In the early 2000s, along with many other cities, state agencies and counties in California, Sonoma County enhanced their employee pension benefits.
As of 6/30/2018, Sonoma County’s pension system had $2.7 billion of invested assets, but nearly $3.1 billion in actuarial accrued liabilities. To what extent is its $400 million unfunded liability attributable to the pension benefit enhancements? Put another way, how much have these enhancements cost Sonoma County’s taxpayers?
Just as it is impossible to know with perfect accuracy the amount of a pension fund’s actuarial accrued liability, it is impossible to precisely calculate the cost to taxpayers of Sonoma County’s pension benefit enhancements. There is enough data available in the financial statements provided by Sonoma County’s pension fund, however, to provide credible estimates.
To improve the credibility of these estimates, the assumptions made herein are designed to understate the costs. For example, the impact of the increased cost is not assessed until the year the enhancements were fully implemented. In the case of general Sonoma County employees, that was 2005, and in the case of public safety employees of Sonoma County, that was 2006.
Sonoma County’s original pension benefits were based on the typical annual percentage accrual, multiplied by years worked, with the total percentage multiplied by the final pension eligible salary to calculate the retirement pension. For example, up until 2005, Sonoma County’s general (non-safety) workers would accrue their pension benefit at a rate of 2 percent per year. An employee who worked 30 years would have a pension equivalent to 60 percent of their final salary (2 percent times 30 years). As of 2005, that percentage was raised to 3 percent, and the age of eligibility to receive a full pension was increased from 57 to 60.
For public safety employees, the increase was even more dramatic, because not only did the annual percentage accrual increase from 2 percent to 3 percent, but the age of eligibility was lowered, from 55 to 50.
By assuming a typical case for a Sonoma County general employee, and another for a Sonoma County safety employee – before and after the pension benefit enhancement – it is possible to calculate the required annual contribution as a percent of payroll. The method to do this, along with all calculations related to this analysis, can be downloaded here.
Because the pension eligible payroll for Sonoma County since 2000 is disclosed in their Consolidated Annual Financial Reports (CAFRs), it is a simple matter to multiply these hypothetical contribution percentages by the actual payroll that was issued to Sonoma County employees. In this way, the differing costs – with or without the pension enhancements – can be calculated.
As it turns out, an employee working 30 years collecting a “2% @ 57” pension, retiring at age 60, requires an ongoing annual pension contribution equivalent to 14.7 percent of payroll. If that benefit is increased to a “3% @ 60” formula, the required contribution increases to 22.1 percent of payroll.
Similarly, for a safety employee working 30 years collecting a “2% @ 55” pension, retiring at age 55, requires an ongoing annual pension contribution equivalent to 16.8 percent of payroll. If that benefit is increased to a “3% @ 50” formula, the required contribution increases to 25.2 percent of payroll.
Using this method, between 2005 and 2018, if Sonoma County had not enhanced their pension benefits, they would have needed to contribute a total of $686 million to their pension system. Taking into account the cost of the benefit enhancements, they would have needed to contribute $1.02 billion to their pension system. This suggests that at the least, the pension benefit enhancements enacted by Sonoma County cost their taxpayers $331 million over the course of 14 years.
This is a very low estimate, however, for the following reasons.
1 – Sonoma County didn’t increase the value of their pension benefit accrual just for work yet to be performed. They increased the value retroactively. This has profound financial consequences. Employees who were nearing the ends of their careers suddenly had their pension benefits increased by 50 percent, from 2 percent, times the years they worked, to 3 percent, times the years they worked. But no extra money had been set aside for this over all the years prior to the enhancement. Sonoma County’s taxpayers had to make up that shortfall in the years after 2005.
2 – The shortfall, or unfunded liability, caused by the retroactive increase was itself a source of increased costs, because of the cost of not having those assets earning interest. While Sonoma County issued a $289 million pension obligation bond in 2010, there were the interest costs on the unfunded liability prior to 2010, plus the new source of interest expense required for the County to pay off this new bond. Moreover, even after this pension obligation bond was issued, at the end of 2010 the pension system’s unfunded liability still stood at $249 million (down from $402 million the year before).
3 – Sonoma County projects a long-term annual rate of return for its pension fund of 7.25 percent. But according to their latest CAFR, for the last 20 years, they have only managed to earn an average of 6 percent per year. This lower rate greatly increased the costs to fully fund the pension system. It also greatly increased the cost of the pension benefit enhancements.
To fully explore these additional variables is possible, but beyond the scope of a preliminary summary of the impact. But the baseline estimate, plus accounting for these additional factors, makes it virtually certain that Sonoma County’s pension benefit enhancements cost their taxpayers at least a half-billion dollars over the past 15 years, with ongoing costs into the future.
Edward Ring is a co-founder of the California Policy Center and served as its first president.