• OnTarget
  • Mort Reinhart

    How Not to Fund the Pension System...Resort to Reducing the State's Contribution

    Here we go again.

    The budget needs to be balanced. There is an $800 million shortfall in the 2015 proposed fiscal budget. The tax revenue that was projected by the Governor to balance this year's and next year's budgets is falling short. The administration knows how to bridge that gap.....underfund the public employee's pension funds.

    Sound familiar. The Governor who proposed this solution could be named Christie Whitman, John McGreevey, or John Corzine (although Corzine did put more than a billion and a half dollars into the fund for two of his fiscal years) or, as we are now learning, it could be the present Governor, Chris Christie, who apparently will follow the same path in this year's budget and next year's budget.

    This action - reducing the State's pension fund contribution to the employee's retirement systems to balance the State's budget - flies in the face of Governor Christie's sanctimonious attacks on previous administrations for using gimmicks to reduce or skip pension fund contributions as the answer to balancing annual budgets. These actions, criticized by the actuarial community and Wall Street analysts, have resulted in the State retirement systems being less than fully funded and New Jersey's bond rating being lowered. This shortfall, in turn, was the basis for several rounds of pension reform since 2007, each of which created new levels of benefits (lesser) for new hires. The most recent package, in 2011, changed the formula for calculating benefits, changed the age at which employees could retire, severely reduced early retirement possibilities, and suspended cost-of-living adjustments for all current retirees and all future retirees. Further, employee pension contributions were increased by 1% in the first year of reform and are rising 1/7% each year for seven years until the rate paid by employees in 2018 will be 2% higher than it was in 2011.

    As part of the legislation that was signed by Governor Christie in 2011, the State was to make an increasing contribution to the retirement system each year for seven years so that its contribution after this seven years would be 100% of the actuarial determined contribution and would continue to be 100% in future years. (This increasing contribution schedule called for the State to make a contribution that was 1/7th of the actuaries' calculation in the first year of the new law, 2/7th of the amount the second year, 3/7th of the amount the third year, etc. After seven years, the State would be fully funding the system each year into the future.) This increasing contribution was hailed by the Governor as his way of putting the pension system on a firm footing. The increased annual employee contribution was viewed by some as a "partnership" for improving the solvency of the pension fund.

    Alas, the budget revenue shortfall in 2013 and the projected shortfall for 2014, has cast a pall on the "partnership." While the deductions from employee paychecks have increased at the agreed upon 1/7% each year, the State's contribution this year and the projected contribution next year will not follow the increasing percentage of the actuaries' calculated employer contributions. The first indication that the State would not meet its obligation came in late February when the Governor unveiled his 2015 fiscal year budget. At that time, he warned that the pension obligations of the state would have to be renegotiated, but he did not elaborate on his warning. Under the 2011 law, the State's obligation for fiscal year 2015 is $2.25 billion dollars. Subsequently, the administration revised that figure downward through an accounting gimmick that permitted the State to reduce its current year's budgeted contribution ($1.676 billion) by $93.7 million and reduce next year's expected payment by $150 million (from $2.4 billion to $2.25 billion.) Together, the two changes reduce the amount being contributed to the pension fund by $243.7 million.

    The administration, however, argues that the pension fund will not suffer any shortfall because the total of the State's contribution and the increased contribution by the employees through their paycheck deductions will total the amount that meets the requirements of the law. Here is the supposed explanation. When the new law was passed increasing the contributions of the employees, the contribution rate for employees was 5.5%. Depending upon which source one believes, the actuaries were told to continue to estimate the revenue from employee contributions based on a contribution rate of 5.5%. This would require the State to contribute a greater amount to the funds as its share of the total pension contribution and would help to increase the funding level of the system. When the contributions of $1.676 billion and the $2.4 billion were calculated by the actuaries, the rate of employee contributions was calculated at 5.5%. At some point last year, the actuaries were told to adjust the employee contribution rate from the past rate of 5.5% to the real contribution rate of 6.64%. Calculating the employee contribution rate at the higher percentage produced more revenue for the actuaries to calculate coming from the employees and less revenue needed from the State to meet the total system pension obligations. In essence, the increased employee contribution became a saving for the State and allowed the budget pension requirement to be reduced by the increased employee contributions. (It should be noted that the administration argues that using the higher employee contribution rate is in keeping with "standard actuarial practice" and that there was no agreement, "either explicit or implicit with the Legislature" (to continue to use the lower employee contribution rate).

    (At the time this article was written, there were still no definitive decisions on dealing with the projected $800 million deficit in the fiscal 2015 proposed budget.)