing that’s probably good to clear up: Current costs for workers are not bloating the system. That’s not the problem that needs to be fixed.

When people say “PERS costs are going up,” they mean that the bill for past obligations is on a balloon payment schedule and is scheduled to increase over the next 20 years.

They don’t mean that the cost of paying for retirement benefits for current employees are increasing – because they’re not. They are decreasing. Every year. You could stop offering benefits to current employees altogether, and costs would continue to increase for the past obligations through the next 20 years.

(And, in case you were wondering, nope – you can’t cut the benefits of people who already retired. Not only would that be mean-spirited, but the Oregon Supreme Court has ruled that it’s illegal.)

As for the 401k question…

Oregon currently has a hybrid retirement system: An individual savings account like a 401k and a defined benefit plan. They are meant to balance each other. Employees and employers share in the risk. If the market plummets, employees can feel secure that they will still receive their defined benefit component from the state, even if their 401(k) style account was wiped out. At the same time, in such scenarios, the state will pay out less than it would if Oregon had a defined-benefit only system.

Defined contribution plans like a 401k specify an amount to be contributed each year towards an employees’ retirement savings. In these types of plans, employees bear the full risk of the market cycle. Employees retiring at different times are likely to experience significantly different levels of retirement security. The lack of commitment about the ultimate size of the retirement investment may prevent an unfunded liability for the PERS system, but could lead to greater dependency on government assistance for those who retire during economic downturns.

On the other hand, defined benefit plans specify a benefit amount to be received in retirement, placing the risk of low-investment returns on the employers rather than employees. The nature of defined benefit plans requires complicated forecasts about the future that are inherently uncertain, opening the possibility for unfunded liabilities that place pressure on government budgets.

However, defined benefit plans can take advantage of long term investment strategies that defined contribution plans may not have access to, and are often seen as more favorable to middle aged employees and career public servants such as teachers, firefighters, and police. Defined benefit systems offer retirement security that is not as sensitive to market cycles.

Thanks so much for covering PERS. This is such a high-profile issue that even the New York Times had a story about it last year. Looking forward to seeing your Q&A next week.
—Thomas N.

That New York Times article!

Here’s what it got right: Local government’s are really struggling, in large part because of costs for paying down past PERS obligations.

Here’s what was a bit off: News reports have focused on super-sized benefits. The median monthly pension benefit is $2,058, meaning that half of PERS retirees receive a benefit of $2,058 or less per month, while the other half receive a benefit of $2,058 or more. Fewer than 1% of retirees receive more than $9,000 per month.  

PERS Retirement benefits have fallen significantly since 2000, when the average employee with 30 years of public service received the same amount in benefits as they had while working. In 2017, those retiring with 30 years of service got only half of their annual working salary in annual benefits. This number will continue to fall to about 45% as Tier 1 and Tier 2 employees retire

To meet basic needs, retirees in Oregon need an income of between $1,510 and $2,853 per month, depending on where they live throughout the state and whether or not they own a home without a mortgage. The median PERS benefit falls within this range, implying that some retirees will earn enough through PERS to maintain economic security after they retire, while others will not. PERS benefits are assumed to supplement Social Security.
—Caitlin Baggott Davis

Thanks so much to Caitlin for the analysis. Need even more wonkery in your life? Here’s what reader Victoria Duff told us about why the PERS Trustees assumed such high rates of return for its investments — and why those returns didn’t pan out.

I don’t normally write in about topics in the news, but I happen to know a little about this. I was one of the first female institutional bond brokers on Wall Street and worked on bond trading desks for most of 20 years — 1973 to 1997.

I have attached charts of US Treasury bond yields. During the 1970s, inflation spiked up and so did Treasury bond yields. In 1976, the 10-year Treasury was priced with a yield of 8% — shocking because bonds had never yielded such a high rate. Most bonds, including the long 30-year bonds, paid in the 4% range until the inflation of the 1970s.

30-year bonds are mostly bought by Pension Funds, but when interest rates started their steady decline in the 1990s, all the high-interest-rate bonds started hitting their refunding dates [you can refinance bonds just like your mortgage], they all got called away and were replaced by new bond issues with lower rates. The same thing happened with Preferred Stock, another Pension Fund staple.

In response, the various mutual funds and investment advisors did studies that showed the stock market had averaged a 12% return during the previous 20 years and sold the idea to PERS fund managers who were in big trouble watching all their high-yielding Treasuries and Corporate Bonds getting called away. Equities didn’t have call or refunding dates, so they seemed like good choices.

What caused the problem was the actuarial assumptions that believed stocks would yield at least 8% to 12% over the long term. These actuaries didn’t know anything about the markets, so they believed the sales pitches of these investment managers trying to sell mutual funds. And the PERS trustees, who knew even less, believed them.

In truth, few people had ever experienced the mass refunding of debt that has happened and never considered that it could happen. The problem is, what do you invest in that has such high ROI? The answer is that high ROI tends to come with greater risk than PERS can tolerate.
Victoria Duff