Pension debt blows bigger hole in city budget

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March 15, 2004 // UPDATED 9:48 am - April 25, 2007
By: Scott Russell
Scott Russell

Unfunded police, public employee liability leaps from $200 million to $350 million and will gobble up a bigger slice of today's property-tax hikes

The city's multimillion-dollar pension problem has gone from bad to worse. In the next two decades, the city estimates it has a $350 million hole to fill in three closed pension funds, the Finance Department said. That's nearly double a 2002 estimated shortfall of $200 million.

The city owes the money to former employees in the Minneapolis Police Relief Association, (the police fund), Minneapolis Firefighters Relief Association (the fire fund) and the Minneapolis Employees Retirement Fund (MERF).

Settling the accounts will make it tougher to pay for basic services under the city's current 8 percent annual property-tax cap.

The unfounded pension liability in 2004 alone is $60.8 million according to city estimates -- equivalent to more than half of its annual police budget.

Why are estimates up?

Finance Director Pat Born said the city uses a three-year rolling average of its pension investments to project unfunded pension liabilities. Those averages now fully include the stock market slump, Born said. The city's most recent analysis was also more rigorous than in 2002.

Pension bills have grown so massive that the city has begun borrowing to pay off the debt. That spreads pension costs for a single year over two decades.

The city issued its first pension bonds in 2003 and will borrow more than $40 million just to pay 2004 liabilities.

Seeking alternatives

Even the borrowing costs strain the city's General Fund, Born said.

Based on the 2002 forecast, the city had estimated a pension payoff would take one dollar in every six generated by the 8 percent property-tax cap in the next five years. Just how much more will be needed to plug a $350 million hole hasn't been calculated. Born said the Department would have new numbers later this month.

Between 2002 and 2020, the city estimates it will have to pay:

  • $152 million to the police fund;

  • $148 million to MERF; and

  • $50 million to the fire fund.

    With interest, the total payments will reach $420 million, Finance estimated.

    The city will pay the $60.8 million due this year to MERF and the police fund with $7 million in property taxes, $12.5 million from the Hilton Fund (one-time cash) and borrow $41.3 million.

    The fire fund has no current unfunded liability.

    The City Council voted Feb. 27 to direct the Finance Department to work with pension fund leaders to reduce the city's obligation, including possibly making state law changes.

    Born said talks have just started and he would report to the Council this summer.

    Despite the nine-figure shortfall, negotiators for the police fund will ask for bigger pension checks for giving the city breathing room.

    A brief history

    The police and fire funds started before 1900; MERF started in 1919. The city collected what it needed to pay benefits -- but didn't save for workers who would eventually retire. By the late 1970s, the funds had amassed huge "unfunded liabilities" -- money the city should have had in the bank to cover future benefits but didn't.

    As part of a state bailout, the city closed MERF to new members in 1978. New city employees went into the state-run Public Employees Retirement Association (PERA), pension officials said. The city's police and fire funds closed to new members two years later, and new officers and firefighters joined statewide pension funds.

    In 1980, the state required the closed municipal pension funds to be "fully funded" by 2010 -- i.e. that they have enough money in the bank to pay out benefits to all members throughout their lives, according to the actuary's life expectancy estimates.

    The city benefited from the 1990s stock market boom. Pension funds performed well and helped close the "unfunded" gap without large tax increases.

    However, a stock market dive and early retirements reopened and widened the unfunded liability.

    A short-term fix

    As one potential solution, the police fund members suggested it and the city could ask the state to let the city stretch out police fund payments.

    Pension experts compare a deadline extension to a home refinancing: the city would lower its annual payment but pay more over a longer time period.

    Brian Rice, the police fund's general counsel, said the city and police fund members "are all in this together."

    Extending the police fund's full funding deadline 10 years would mean the city would pay $15.4 million annually for 16 years instead of $31.7 million a year for six years, according to police fund estimates.

    The funding extension would reduce pensioners' bonuses. They receive an end-of-year-bonus known as the "13th check" when fund investments do well. The one-time checks do not permanently increase benefits.

    Several circumstances trigger a 13th check.

    If investment increases outperform pension increases on a five-year average, fund members divide .5 percent of fund assets, to a maximum of one month's salary.

    If investments do exceptionally well and the fund hits 102 percent of full funding, members split 1.5 percent of fund assets -- an "enhanced" 13th check, Rice said.

    (Police fund members have never received an enhanced 13th check. The fire fund has done better with its investments. The fire fund members got the enhanced 13th checks four years running, starting in 1998. The 1999 bonus check -- $10,195 -- equaled nearly a third of their annual pension. The smallest enhanced 13th check was $7,612.)

    If the city stretches out and reduces annual payments, there is less investment to help trigger an enhanced 13th check. The police fund estimates its first enhanced 13th check would occur in 2017 under a 10-year funding extension, compared to in 2010 under the current plan.

    Concessions sought

    Despite the fund's nine-figure funding shortfall, the police fund sent Born a Jan. 16 memo asking for a bigger pension payout in return for supporting extended full funding.

    Police fund members do not receive Social Security. The pensions are pegged at 50 percent of a top patrol officer's pay. As of Dec. 31, 2002, the 674 police retirees received an average of $38,687 annually, according to the Finance Department.

    Future pension increases are limited by the city's current 2 percent salary-increase cap, Rice said. The police fund is asking for a permanent pension increase of $83 a month, or roughly $1,000 a year. That would boost the city's liability by $1.2 million per year under a 10-year funding extension.

    Under the plan, the police fund is also asking to adopt new mortality tables that would add $4 million a year more in liability, the memo said. Rice said police fund members are living longer than projected under the current pension plan's actuarial tables.

    As a practical matter, the city must pay the pension costs regardless of the mortality tables. But adopting a new table that assumes longer-lived retirees means the city must save for those future costs sooner rather than later.

    MPRA has several other requests, including language that would guarantee pensions would never be cut.

    Still talking

    Born said that the city's primary concern is property-tax pressure -- and in the long run, the city would end up paying more money with a funding extension than if it stuck with its current plan.

    The city is already spreading costs over the long term by borrowing, he said. Increasing benefits only adds to the pressure.

    While the fund is within its legal rights to get the bonus checks, "we face the possibility that the city is making very large contributions at the same time the fund may be paying these 13th check benefits," Born said. "It makes our payments higher than they would be otherwise."

    Born characterized negotiations as the "still in the study-and- talk about-it" stage.