“Three things cannot be long hidden: the sun, the moon, and nation of sheep will beget a government of wolves”
This page summarizes the key takeaways from Palos Verdes Estates City Council Meetings. If you’d like to be notified when new minutes are posted, please sign up to our mailing list, click here
For an Archive of other City Council Meetings, click here.
October 8, 2020 Special Meeting of the PVE City Council - by Teleconference
Subject: Pension AdHoc Report
For the Agenda with links to document – click here
For Video of the session – click here
For the Official minutes of the meeting -- (will post here when published)
PRESENT: Council Members S. Davidson, K. Kao, V. Lozzi, Mayor Pro Tem M. Kemps, Mayor D. McGowan
INTRODUCTION by City Manager Laura Guglielmo
Not on video
City Manager Laura Guglielmo introduced the report of the Pension Ad Hoc Committee on this important topic that shines a light on an issue that needs to be addressed and leads to a path of fiscal responsibility in its recommendations.
Mayor David McGowan then introduced the two members of the Pension Ad Hoc Committee, Mayor Pro Tem Kemps and Councilmember Lozzi who took turns going through the presentation summarized in the next section.
PENSION AD HOC COMMITTEE PRESENTATION by Mayor Pro Tem Kemps and Councilmember Lozzi
click here for Video @00:00:20
a. Current Issues and Road Map to PVE Long Range Plan:
• There are many current issues of which Pensions is one because long term debt can harm our budget and thus our ability to do the things we want to do.
• Another ad hoc is working on Police Issues; Parkland Maintenance is also important given 28% of PVE is parkland; Traffic Mitigation is another issue because of increased traffic and there’s also Infrastructure and Public Works.
• It’s important for there to be a long range plan to address these issues, e.g. along the lines of what the Financial Advisory Committee has created. The Long-Range Plan Road Map looks at reserves, city operations, pensions, technology/risk management, and infrastructure; and finally allows for contingencies.
b. Financial State of the City:
• PVE relies on property taxes for general fund revenue which generally increases only about 2-3% annually which puts pressure on the City to reduce services and defer capital needs as other costs such as pensions grow faster.
• The Unfunded Pension Liability has more than doubled between 2011 and 2019 from about $8 million to over $16 million (see chart on page 6 of the presentation for actual yearly figures).
• The City’s required pension contributions have roughly doubled over the last decade, from under $1 million to almost $2 million (see chart on page 7 of the presentation for details).
c. Civic Engagement Process:
• Mayor Pro Tem Kemps and Councilmember Lozzi brought in outside experts , i.e. Peter Constant, CEO of Retirement Security Initiative (RSI) using their model of civic involvement plus a team from GovInvest to provide software for actuarial modeling and also leveraging their knowledge of what pension policies other cities have followed.
• Meetings were held with various constituencies such as City employee groups and residents to inform these groups of the work being done and to gather ideas. Ideas were compiled and uploaded to the City’s website under “Working Group Ideas”.
• Numerous individuals were invited to join a working group to help delve deeper into issues, understand community interests/concerns and to brainstorm potential solutions.
• The working group settled on twelve strategies - six Debt Management Strategies to address the pension debt management issues and six Budget Management Strategies to address budget issues.
• In addition to representatives from POA, PSE, General Employees and Executive Staff, and the outside experts, the following residents were highlighted for their work on this issue: Robert Park, Dawn Murdock, Desiree Myers, and George Kay.
d. The Pension Challenge:
• There are four defined benefit plans funded by the City (including employee contributions) and administered by CalPERS for four different employee groups. The plan formulas provide a specified amount of monthly retirement income based on employee’s salary, years of work, and age at retirement as shown below and are guaranteed without regard to funding level or the actual investment performance of the plans’ funds:
• Classic Public Safety - At age 50, 3% of Final Year’s Salary X years of service with a 2% COLA after retirement
• PEPRA Public Safety - At age 57, 2.7% of 3 year Final Average Salary X years of service with a 2% COLA after retirement
• Classic Misc. Employees - At age 55, 2% of Final Year’s Salary X years of service with 2% COLA after retirement
• PEPRA Misc. Employees - At age 62, 2% of 3 year Final Average Salary X years of service with a 2% COLA after retirement
• There are several key assumptions (called actuarial assumptions) used by CalPERS to determine funding requirements for these plans. Some of the assumptions are fairly straightforward for actuaries to set, such as average life expectancy, salary increase projections, projected retirements, etc. There are two other assumptions used by CalPERS which, if incorrect, have a very negative effect on the funded status of plans and the stated unfunded actuarial liability, i.e. the assumed rate of investment return and the discount rate.
• CalPERS has set both the rate of investment return and the discount rate at 7%. If the assumed investment rate is met, then the plan is considered fully funded (assuming that all required contributions have been made).
• When the investment return rate is not met over time, then the plan is less funded than planned for, which creates an unfunded liability or debt.
• The chart on page 15 of the presentation shows the year-by-year history of investment returns from 2000-2020. There are many years during that period in which the 7% rate of return was not met, even on a rolling 5 year average basis, which has added unfunded liability or debt to PVE’s pensions.
• Page 16 points out that CalPERS pension assets consistently underperforms the S&P 500 Annual Returns and that reaching the 7% assumption will continue to be difficult in the current Federal Reserve interest rate environment . Page 17 also states that there is a low probability of meeting the 7% assumption over the near-term investment horizon and the ad hoc committee recommends that plan contributions be funded using lower risk assumptions that have a higher probability of being realized.
• The City’s annual required pension contribution is made up of two pieces;
• the normal cost is attributable to the benefits earned in the current year by active employees, a portion of which is paid by employees through payroll deductions
• the unfunded liability payment which is the additional payment required to pay off the accumulated debt (Unfunded Actual Liability or UAL) by the end of the amortization schedule established by the plan.
• Over the last 20 years, the normal cost has risen only gradually, but the debt payments on the UAL are skyrocketing as shown in the chart of page 19 of the presentation, going from about $1million in 2020 to about $2 million by 2026.
• Page 21 shows the current UAL for each of the four plans and the funding status using the current assumed 7% discount rate. as follows:
• The calculation of UAL is highly sensitive to changes in the discount rate. Here’s what happens to the total UAL of $17,644,887 shown above and the funded status under various discount rates:
• Using CalPERS 7% discount rate and amortizing the current $17.6MM UAL on the schedule established by CalPERS, total principal and interest payments will exceed $32M over the next 25 years, of which over $15M is interest.
e. Debt & Budget Management Strategies Considered:
• Rising pension costs consume an increasing percentage of the budget, crowding out basic city services as the general fund is gradually depleted. As an example, in order to pass the last two fiscal budgets, the City reduced services in excess of $1M.
• There are six (6) potential Debt Management Strategies included in this report as follows:
Use a more realistic discount rate (i.e. set 2.5% above a 3-year rolling average of the 30-year treasury constant maturity rate). This will minimize the creation of new debt by increasing accuracy.
Establish a 115 Pension Trust to hold any excess funds that are available from time to time to use for future pension purposes. Trust assets would only be used for pension benefits and can be invested more broadly than other internal funds.
Calculate total pension contribution using a shorter amortization period and a level dollar amortization to retire legacy debt faster which would result in lower interest payments over time (as would be the case for an individual choosing a 15 year mortgage versus a 30 year mortgage).
Consider locking into a funding program CalPERS is offering for legacy debt called Fresh Start which also uses the shorter amortization period and level dollar amortization similar to the preceding item 3 but under this approach it’s locked in by CalPERS so less flexibility.
Consider combining a Fresh Start with CalPERS and Shortened Amortization Schedules with a Temporary, Dedicated Tax to have the funds to pay for this (which would require a vote by residents).
Manage PEPRA Plans’ debt aggressively, i.e. pay the relatively small UAL for those plans to get them back to 100% funded status.
• The recommended approach by the Ad Hoc Committee is to adopt a combination of Strategies 1 and 2 by gradually reducing the discount rate from 7% down to 5% between 2020 and 2023.
• There are six (6) Budget Management Strategies included in this report as follows:
Develop a clear policy for use of one-time revenues.
Develop a clear policy for use of ending fund balances with priority to items that relieve budget or financial operating pressure in future periods.
Create a “budget-in-brief” for communication of financial information for residents, i.e. a snapshot graphical budget document that is visually clear and easy to read.
Disclose long-term liabilities in the budget in order to monitor the progress on debt management.
Establish a debt management policy to include unfunded pension liabilities.
Explore all potential revenue-enhancing activities, with taxation as a last resort.
f. Committee Recommendations:
Recommend that Council direct staff to:
Provide analysis on implementing Debt Management Strategies 1 and 2
Provide analysis on restructuring the UAL under Debt Management Strategy 5 above
Implement Budget Management Strategies 1 and 2 immediately by updating existing policies
Implement remaining Budget Management Strategies going forward
Mayor McGowan thanked Mayor Pro Tem Kemps and Councilmember Lozzi for their excellent work and presentation and thanked all of the other members of the team for their hard work and contributions as well. He then asked Councilmembers Kao and Davidson if they had clarifying questions. Their questions were primarily about the potential 115 Pension Trust and how it works. Councilmember Kao asked about Pension obligation bonds and whether there was something about PVE that would make these bonds less attractive, and the answer was that our lack of revenue makes it an issue.
Mayor McGowan stated these were good questions and that Council would expect staff to go the work to look into these issues and come back after studying fully.
3. COMMUNICATIONS FROM THE PUBLIC
The following residents addressed the City Council:
Jim Kelly - compliment to Michael and Victoria and the team. Excellent work, just what’s needed. Now up to the CC to address.
Karen Logan - great presentation, very educational and no questions. Thanks to all ad hoc members
Desiree Meyers - thanks to everyone who worked so hard with most transparent and inclusive ad hoc ever done for this city. We need rigorous discussion about CalPERS not meeting their assumed rate of return and new risks moving forward. CalPERS waiting until 2021 to adjust assumption for life expectancy. The lower our funding goes, the higher their rate of return needs to be to make the assumed rate. Look at the past to measure what we can expect in terms of debt growth. PVE has kicked the can down the road over the years. Discount rate should be lower than what CalPERS is using.
Patrick Jones - not sure which of the strategies gives us the most certainty for paying off the debt so the public has more confidence in the order of or consideration of the options. Also need a case study of another similar size city that has encountered a similar issue and had success plus how did they sell it to their citizens so they understand what the trade-offs are, etc.
4. Q&A / DISCUSSION:
Councilmember Lozzi stated she wants this endeavor to be staff driven so feels it’s ready to pass this to staff. Sees this as one piece of a puzzle in parallel with other priorities to be addressed.
Mayor McGowan stated that City Manager Guglielmo has a full plate of priorities so he’s asking that City Council identify a small list of items to be studied out of this presentation, focusing on the highest priority strategies, then Laura can come back at a later date with a report on timing.
City Manager Guglielmo said budget strategies are already being addressed and are clear to move forward on. Then she asked Mayor Pro Tem Kemps, for RFP purposes regarding establishment of a 115 trust, what amount would likely be set aside in such a trust. She stated that she’s assuming that 115 funds can be used for normal cost, which could give some flexibility if there are future financial challenges as long as not overfunding the 115 fund, so it’s a good way to set aside some funds that are safe for pension debt purposes.
Councilmember Kao stated he understands why cutting our amortization period in half doesn’t make sense right now because of how much it would increase funding requirements and also brought up Strategy 5 which talks about a tax for paying down this debt. He believes this is a non-starter for PVE and fears that a parcel tax to pay long term debt is doomed for failure. So he feels the first two debt strategies make sense, but 3, 4 and 5 he doesn’t think we’re ready for. He’s in favor of the Budget Management Strategies.
Mayor Pro Tem Kemps suggested the Council think about one idea, i.e. go ahead with Debt Management Strategies 1 & 2, then look at Police Ad Hoc report when it’s ready as well as the HR Green study, and do a full analysis at that time considering a go forward plan to address them all with a redo of Measure E to accomplish 3 things
fully fund police department and solve this problem going forward (including pension costs)
a plan to control new debt going forward
then a plan to address the unfunded liability,
and come to a collaborative solution that involves solving all of this including looking at existing MOU’s at the same time.
Councilmember Lozzi reminded that Debt Management Strategies 3, 4 & 5 have to do with how we structure the debt and pay down the debt, and added the question as to how can we go to residents with other priorities (e.g. traffic circle, infrastructure, etc.) if we haven’t addressed pension debt. It’s an important piece of the puzzle and we need to hire a financial advisor to help us with specific solutions and approaches so we’re not kicking the pension can down the road.
Councilmember Davidson gave his opinion that Council cannot consider a tax until other methods to raise funds in our city are exhausted so Budget Management Strategy #6 regarding enhancing revenues is critical (e.g. grant writers, business footprint, concessionaires, etc.). He also stated he agrees with Councilmember Lozzi about getting rid of PEPRA debt since it’s so small. He also asked whether money in undesignated funds can be invested so we could get some % of return.
City Manager Guglielmo stated there are limited opportunities for those undesignated funds which is why 115 funds give more flexibility for pension funds. She also stated she hears consensus from the Council on addressing and implementing Debt Strategies 1 & 2 plus 6 as a start and then look at the others later.
Councilmember Davidson moved for the City to do the analysis on Debt Strategies 1 & 2, and Mayor Pro Tem Kemps seconded.
Mayor Pro Tem Kemps, to address what Patrick Jones brought up, then asked Ira Summer of GovInvest to talk to about what other cities have done. Ira Summer stated that other agencies have moved toward restructuring their debt but he’s excluding in this discussion those that went with Pension Obligation Bonds but rather looking at those that considered shortening the amortization period to pay off debt faster with bigger payments. He mentioned they did it when the economy was stronger to good effect. e.g. Belmont in Bay Area and the Sanitation District in Northern CA. He also said it would be important to do it informally so can reverse if economy or challenges change, i.e. not officially changing the amortization period. Giving pension debt a high enough priority so that when looking at how to use any available funds is another consideration.
Mayor Pro Tem Kemps asked Pete Constant of RSI for his thoughts about resident Jones’ point about what is most impactful. Pete talked to difficulty of tackling such a large problem (pension debt) when there are so many other competing priorities. Most impactful thing to do is to take a few proactive steps forward (a commitment) and not get caught in analysis paralysis. Suggested we take an approach that looks at current debt separate from future debt and said it’s a debt management issue versus a risk management issue. Looking ahead to 2031, it’s a big issue and if don’t address now, it will be even more difficult to address then. He recommends laying out a plan and start taking steps.
Vote on motion to adopt Debt Strategies 1 & 2: Passed unanimously
There was also discussion about exploring all revenue enhancing opportunities (Budget Strategy # 6) and the possibility of forming a two member ad hoc committee for this purpose. There was a motion by Councilmember Davidson and seconded by Mayor Pro Tem Kemps to accomplish this (Councilmembers Davidson and Lozzi volunteered for this ad hoc) but it was suggested that it be put on the agenda for the next meeting and so the motion was withdrawn.
Councilmember Davidson moved to adopt Debt Management # 6 re PEPRA payoff to aggressively manage PEPRA debt by paying off the balance of the remaining value of PEPRA plans’ debt in full prior to end of this budget cycle. Kemps seconded.
Vote: Passed unanimously
5. ADJOURNMENT TO TUESDAY, October 13, 2020 AT 6:30 PM
Mayor Pro Tem Kemps moved to adjourn and Councilmember Davidson seconded.
Vote passed unanimously and meeting was adjourned at 8:55pm.