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HomeMy WebLinkAboutItem 4.10 - Proposed Response to Santa Clara County Civil Grand Jury Report An Analysis of Pension and Other Post Employment Benefits DATE: September 11, 2012 4.10 CATEGORY: Consent COUNCIL REPORT DEFT.: City Manager's Office TITLE: Proposed Response to Santa Clara County Civil Grand Jury Report,An —:: Analysis of Pension and Other Post On of MOUNTAIN VOW Employment Benefits RECOMMENDATION Approve the proposed response to the Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits. BACKGROUND The Fiscal Year 2011-12 Santa Clara County Civil Grand Jury issued a report entitled An Analysis of Pension and Other Post Employment Benefits on June 13, 2012. The report broadly addressed local government funding of pension and other postemployment benefits such as retiree health-care costs. The report is provided as Attachment 1. The City of Mountain View is required by State law to respond to the findings and recommendations in this report by September 14, 2012. A proposed response is included as Attachment 2. Some of the topics addressed in the Grand Jury report have since been addressed in pension reform legislation approved by the State Legislature on August 31. Staff is assessing the impacts of the new legislation on Mountain View and will provide an update to the Council in the near future. ANALYSIS The Fiscal Year 2011-12 Santa Clara County Civil Grand Jury examined the funding status of pension and other postemployment benefits for all cities, towns, and the County of Santa Clara in an effort to address the question: "Is the cost of providing pension and other postemployment benefits interfering with the delivery of essential City services and is the ultimate cost to the taxpayers a bearable burden?" The Grand Jury concluded that: Proposed Response to Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits September 11,2012 Page 2 of 3 "until significant modifications are enacted, there is no doubt that the escalating cost of providing Benefits at the current level is interfering with the delivery of essential City services and the ultimate cost to the taxpayers is an unbearable burden. These costs are already impacting delivery of essential services as demonstrated by San Jose reducing police and fire department staffing levels, closing libraries or not opening those newly built, curtailing hours of community centers, and not repairing pot-holed city streets. Other cities in the County are likely to face similar challenges as long as high cost benefit plans face an underfunding liability. Understanding how Cities created this problem through unfunded retroactive benefit enhancements, compounded by poor return on investment, helps taxpayers understand that the problem will not go away on its own." It is true that retirement-related benefits costs have grown for the City of Mountain View as well as for other communities in the County over the last decade. However, as the report notes, to a greater extent than other agencies in the County, the City of Mountain View has taken steps to address the fiscal impact associated with pension and other postemployment benefits. These steps include: 1. Negotiating with employee organizations to ensure that employees pay both the "normal" employee pension contribution as well as a portion of the employer pension contribution, with employees now paying between 9.5 percent and 15.4 percent of their salary toward pension benefits, and employees agreeing to increased contributions over the next two years. 2. Significant City prefunding of anticipated retiree health costs. 3. Negotiation of modifications to the City's retirees' health program to include a defined contribution option for nonsafety employees in order to manage future costs. 4. Negotiation of a short-term, and potentially ongoing, public safety employee contribution toward retirees' health costs. 5. Working with employee groups to reduce liabilities associated with accrued leave benefits. While the issues raised by the Grand Jury are valid, by continuing to adhere to conservative financial management policies and by working in partnership with our bargaining groups, Mountain View has been successful in in addressing the short- and Proposed Response to Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits September 11,2012 Page 3 of 3 long-term costs associated with these benefits. As a result, Mountain View has not experienced the same impact to public services as has occurred in some communities. City staff will continue to assess costs associated with pension and other postemployment benefits in order to ensure that City service levels can be maintained in the future. FISCAL IMPACT There is no fiscal impact associated with preparing the response to the Grand Jury report. ALTERNATIVES Modify the proposed response to the Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits, and approve the modified response. PUBLIC NOTICING—Agenda posting. Prepared by: Approved by: Melissa Stevenson Dile Daniel H. Rich Assistant City Manager City Manager MSD/7/CAM 602-09-11-12M-E Attachments: 1. Santa Clara County Civil Grand Jury Report,An Analysis of Pension and Other Post Employment Benefits 2. Proposed Response to Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits Attachment 1 h 2011-2012 SANTA CLAR REPORT AN ANALYSIS OF PENSION AND OTHER POST EMPLOYMENT BENEFITS Issue After reviewing the Comprehensive Annual Financial Reports (CAFRs) of all cities, towns and the County of Santa Clara (hereafter referred to as City or Citiest), the Grand Jury was struck by the extent that the pensions and Other Post Employment Benefits (OPEB) (collectively "Benefits") were underfunded. Subsequently, the Grand Jury sought to answer the following question: "Is the cost of providing pension and other post employment benefits interfering with the delivery of essential City services and is the ultimate cost to the taxpayers a bearable burden?" Introduction The Grand Jury developed a survey to gather information from the Cities and the County The Survey and responses are important to this report and the Grand Jury encourages readers to read the Survey questionnaire provided in Appendix A before continuing. Due to the technical complexity of this report, the Grand Jury has provided a glossary of the terminology used throughout this report (Appendix B). Acronyms are also included in the glossary. CaIPERS2 requires Cities to contribute sufficient funds, held in trust, to pay for pension benefits as they are earned. This helps to ensure sufficient funding is in place to provide the promised pension benefits. This trust money is invested and expected to return a long-range investment return as high as 7.50% (after expenses). It is these investment earnings that are expected to pay for as much as 70%4 of the cost of pension benefits. 1 Cities as defined in this report include: Santa Clara County; the cities of Campbell, Cupertino, Gilroy, Los Altos, Milpitas, Monte Sereno, Morgan Hill, Mountain View, Palo Alto, San Jose, Santa Clara, Saratoga, Sunnyvale; and the towns of Los Altos Hills and Los Gatos, 2 The California Public Employees'Retirement System (CaLPERS) is an agency in the California executive branch that manages pension and health benefits for California public employees, retirees, and their families! CaIPERS recently reduced this rate from 7.75%. ° Expected to decline as investment yield declines. 1 According to interviews, historically high investment earnings in the early 1990s spawned the belief that expensive pension enhancements could be granted and paid for by the excess investment earnings without compromising the Cities' ability to afford other services. Once these pension enhancements are granted to an employee, they generally cannot be retracted unless a substantially comparable replacement is offered, a concept referred to as vested rights. Cities reported that they felt compelled to enhance benefits to attract and retain the best work force possible. In addition to pensions, employers provide OPEB consisting primarily of health care benefits. Unlike pension funding requirements, there is no requirement for Cities to pre- fund the cost of OPEB benefits. As a result, most Cities have not funded OPEB benefits and have accrued large OPEB debts. Escalating health care costs, the largest component of OPEB, compound this debt problem. As a result of an economic downturn, the average investment rate of return (investment earnings) for the last ten years is considerably below what experts and Cities agree is the still optimistic assumed rate of 7.5%. This return on investment (ROI) leads to an increase in the Cities' annual payment into the pension fund to make up the difference. The rising costs of pension and OPEB (collectively hereinafter referred to as Benefits), combined with the downturn of the economy have resulted in very large budget shortfalls. These must be paid by current and future tax revenue, which is limited. Thus, according to interviews, paying for these rising costs will come at the expense of other City services. With this in mind, the Grand Jury assessed the viability and sustainability of Cities' public employee Benefits. This assessment sought to answer the following questions: • What are the costs of public employee Benefits and who pays for them? • Will Cities' projected revenues keep up with projected expense of Benefits? • What is being done and what can be done to control Benefit costs? • Why are public employee Benefits different from those in the private sector? Background Several cities have declared bankruptcy. While the reasons for bankruptcy vary from one municipality to another, and include lower tax revenues and decreased home values, one common reason cited is large unfunded liability associated with providing pension and healthcare benefits to its public employees. Locally, the City of Vallejo declared bankruptcy in 2009 after failing to negotiate pay cuts in the face of $195 million in unfunded pension obligations. Stockton is falling into bankruptcy with less than 70 2 cents set aside for every dollar of pension benefits its workers are owed. A recent Stanford University study regarding public pension funds statewide emphasizes this predicament: "public pension shortfalls of $379 billion or $30,500 per household" exist statewide6 contributing to the downgrading of California's bond rating. San Jose is proposing pension reform and considering higher taxes resulting from ten consecutive years of budget shortfalls. The full effect of these unsustainable costs is yet to come. Methodology The scope of the Grand Jury's investigation was limited to the Cities. Special districts and other agencies were excluded from this investigation. The following resources were used to gather and evaluate the data contained in this report: • City CAFRs; particularly notes to financial statements concerning Benefits (see Appendix A) • Results obtained from a survey created by the Grand Jury and distributed to the Cities (see Appendix B for the complete survey) • Interviews conducted with one or more of the following persons from the Cities: Financial Manager, Chief Finance Officer, City Manager, Retirements Service Director, and Human Resource Manager. All interviews were conducted following receipt and evaluation of a survey, affording the opportunity to seek clarification and elaboration on survey responses as necessary. • Interviews with CaIPERS actuaries and CaIPERS consultants • Other documents listed in Appendix A. Report Conventions The Grand Jury did not extrapolate, derivate or convert the data provided by the Cities in response to the survey. When the Grand Jury had questions, or found inconsistencies in the data provided, every effort was made to resolve the issues through interviews, email and phone conversations. All dollar figures are expressed in actuarial valuation units,' not market value, unless otherwise stated. The glossary in Appendix C provides definitions of the terminology used throughout this report. Acronyms are also included in the glossary. "Untouchable pensions may be tested in California,' Mary Williams Walsh, New York Times, March 16, 2012. 6 http://siepr.stanford.edu/system/files/shared/Nation%20Statewide%20Report%20v081.pdf 7 See Appendix C Glossary for definition. 3 Discussion This discussion consists of three primary sections: • Understanding CaIPERS presents and discusses the basic concepts of CaIPERS public pension benefits to lay a foundation for a more detailed look at City-provided Benefits. • Key Survey Results discusses those survey results found to be most relevant to answering the Grand Jury questions. • San Jose's Plan is discussed separately because San Jose is the only city to not use CaIPERS. Understanding CaIPERS Because all Cities except San Josee participate in CaIPERS for pension and many use CaIPERS for OPEB as well, it is vital to understand the following key concepts: • Basic Pension Plan Formulas • Annual Required Contribution (ARC) • CaIPERS Menu Options • Assumed or expected Return on Investment (ROI) • Unfunded Liability. Basic Pension Plan Formulas Employees belong to one of two different groups: Miscellaneous (MISC) or Public Safety,9 each having defined plans. Table 1 lists all first tier'0 CaIPERS plans utilized by Cities. Note that the plan names include the pension earned per year and the retirement age at which full benefits are received. 9 Excluding the San Jose Mayor and Council Member plan. °Police and Fire personnel. 10 See Appendix C Glossary for definition. 4 Tablet: First Tier CaIPERS Plans Used by the Cities s Plans Public Safety Plans Plan Name Number of Cities Plan Name Number doff Cities Participating Participating.:: 2.0%@55 4 3.0%@50 1111 2.5%@55 5 3.0%@55 1 2.7%@55 7 For all plans the pension benefit formula contains the same three primary components multiplied together as shown here: Pension = Earned Benefit Rate x Years of Service x Salary Earned Benefit Rate: This is the percent of salary earned per year of service as indicated by the plan name. Retirement before age 55 for MISC employees and before age 50 for most Public Safety employees results in the Earned Benefit Rate being reduced (per CaIPERS' table). For example, a MISC employee in the 2.0%@55 plan who retires at age 50 gets an earned benefit rate of 1.42612 per year of service rather than 2.0. Similarly, participants of the 2.5%@55 plan as well as the 2.7%@55 plan receive an earned benefit rate of 2.0 at age 50. Interestingly, the earned benefit rate for members of the 2.0%@55 plan continue to rise until the age 63 where it plateaus at 2.41813 percent per year of service. This contrasts with the other two MISC plans that plateau at age 55 at 2.5% and 2.7% respectively. (For a more detailed delineation of earned benefit rates, see www.calpers.ca.00v). Years of Service: This is self explanatory except to point out CaIPERS supports reciprocity, which means that employees can transfer from one CaIPERS-covered agency (City) or any other public agency that has established reciprocity with CaIPERS, to another such agency without forfeiture of earned pension (as is usually the case in the private sector).14 Thus, an employee may work 10 years each for three different cities and earn the same pension benefits as otherwise would have been earned if they had worked for 30 years at a single city. But because each of the three cities pays only its one-third share of the earned pension, statistically, this employee appears as three employees earning a more modest pension from each city. " Some Cities contract for police and fire. Gilroy police and fire belong to separate Public Safety plans. 12 From CaIPERS Benefit FactorsTable, page 22, Local Miscellaneous Benefits 13 From CaIPERS Benefit FactorsTable, page 22, Local Miscellaneous Benefits 14 Reciprocity agreements may also exist between other pension plan providers. 5 Salary: CaIPERS has guidelines defining what wages and reimbursements qualify for the purposes of determining pension. For a detailed discussion, go to www.calpers.ca.gov. Generally, salary can either be the average highest salary over a three-year period, or a highest single 12-month salary can be used, depending on the plan adopted by the City. Using the highest 12-month salary (rather than highest 36- month average salary in the pension formula shown above) is an example of what is known as a "Class 1" benefit enhancement that is more expensive to provide. It is noted here that Public Safety plan participants have a 90% maximum salary cap that can be earned at onset of retirement. There is no corresponding limit placed on plan participants. In both cases however, the Grand Jury learned that large pensions (expressed as a percent of salary) serve as a deterrent to prolonging employment because one can retire at close to full pay. Subsequent discussions on Employer Paid Member Contribution (EPMC) and Cost-of-Living Allowances (COLA) will show how pensions can actually exceed salary, leading to the paradox of employees losing income if they continue to work as a public employee rather than retire. ARC: What is it and How is it Determined? The ARC is the annual actuarially determined amount that must be paid to ensure there will be enough money to pay for all promised Benefits. As shown below, the pension ARC consists of three principle components added together: ARC = Employee Contribution + Normal Cost+ Past Service Cost It should be noted that generally the Normal Cost and Past Service Cost, in accordance with labor contracts, are paid for by the Cities—through tax revenue—and sometimes are supplemented by an employee contribution. Employee Contribution: From the perspective of CaIPERS, this is a fixed percent and, as the name would suggest, was intended to be paid by the employees in much the same way as most private workers pay a portion of their own Social Security benefits. For all City employees, the Employee Contribution is either 7%, 8% or 9% of an employee's salary, depending in which plan the employee participates. It is important to note, however, that in practice, most Cities pay some portion of this cost on behalf of the employees. Normal Cost: Less the employee contribution, if made, this is the amount required to pay for the benefits that were earned in the prior year for the (expected) life of the employee in retirement. This is determined through rigorous actuarial valuations taking many variables into account, including retirement age, life expectancy, and probability of disability. Normal Cost tracks very closely with the degree of Benefits being offered. That is to say, discrete cost increases occur to this component of the ARC with each benefit enhancement proportional to the cost of the benefit. Without benefit enhancements, Normal Cost remains relatively flat over time. 6 Past Service Cost: Whenever the plan assets (all previously paid ARCs), including ROI, become insufficient to pay the actuarial accrued cost of benefits, an unfunded liability1s exists. This deficit must be made up in the form of Past Service Cost. This component of the ARC is largely proportional to unfunded liability, increasing as the unfunded liability goes up to begin paying down the debt. For many Cities surveyed, Past Service Cost is approaching and in some cases already exceeds Normal Cost. Later, this report will discuss the three most often cited reasons for unfunded liability: market losses (ROI lower than the assumed rate), retroactive benefit enhancements, and other accumulated actuarial assumption changes (e.g., longer life expectancy, demographic changes). CaIPERS Menu Options Each CaPPERS plan has numerous benefits that are inherent to the plan itself.16 In addition to these benefits, CaIPERS offers a wide range of menu options that can be thought of as upgrades or enhancements to the base plan. They are too numerous to list but include the following: • Annual cost-of-living allowance (COLA) increase • Employer-paid member contribution (EMPC) • Credit for unused sick leave • Improved industrial and non-industrial disability • Special death benefits • Survivor benefits • Various military and public service credits. Each enhancement selected results in quantifiably larger ARC payments. One cannot conclude from the plan name that it is necessarily more or less generous than another plan of a different name. For this reason, the Grand Jury's investigation concerned itself not with the issue of what specific Benefits were being provided but rather what was the total cost of providing the Benefits expressed as a percent of payroll. Cities and CaIPERS experts agreed this is a sound methodology for comparing cities of different sizes. i5 See Appendix C Glossary for definition. 16 For a more detailed discussion of menu options, go to www.calpers.ca.gov. 7 Sensitivity to Expected ROI All Cities and all CaIPERS representatives interviewed consistently told us that somewhere between 65% and 70% of the money to pay for Benefits comes from the ROI of previously accumulated ARC payments. This cannot be emphasized enough. The Cities spoke to their burden in struggling to meet ARC obligations in light of budget constraints, but these ARC payments cover only about 30% of the amount necessary to cover the cost of providing these Benefits. A critical actuarial assumption is the expected ROI, which is currently assumed to be 7450% after expenses for pension. The actual average ROI over the last ten years has been 6.1% as depicted in Figure 1. The result of this underperformance is higher unfunded liabilities, lower funded ratios, and larger ARC payments (in particular, the Past Service Cost component of the ARC as discussed above). Discussion of San Jose's ROI included in this figure is deferred until later. I,. 120 100 _.... 80 — -- — —Actuarial Assumption Cumulative 60 _..... -.. SonloseSatety Cumulative Percent 40 _.. •�f ----SaNOSeFedcrated Cumulative 20 41.1 , 1 , — —CaIPERS Cumulative •.,,,•• I - -DIIA Cumulative 20 -40 M1eO,t0 o''ti 0.5 0'1 h o`o`° \ 17 '0 ,0 10 ,10 10 10 1 ,10 ,10 Figure 1: Actual Return on Investment Compared to Assumed and Dow Jones" CaIPERS lowered the assumed ROI from 7.75% to 7.5% at a March 14, 2012 meeting. Last year this same recommendation was rejected. This year, a 0.5% change was recommended and only a 0.25% change was approved. Table 2 below is excerpted from "Pension Math: How California's Retirement Spending is Squeezing the State Budget" written by Joe Nation from Stanford Institute for Economic Policy Research. i7 DJIA is calendar year and other data are fiscal year 8 Table 2: CaIPERS Return on Investment Analysis Investment rate probability of meeting CalPERtJupded o{7e3tt�Uti :rate ratio 9.5% 21.7% 95.1% 7.75% 42.1% 73.5 7.1% 50.7% 66.7% 6.2% 62.6% 58.3% 4.5% 80.9% 45.1% Two key points in Table 2 are: • According to this analysis, there is only a 42.1% chance of meeting or exceeding an assumed investment rate of 7.75% as highlighted in the table. It should be noted that the ROI assumption was recently reduced to 7.5%. • Dropping down to a more conservative 6.2% investment rate (still higher than the 6.1% average for the last ten years) is recommended by many leading economists and recognized financial experts. The corresponding funded ratio reduction would result in increases to unfunded liabilities and significantly higher ARC costs. Sunnyvale projects this modest CaIPERS-approved reduction of 0.25% in assumed ROI will increase its ARC by 2.3% of payroll for MISC employees and 3.8% of payroll for Public Safety employees, totaling nearly a $3M increase per year in ARC payments. As shown in Table 3, Sunnyvale's pension cost was just over $25M. So, a $3M increase represents a 12% increase. CaIPERS and pension experts we spoke with asserted that the cost of each additional 0.25% reduction in assumed ROI is not linear and warned extrapolating this cost increase would result in underestimating the total cost impact. Unfunded Liability & Funded Ratio Unfunded Liability is the unfunded obligation for prior benefits, measured as the difference between the accrued liability and plan assets. When using the actuarial value of plan assets, it is also referred to as the Unfunded Actuarial Accrued Liability (UAAL). In everyday language, it is the difference between the cost of the benefits already earned and the amount currently paid; it is the amount due. la As of June 30, 2011 9 Table 3: Unfunded liability for pension and OPEB for all large cities shows the total for these nine cities is nearly $7B Debt per :6Y 2010 Unfunded Liabilities(Not in Risk Pool)" Resident City Pension OPEB Total Santa Clara County $1,455,835,322 $1,300,000,000 $2,755,835,322 $1,547 Cupertino $18,581,728 $18,069,366 $36,651,094 $629 Gilroy $35,100,000 $4,900,000 $40,000,000 $819 Milpitas $70,166,975 $31,230,798 $101,397773 $1,518 Mountain View $104,121,296 $29,396,467 $133,517,763 $1,803 Palo Alto $153,941,000 $105,045,000 $258,986,000 $4,021 San Jose20 $1,434,696,471 $1,706,081,881 $3,140,778,352 $3,320 Santa Clara $223,667,947 $23,855,000 $247,522,947 $2,125 Sunnyvale $149,300,000 $92,800,000 $242,100,000 $1,728 Total $3,645,410,739 $3,311,378,512 $6,956,789,251 The Funded ratio is the market value of assets at a specified date, over the accrued actuarial liability as of the same date. While technically accurate, these definitions provide no insight into the causes of what have become large unfunded liabilities and correspondingly low-funded ratios. The Grand Jury learned from CaIPERS that the three primary reasons for unfunded liabilities are the following: • 70% of the unfunded liabilities is attributable to market performance • 15% of the unfunded liabilities is attributable to retroactive benefit enhancements • 15% of the unfunded liabilities is attributable to other actuarial assumption changes. The percentages shown above are "rule of thumb" values according to the CaIPERS representatives; individual City percentages will vary. Key Survey Results With the basic concepts of public pension benefits understood, the Grand Jury prepared a survey to gather information from the Cities. Survey responses and all supplemental data provided by the Cities were analyzed to answer the following questions: 19 Numbers reflect data provided in survey responses. 20 Excluding Mayor and Council Member Plan. 10 • What is the total amount of unfunded liabilities? • What is the total cost each year to provide Benefits and at what rate is the cost going up per year? • Why are OPEB funded ratios so low? • When were Benefit enhancements enacted and how do they impact unfunded liability? • What progress is being made to control escalating costs? • Why are public Benefits so different from private sector Benefits? • Do vacation, holiday and sick leave policies in the public sector differ from those that are commonly found in the private sector? Unfunded Liability (Large Debts) Table 3 tabulates the unfunded liability for both pension and OPEB for all large cities not belonging to a risk pool and shows the total unfunded liability for these nine cities is nearly $7B. Cities having fewer than 100 employees in a given pension plan (Campbell, Los Altos, Los Altos Hills, Los Gatos, Monte Sereno, Morgan Hill, and Saratoga) are not included because they belong either entirely or in part to a risk pool. CaIPERS currently does not provide this information to the Cities in the risk pool. Los Gatos and Morgan Hill, for instance, do not know their portion of a $3,515,314,403 unfunded liability associated with the Public Safety risk pool to which they belong. While Monte Sereno and Los Altos Hills did offer an approximation of their portion of the risk pool liability, CaIPERS representatives recommended against using the estimation and as a result are not included in Table 3. The Grand Jury has learned the Government Accounting Standard Board (GASB) is considering a policy change to require the Cities in the risk pool21 to report individual unfunded liability. Many Cities surveyed focused primarily on minimizing the ARC payments, the short-term cost due, as opposed to addressing the larger, endemic problem of its unfunded liability. This is problematic because minimizing ARC payments today at the expense of addressing the growing unfunded liability means shifting the costs to the future, hoping market improvements will solve the problem. If the market does not improve, taxpayers may face increased taxes or reduced services in the future. Using 2010 census data obtained from http://www.sccgov.orq together with the data in Table 3, it is possible to estimate the amount owed by each resident to pay down current Benefit debts in the Cities. For example, each resident of San Jose owes $3,320 to the city. As residents of the County, they also owe an additional $1,547 to the 21 See Appendix C Glossary for definition. 11 County 22 But while this would pay down the current debt and significantly reduce ARC payments, it does not guarantee staying out of debt going forward. High Cost of Benefits (ARC) . . . and Getting Higher The accumulated City cost of providing annual Benefits in FY2010 was $667,215,205 as shown in Table 4. While it is useful to know the annual cost of providing Benefits it is not possible to judge whether or not any City is paying a disproportionate cost due to the size variance of the Cites (large Cities are expected to pay more because they have more employees). For this reason, the Grand Jury chose to compare the Cities by expressing the ARC as a percent of payroll. Cities and pension experts agreed the Grand Jury's method of making this calculation was correct. That said, the same values shown in Table 4 are also shown in Figure 2 expressed as percent of payroll separating pension, OPEB and Social Security as applicable. Table 4: Countywide total cost of providing annual Benefits in FY2010 is$667,215,205 Social Securityu c C1ry r Pension Cost" a OPEB cosy- Cost - °< Total ;.0 Santa Clara County $235,630,042 $90,000,000 $65,136,430 $390,766,472 Campbell $2,728,302 $206,220 $2,934,522 Cupertino $1,841,350 $7,616,760 $9,458,110 Gilroy $4,900,000 $186,334 $5,086,334 Los Altos $1,842,949 $19,505 $1,862,454 Los Altos Hills $190,021 $203,000 $393,021 Los Gatos $2,958,209 $949,845 $3,908,054 Milpitas $7,164,473 $3,356,836 $10,521,309 Monte Sereno $125,713 $0 $37,863 $163,576 Morgan Hill $2,763,818 $15,119 $2,778,937 Mountain View $8,929,685 $4,376,387 $13,306,072 Palo Alto $19,964,080 $9,019,000 $28,983,080 San Jose $106,881,000 $34,147,000 $141,028,000 Santa Clara $20,257,754 $2,115,643 $3,494,639 $25,868,036 Saratoga $917,228 NA $917,228 Sunnyvale $25,300,000 $3,940,000 $29,240,000 Total $442,394,624 $156,151,649 $68,668,932 $667,215,205 22 Note these figures are per resident, not per household, and exclude an additional state pension liability all California residents bear,which is outside the scope of this report. 23 Many Cities, but not all, provided separable"sidefund'expenditures from ARC. 24 May include money spent over and above ARC payment. 25 Only MISC employees in Santa Clara County, Monte Sereno and Santa Clara participate in Social Security. 12 As shown in Figure 2, the cities of Campbell, Los Altos, Monte Sereno, Morgan Hill and Saratoga pay less than 20% of payroll towards Benefits while the remaining cities pay more than 20%. Cupertino, Palo Alto and Sunnyvale pay in excess of 30% of payroll towards Benefits. The survey results further indicated that Mountain View is noteworthy because it offers similar plans as Cupertino, Palo Alto and Sunnyvale but at lower cost to the city through cost sharing with employees who pay the entire employee contribution (8% for MISC and 9% for Public Safety) plus some negotiated portion of that city's cost in the range of 1.5% to 6.8% depending on job type. Cupertino, Palo Alto and Sunnyvale in contrast to Mountain View, pay some portion of the employee contribution with Sunnyvale contributing the most (7% of the required 8% for MISC employees and 8% of the 9% for Public Safety employees). Santoro x.Cfi . .r san lose . 5, AA,i k'lYi, gale n:to x`r nr xn xn ,a=.sa asan-I II . F` en:r„r e_r.efit MonP)prCOJ , . _Eml sxo.r p Nt■Pin= r t a 93i' tHG •i.Cl ores aenem ars Cato a is.;:.. Sa Sta qae CUr!v ''R [LW S.D] _U.O li9U EO.CL 2i00 ]9:00 SiW 8C p0 Percent of Payroll Figure 2: FY 2010 Benefit Ranking by Percent of Payroll 13 Comparing the Sunnyvale pension costs expressed in percent of payroll to Mountain View (same plans) demonstrates that employee contributions toward the cost of pensions is just as effective at keeping the cost under control as curtailing the level of pension benefits being offered. Mountain View actually compares favorably to other cities offering lower benefits. Table 5 summarizes the Cities' plan(s) and the amount contributed by employees. For those Cities that elected to participate in Social Security (MISC employees in the City of Santa Clara, Santa Clara County and Monte Sereno), the cost to the city has been added to reflect the total amount the city is paying toward employee Benefits. The survey responses conveyed how much pension and OPEB were expected to rise during the next five to ten years. Most Cities responded using projections from the latest actuarial valuations, which estimate contributions as a percentage of payroll rather than in dollars. In the case of pension, these valuations are performed by CaIPERS and in the case of OPEB, the valuations are performed by an actuary firm under contract to the City. All Cities' Benefits costs are trending up, in spite of optimistic assumptions regarding the ROI that has been shown to be of paramount importance. Projected San Jose cost increases are discussed separately in subsequent sections. Unfunded Retroactive Pension Benefit Enhancements When a City amends its contract with labor unions to increase the pension formula (e.g., 2% @ 55 to 2.5% @ 55) the increased benefits apply retroactively to all prior years of service. The retroactive application of the increase results in an increase in the unfunded liability and requires an increase in ARC payments by the City. The reason for the increase in ARC payments can be illustrated by this example: Assume an employee has worked for twenty-five years and has paid into the system all those years. The City leaders now approve a retroactive benefit enhancement without funding the retroactive period. Immediately the employee and employer have effectively underpaid for the enhanced unfunded benefits portion for the previous twenty-five years. The difference between what was actually paid and what should have been paid to provide the enhanced benefit adds to unfunded liability, which increases ARC payments. This is now a new liability to the taxpayer. In question three of the Grand Jury questionnaire (Appendix B), Cities were asked to list any significant pension benefit changes that have been made over the past ten years. Table 5 summarizes the responses received by the Grand Jury. As the table shows, most Cities have increased pension benefits within the last ten years. When asked how much these benefit increases changed Unfunded Liability, most cities provided the CaIPERS provided answer of 15%. However, Cupertino stated that benefit changes are responsible for 26% of their Unfunded Liability and the City of Santa Clara cited 24.6%. 14 Table 5: Pension Benefit Plan Changes 1st Tier Plan and Tier Plan Employee Paid Employee Name of City/County Year Contribution Plan year Paid of Original Plan Benefit Increase Fy 3011(Per Name Adopted Contributio increa urvey se Responses) County of Santa Clara 2007 MISC 2%@55 MISC to 2.511P55 5%3.931 to 5% None Public Safety to County of Santa Clara 2001 Public Safety 2%@50 3%@50 0.5 to 9% None MISC Campbell 2002 MISC 2%@55 MISC to 5%2525 7% 2%@60 2011 7% Public Public Safety to Safety Campbell 2001 Public Safety 2%@50 3%@50 8% 2%@50 2010 9% Cupertino 2007 MISC 2%@55 MISC to 2.7%@55 2% None Gilroy 2006 MISC 2%@55 MISC to 2.5%@55 8% None Police Gilroy 2002 Police 2%@50 Police to 3%@50 9% 2%@50 2011 9% Fire Gilroy 2007 Fire 2%@50 Fire to 3%@55 9% 2%@55 2011 7% Los Altos 2004 MISC 2%@55 MISC to 2.7%@55 1% None Public Safety to Los Altos 2003 Public Safety 2%@50 3%@50 1% None • MISC Los Altos Hills' MISC 2%@55 None 0% 2%@60 2011 7% Los Gatos 2008 MISC 2%@55 MISC to 2.5%@55 8% 2%@60 2012 7% Public Safety Public Safety to Los Gatos 2001 2.5%@55 3%@60 9% None Milpitas 2002 MISC 2%@55 MISC to 1.7%(655 8% 2%@60 2011 9% Public Safety to Milpitas 2000 Public Safety 2%@50 3%@50 9% None No pension Monte Serena' MISC 2%@55 benefit changes 0% None Morgan Hill 2006 MISC 2%@55 MISC to 2.5%/655 1-8% None Public Safety increase I Morgan Hill 2002 Public Safety 2%@50 3%@50 9% None MISC increase to Mountain View 2007 MISC 2%@55 2.7%@55 8%+ None Public Safety increase to Mountain View 2001 Public Safety 2%@50 3%@50 9%+ None MISC increase to Palo Alto 2007 MISC 2%@55 2.7%@55 2%-5.7% 2%@60 20101 2% Public Safety increase to Palo Alto 2002 Federated 3%@50 0%9% None San lose Federated 25%@55 4.68% None San lose Public Safety 3%@50 10.50% None MISC increase to Santa Clara 2006 MISC 2%@55 2.7%@55 8% None Public Safety to Santa Clara 2000 Public Safety 2%@50 3%@50 9%11.25% None No pension Saratoga' 2%@SS benefit changes 7% I None MISC increase to Sunnyvale 2007 MISC 2%@55 2.7%@55 1% None Public Safety increase to Sunnyvale 2001 Public Safety 2%@50 3%@50 1%-3% None •These cities contract out for public safety services,avoiding a direct benefit liability. 15 Cities told the Grand Jury that as recently as 2003, and in 2007 for Campbell and Los Altos Hills, their plans were over funded. Assuming this trend would continue, Cities thought they could enhance Benefits without significantly increasing their costs. Analysis was performed to prove the enhancements could be funded. In hindsight, this did not prove to be the case because the analysis assumed the optimistic ROI would be achieved. The County and a few of the cities attempted to recover some of the increased cost by increasing the employee paid contributions and by eliminating previously enhanced menu options. The Grand Jury learned that in some cases adequate funding was not in place to pay for the enhanced pension benefits at the time they were granted. Without solid plans to fund increases in pension benefit plans, Cities pushed the impact of these increases to future generations of taxpayers. Nearly every City demonstrated an historical pattern of granting unfunded benefit enhancements as discussed here. This practice is beginning to change with the adoption by a few cities of second tier26 plans that extend retirement age and reduce Benefit costs. Table 5 shows that eight cities have adopted second tier plans. Other Cities may be in the process of adopting second tier plans but cannot report this fact because of ongoing union negotiations. Note that all new second tier plans continue to be the defined benefit type; none have adopted any form of defined contribution elements. While the creation of second tier plans will reduce the cost of providing pension benefits 27 these savings will not materialize for many years. All risks associated with market losses remain with the Cities, and ultimately the taxpayers. Increasing employee contribution rates, subject to labor agreements, is the most effective method of controlling cost in the shortest amount of time. Low OPEB Funded Ratios As shown in Table 6, OPEB-funded ratios are low. These OPEB low-funded ratios and corresponding high unfunded liabilities are of concern to the Grand Jury. Cities are required to "pay forward"28 for pensions, but not for OPEB. As a result, many cities only pay the minimum required to cover the current annual OPEB cost; no extra is paid to defray the cost of all current employees when they retire. The Cities referred to this as the "pay-as-you-go" strategy and results in very low-funded ratios—even zero percent. This strategy has resulted in San Jose's OPEB being $1,706,081,881 underfunded (refer back to Figure 2 for a comparison of San Jose's underfunded status relative to other cities and the County) 26 See Appendix C Glossary for definition. 27 At the time of this report, the Grand Jury is not aware that Cities are considering OPEB changes in second tier plans. 28 See Appendix C Glossary for definition. 16 Table 6: OPEB Funded Ratio FY 2010'00E61 City Funded Ratio" Santa Clara County 10.10% Campbell 4.00% Cupertino30 0% Gilroy 0% Los Altos 0% Los Altos Hills 23.40% Los Gatos 2.70% Milpitas 24.13% Monte Sereno 0% Morgan Hill 0% Mountain View 55.90% Palo Alto 19.00% San Jose31 12.00%/6.00% Santa Clara 22.80% Saratoga N/A Sunnyvale32 0% Mountain View, Sunnyvale and Cupertino are commended for having begun to implement a "pay forward" strategy, which demonstrates fiscal responsibility. One San Jose public official interviewed stated that the reason San Jose was not fully funding OPEB is that it could not be done without significant curtailment of services, effectively shifting the burden of payment to future generations. Public Benefit Comparison to Private Sector Benefits To put pubic employee Benefits into perspective, consider the average pension for Public Safety employees in Palo Alto retiring between the ages of 51 and 54 with 30 years of service is $108,000. In Sunnyvale, the same employee receives almost $102,000 per year. The most common pension plans offered to public employees who spend their entire career in the public sector not only discourage employees from 29 Some 2010 data is derived from 2009 Actuarial Valuations 3° In 2010 and 2011 the city made payments of nearly$6.5M in excess of ARC to bring this up to 35.6% 31 San Jose has separate OPEB funds for its employees 32 In 2011 the city paid $32M in excess of ARC but impact on funded ratio has not yet been determined via actuarial evaluation 17 continuing to work beyond the age of 50 or 55, they penalize them for doing so. The CaIPERS reported average pension of under $30,000 per year is misleading because it fails to recognize persons who receive multiple pensions. The Grand Jury learned that some employees actually earn more in retirement than they did while employed. Further, the ratio of active employees to retirees was found to be three to two.33 With budget constraints leading to staffing reductions and as the baby boom generation approaches retirement age, this ratio is expected to continue downward, placing additional financial burdens on the Cities. Public benefits are overwhelmingly of the defined benefit type (refer to Appendix C for the differences between defined benefits and defined contributions). While some private sector companies continue to offer defined benefits, the clear trend in the private sector is to transition away from defined benefits in favor of defined contributions, thereby transferring the risks associated with market performance from the employer to the employee. An additional advantage of the defined contribution is that it leads to less volatile City budgets over time because the cost of providing benefits is constant, not varying over time to compensate for market performance. Determining in any meaningful way what might be considered "standard" private sector benefits for the purposes of comparing to public sector was clearly outside the scope of this investigation. That said, Bureau of Labor Statistics surveys show the majority of private pensions include participation in Social Security and a defined contribution plan such as a 401k. The employee and employer each contribute 6.2% of salary (currently up to $110,100 in salary) per year, to pay for Social Security benefits. While the particulars of 401k plans vary widely, the surveys show that the majority of employees receive some form of matched savings plan described as follows. For every dollar the employee contributes to their own 401k, the employer will contribute some amount: 50 cents or less for most employees. Employees may be limited to the amount they can contribute and employers limit the amount they contribute by specifying that employer contributions cannot exceed a set percent of salary: four percent or less for most employees. As described, the majority of private sector employees contribute more than 50% of the total cost toward their own pensions (exactly 50% in the case of Social Security and greater than 50% of the 401k since an employer only contributes a portion of every dollar the employee contributes). Using 65 as a traditional retirement age, the differences between public and private benefits are summarized in Table 7. The Grand Jury reviewed the survey results and observed the following for all first tier plan employees: • All Public Safety employees, except Gilroy fire,34 qualify for full retirement benefits no later than age fifty (assuming at least five years of service) 33 Half the Cities surveyed currently have more retirees than employees. 30 Gilroy fire receives the same at age fifty-five rather than age fifty. 18 • All Public Safety employees, except Gilroy fire,35 with thirty years of service credit receive no less than 90% of their salary in retirement, not considering annual COLA increases • All MISC employees qualify for retirement benefits no later than age fifty-five (assuming at least five years of service) Table 7: Sample comparison of MISC Public versus Private Benefits" Attributes T*4' Public" =Yx4 s Private1s Percent of salary contributed by employee 7-8% 14- 16% toward Benefits Age pension may be drawn without an age- 55 65 related reduction in eligible amount Employee contribution for every dollar of 50¢39 $1.40d0 employer contribution Retirement Income expressed as a percent of 87.5% 66%41 salary (assuming the retiree reaches full plan benefit age and works 35 or 45 years, respectively) Who bears the risk if market underperforms? Taxpayer Employee Is subsidized retiree healthcare available? Generally Yes Generally No • The majority42 of MISC employees who work 35 years receive 87.5% of their salary in retirement before annual COLA increases. 38 Gilroy fire receives the same benefits at thirty-five years service rather than thirty years. 38 The table is intended for comparison; it is not representative of all situations. 3' Represented by participant in 2.5%@55. 38 Represented by participant in Social Security and 401k Savings plan where employee contributes 8% salary and employer matches 50 cents per dollar. 39 Based on CaIPERS data for 2011. Actual varies by city; can be as high as 50C or as low as 5C. d0 Based on the Bureau of Labor statistics. 41 This number assumes a$750K in retirement savings. 42 Los Altos Hills, Monte Sereno and Saratoga are exceptions receiving 70% of salary. 19 In consideration of these statistics, and as shown in Table 7, the Grand Jury concludes: • Full pension is attained at an earlier age in the public sector than in the private sector— some by ten years or more • Pension earned, expressed as a percentage of salary, is greater in the public sector than in the private sector even after adjustment to account for non- participation in Social Security • Employees in the public sector contribute less towards their pension plans than their private-sector counterparts • Taxpayers in the public sector bear the risk of ROI and actuarial assumptions associated with the pension plan, whereas employees in the private sector bear the risk of market performance. The Grand Jury acknowledges wages and salaries are a large portion of Cities' budgets, and when salaries escalate this further exacerbates budget shortfalls. It may be asserted that public sector salaries are lower than their private sector counterparts, thus, justifying more generous public benefits. Readers can explore whether this assertion is true by accessing publically available salary data. Accrued Sick Leave Can Be Reimbursed In general, the survey revealed no significant differences between the Cities in regard to holiday, vacation and sick leave policies. However, it is noted that all Cities surveyed except Gilroy, Monte Sereno, and Sunnyvale either reimburse for accrued unused sick time or permit it to be converted into service time for purposes of determining pension. Often reimbursement is at discounted rates and other times the amount of sick time that can be accrued is capped. Gilroy, Monte Sereno and Sunnyvale responded "No" to the survey question asking if accrued sick time is paid upon retirement, without proffering whether or not it could be converted into service time. However, the Grand Jury learned that sick time conversion to service credit is a common CaIPERS benefit for all members of risk pools. The survey revealed that the City of Santa Clara grants fire personnel on 24-hour shifts 288 hours of sick leave per year. Up to 96 hours per year can be accrued and paid (discounted to 75% of their hourly wage equivalent) for employees with 25 or more years of service. San Jose's Plan San Jose is the only city that does not use CaIPERS to provide pension benefits (with the exception of the Mayor and Council members who get benefits in accordance with CaIPERS 2%@55 plan). San Jose public employees have two independent plans: Federated and Public Safety. Federated Plan members are equivalent to those in a CaIPERS Miscellaneous Plan. Public Safety members (police and fire) in San Jose are 20 identical to Public Safety members in other Cities. The San Jose Federated and Public Safety plans share commonality with CaIPERS 2.5%@55 and 3.0%@50 respectively with the following key differences: • COLA is a guaranteed 3% compared to CaIPERS' not-to-exceed 2% • Employee-to-employer contribution ratio of three to eight (3:8) • Money is invested and managed by the two governing Boards (the Federated Plan Retirement Board and the Public Safety Retirement Board) rather than by CaIPERS, and San Jose performs its actuarial valuations independent of CaIPERS • San Jose participates in a Supplemental Retiree Benefit Reserve (SRBR) program. Each of the major differences cited above is discussed in more detail below. 3% Guaranteed COLA San Jose provides a guaranteed 3% COLA increase every year compared to a CaIPERS base COLA which is not to exceed an accumulated 2% per year".43 The Grand Jury is unable to quantify the additional cost of increasing COLA. As mentioned previously, CaIPERS does provide menu options for increased COLA (including 3%), but no other Cities have opted for this increase, citing cost as a reason. Three-to-Eight (3:8) Employee Contribution Ratio For every eight dollars San Jose spends on the Normal Cost of providing benefits (excluding the Past Service Cost portion of benefits that the employer pays entirely44) employees contribute $3-dollars. This differs substantially from CaIPERS, which sets employee contribution as a percent of salary between 7% and 9% depending on the plan. As noted in Table 5, many Cities pay much of the employee contribution on behalf of the employees, further complicating any comparison. As noted in Methodology, the Grand Jury is reluctant to interpolate the data provided. The San Jose survey response shows that Federated employees pay 4.68% (of payroll) toward pension, which compares to CaIPERS' MISC plan at 8%. San Jose's Public Safety employees pay approximately 10.5% (of payroll) toward pension, which compares to CaIPERS' Public Safety plan at 9%. 43 As a function of inflation, CaIPERS COLA has a clause protecting retirees from losing more than 20% of their buying power in retirement which could result in increases greater than 2%. When CPI is less than the 2% promised, CaIPERS COLA also entails "banking' of COLA as unneeded credits that can be applied when CPI is greater than 2%. This results in annual COLA increase in excess of 2%when the CPI exceeds 2%. 44 The ratio of Past Service Cost to Normal Cost(expressed in Percent Payroll)for Federated and Public Safety are: 15.58/12.76 and 22/27 respectively 21 From a cost perspective, there is insufficient data to determine if the 3:8 ratio results in net savings or increased cost to San Jose, compared to the CaIPERS plan. However, excluding Past Service Cost from any form of employee cost sharing does result in San Jose paying a higher portion of the cost of providing Benefits. Self-Managed Investing The Federated and Public Safety Boards independently manage approximately $2B in assets each (approximately $4B total). Both currently assume a 7.5% ROI, similar to the recently adopted CaIPERS ROI. As with CaIPERS, these investment returns are expected to pay the majority of the costs for providing benefits. It is critical, therefore, to compare the actual investment performance to what is actuarially assumed, and it is useful to compare San Jose's investment performance to CaIPERS. As was shown in Figure 1, both Federated and Public Safety ROI for the last ten years has been below the actuarial assumptions but slightly better than what CaPPERS did in the same time period. San Jose did not provide ROI data for 2011. The DJIA is shown in the figure for comparison purposes and is intended to show that both San Jose and CaIPERS outperformed the general market (represented by DJIA) by a wide margin, yet still fell below the optimistic actuarial assumptions so critical to economic viability. The largest advantage of managing one's own plans would seem to be the added flexibility it affords the city in tailoring retirement formulas to meet the needs and means of the city. Although there is little evidence the city is using this advantage in the current first tier plans (as noted, San Jose plans are both very similar to CaIPERS plans offered), this advantage may be utilized if and when second tier plans are developed. Supplemental Retiree Benefit Reserve ISRBR) Recall from Table 3 that the combined pension unfunded liability for both the Federated Plan and the Public Safety Plan is $1,434,696,471. As has already been discussed and demonstrated, the largest single contributor to this is when the achieved ROI falls short of the actuarially assumed ROI. With this in mind, it is difficult to comprehend how responsible financial management would allow withdrawal of any portion of excess ROI whenever the market actually does out-perform the expected rate to be used to pay dividends in the form of an additional "thirteenth checki4 to retirees. But this is exactly what the SRBR does. In the case of the Federated Plan, the market must only exceed the expected rate in a single year to permit withdrawal of a portion of the excess ROI for that year. For the same thing to happen in the Public Safety plan, the running five-year average must exceed the expected return rate to permit withdrawal. 45 Generally, a windfall dividend payment. 22 It should be noted that San Jose has temporarily suspended the SRBR payouts. Although San Jose has suspended payouts, the funds remain in the account and San Jose has not used the payout to pay down its underfunded liability. In fact, the suspension merely delays eventual payment to retirees in the form of even larger "thirteenth checks." A better use for these excess funds might be to retain them to pay down the underfunded Benefits, as long as an underfunded liability exists. Why Such Variance with Estimated Future Benefit Costs? Much has been written regarding the predicted ARC cost for San Jose in FY 2015/2016. Published estimates vary in the range of$400M to as much as $650M. The latter figure represents a more than doubling of the current ARC of $245M per year—a rate of increase not seen in any of the other Cities. The Grand Jury interviewed several key personnel associated closely with these predictions to determine why there is so much variability in the estimates. In particular, the Grand Jury wanted to answer the following questions: • Were these predictions based on sound, factual data? • Does $650M represent a worst case number or could it be higher? The Grand Jury learned that a large set of assumptions factor into any actuarial valuation and many of these assumptions have complex interdependencies with one another. The actuarial valuation itself is a rigorous, precise mathematical calculation based upon these assumptions. The ARC value can vary, from 400M to $650M or higher, when assumptions are adjusted. Just two of those actuarial assumption changes, by themselves, account for $120M of the $250M difference between the high and low estimate. These two assumption changes are: • Longer life expectancy of Public Safety employees46 than previously assumed • Lower ROI rate. Key personnel associated with making actuarial predictions gave an example where increasing the life expectancy of police and fire to be closer to the life expectancy of miscellaneous employees would increase the cost by approximately $40M. This is a reasonable assumption change to consider since it reflects demographic changes that CaIPERS also has begun to reflect. In another assumption query, if the ROI were 46 CaIPERS has been recognizing this trend and several Cities cited this as being a contributor to unfunded liability 23 lowered by a whole percentage point to 6.5%, more in line with actual ROI for the last ten years, this would contribute an additional $80M to the cost of ARC. Importantly, the rationale for exploring a lower ROI was not to bring it into agreement with recent earnings history, but to move San Jose's portfolio from one of high risk and high volatility to a position of low risk and low volatility. The $650M per year cost estimate is not a worst case number. Pension experts the Grand Jury interviewed stated that other actuarial assumption changes, within reason and easily justified, would result in ARC costs even higher than $650M per year. The Grand Jury understands that exploring these actuarial assumptions is justified. They help bring attention to the severity of the Benefits crisis and abate the trend of pushing financial problems to future generations of taxpayers. Conclusions Very optimistic actuarial assumptions result in lower ARC costs, leading to insufficient funding and causing unfunded liabilities. The most critical of these is the ROI, which is generally assumed to be 7.5%47. The actual ROI for the last ten years has been 6.1%. This underperformance is the largest contributor to the Cities' combined unfunded liability of over $7B. Future taxpayers are responsible for paying benefits that are being earned and collected today. Lowering the expected ROI—as recommended by leading economists and recognized financial experts—significantly increases ARC and further exacerbates attainment of balanced budgets. Public employee Benefits, especially after being enhanced retroactively, have been shown to be more generous than those found in the private sector and at an earlier retirement age. The amount a public employee contributes toward benefits is shown to generally be less than an employee in the private sector. As a result of lower public employee contribution rates toward their retirement, increasingly large ARC costs must be funded by taxpayer dollars. Ignoring this largesse will result in increased taxes combined with reduced services. Average pensions are often cited in the range of $30,000, but these statistics can be misleading. For instance, they include persons whose careers lasted five years or part- time employees with longer service periods. Likewise, it can include employees who work an entire career in the public sector but for different public entities over the course of their careers. Each city that the employee worked for pays only its pro-rated portion of the retirees pension. Thus, the employee's actual pension is larger than the portion attributable to each public entity. Tier 2 plans that Cities are implementing offer a modest reduction to the future liability, but do not significantly impact the unfunded liability in the short term. To address the short-term cost of the public Benefit crisis, possible solutions may be found in two "'Some OPEB ROI are at lower values. 24 elements of private sector benefits. The first is the need to reduce the level of benefits to be more comparable to those found in the private sector, inclusive of extending retirement age. Second, public employees must contribute a greater share towards their Benefits, particularly those employees who receive enhanced Benefits. Such solutions will reduce the burden the unfunded Benefits have placed upon current and future taxpayers. As to the question of defined benefits versus defined contributions, public Benefits continue to be based on a defined benefit model versus the defined contribution model that private industry has moved toward. The defined contribution model works well in the public sector. It offers a working solution to the public sector as a means of reducing the risk of high-cost defined benefit plans. Benefit plans are heavily subsidized by pubic sector employers compared to the contributions of private sector employers. The Grand Jury concludes that until significant modifications are enacted, there is no doubt that the escalating cost of providing Benefits at the current level is interfering with the delivery of essential City services and the ultimate cost to the taxpayers is an unbearable burden. These costs are already impacting delivery of essential services as demonstrated by San Jose reducing police and fire department staffing levels, closing libraries or not opening those newly built, curtailing hours of community centers, and not repairing pot-holed city streets. Other cities in the County are likely to face similar challenges as long as high cost benefit plans face an underfunding liability. Understanding how Cities created this problem through unfunded retroactive benefit enhancements, compounded by poor ROI, helps taxpayers understand that the problem will not go away on its own. 25 Findings and Recommendations When the term Cities is used below, it includes the following: Santa Clara County; the cities of Campbell, Cupertino, Gilroy, Los Altos, Milpitas, Monte Sereno, Morgan Hill, Mountain View, Palo Alto, San Jose , Santa Clara, Saratoga, Sunnyvale; and the towns of Los Altos Hills and Los Gatos. Finding 1 Public sector employees are eligible for retirement at least 10 years earlier than is common for private sector employees. Recommendation 1 The Cities should adopt pension plans to extend the retirement age beyond current retirement plan ages. Finding 2 Campbell, Gilroy, Los Altos Hills, Los Gatos, Milpitas and Palo Alto have adopted second tier plans that offer reduced Benefits, which help reduce future costs, but further changes are needed to address today's unfunded liability. Santa Clara County and the cities of Cupertino, Los Altos, Monte Sereno, Morgan Hill, Mountain View, San Jose, Santa Clara, Saratoga and Sunnyvale have not adopted second tier plans. Recommendation 2A Santa Clara County and the cities of Cupertino, Los Altos, Monte Sereno, Morgan Hill, Mountain View, San Jose, Santa Clara, Saratoga and Sunnyvale should work to implement second tier plans. Recommendation 2B For Gilroy, Los Gatos, Milpitas and Palo Alto, which have not implemented second tier plans for MISC and Public Safety second tier plans should be implemented for both plans. Recommendation 2C All Cities' new tier of plans should close the unfunded liability burden they have pushed to future generations. The new tier should include raising the retirement age, increasing employee contributions, and adopting pension plan caps that ensure pensions do not exceed salary at retirement. 26 Finding 3 Retroactive Benefit enhancements were enacted by Cities using overly optimistic ROI and actuarial assumptions without adequate funding in place to pay for them. Recommendation 3 The Cities should adopt policies that do not permit Benefit enhancements unless sufficient monies are deposited, such as in an irrevocable trust, concurrent with enacting the enhancement, to prevent an increase in unfunded liability. Finding 4 The Cities are making an overly generous contribution toward the cost of providing Benefits. Recommendation 4A The Cities should require all employees to pay the maximum employee contribution rate of a given plan. Recommendation 4B The Cities should require employees to pay some portion of the Past Service Cost associated with the unfunded liability, in proportion to the Benefits being offered. Finding 5 The Cities are not fully funding OPEB benefits as evidenced by large unfunded liabilities and small funded ratios. Recommendation 5 The Cities, should immediately work toward implementing policy changes and adopting measures aimed at making full OPEB ARC payments as soon as possible. Finding 6 The City of San Jose permits the transfer of pension trust fund money, when ROI exceeds expectations, to the SRBR, despite the fact that the pension trust funds are underfunded. 27 Recommendation 6 The City of San Jose should eliminate the SRBR program or amend the SRBR program to prevent withdrawal of pension trust money whenever the pension-funded ratio is less than 100%. Finding 7 The Cities' defined benefit pension plan costs are volatile. Defined contribution plan costs are predictable and therefore more manageable by the Cities. Recommendation 7 The Cities should transition from defined benefit plans to defined contribution plans as the new tier plans are implemented. 28 Appendix A: Documents Reviewed Report Report Name Date Document Source Santa Clara County Comprehensive Annual Financial Report(CAFR) 30-Jun-10 www.sccgov org/ Santa Clara County Comprehensive Annual Financial Report(CAFR) 30-Jun-11 www.sccgov.org/ City of Campbell CAFR 30-Jun-10 www.cicampbell.ca.us/ City of Campbell CAFR 30-Jun-11 www.ci.campbell.ca.us/ City of Cupertino CAFR 30-Jun-10 cupertina.org/ City of Cupertino CAFR 30-Jun-11 ww ertina.argi City of Gilroy CAFR 30-Jun-10 www.citvofgilray.org/ City of Gilroy CAFR 30-Jun-11 www.cityofgilroy.org/ City of Los Altos CAFR 30-Jun-10 www.cflos-altos.ca.us/ City of Los Altos CAFR 30-Jun-11 www.ci.los-altos.ca.us/ Town of Los Altos Hills CAFR 30-Jun-10 ww.losaltoshills.ca.g0v[ Town of Los Gatos CAFR 30-Jun-10 www.town.los-gatos.ca.gl City of Milpitas CAFR 30-Jun-10 miloitas.ca.gov/ City of Monte Sereno CAFR 30-Jun-10 Monte Serena city hall City of Morgan Hill CAFR 30-Jun-10 www.morgan cagov/ City of Morgan Hill CAFR 30-Jun-11 www.morgan-hill ca.gov/ City of Mountain View CAFR 30-Jun-10 www.ci.mtnview.ca.us/ City of Mountain View CAFR 30-Jun-11 www.ci.mtnvlew-ca.us/ City of Palo Alto CAFR(Revised December 21,2010) 30-Jun-10 www.cityofpaloalto-orr/ City of San Jose CAFR 30-Jun-10 www.sanioseca.gov/ City of Santa Clara CAFR 30-Jun-10 www.santaclaraca.gov/ City of Saratoga CAFR 30-Jun-10 wwwsarato:a-ca.us City of Sunnyvale CAFR 30-Jun-10 www.sunnyvale.ca.gov/ Pension Sustainability:Rising Pension Costs Threaten the City's Ability to Maintain Service Levels-Alternatives For A Sustainable Future 29-Sep-10 wwwsanioseca.gov/auditor Cities Must Rein in Unsustainable Employee Costs(Santa Clara http://www.scscourcorg/court divisions/civil/cpi/grand lury. County Grand Jury Report) 30-Jun-10 shtml Running on Empty(San Mateo County Grand Jury Report) 30-Jun-11 wwwsanmateocourtorg/court divisions/grand jury/ National Compensation Survey:Employee Benefits in Private Industry in the Untited States,2005 1-May-07 www.bls.gov/ncs/home.htm A Preliminary Analysis of Governor Brown's Twelve Point Pension Reform Plan(Prepared by CaIPERS) 30-Nov-11 www.calpers-ca.gov/eip-dots/preliminary-analysis pdf CalPers Pension Benefit Primer 1-Oct-09 www.calpersresponds.com/downloads/Pension Primer.pdf More Pension Math:Funded Status,Benefits,and Spending Trends for California's Largest Independent Public Employee Pension Systems 21-Feb-12 www.cats.org/images/dynamic/articleAttachments//.pdf Statement No.45 of the Governmental Accounting Standards Board 30-Jun-04 Santa Clara County Finance Agency 29 Appendix B: Grand Jury Survey Instructions: Please complete the questions below. The questionnaire consists of three sections: Section 1 covers questions regarding Pension Benefits, Section 2 covers questions regarding Other Post Employment Benefits and Section 3 covers questions regarding vacation and sick leave payout policy at time of retirement. Insert your responses directly into this file and return it in your email reply. Please respond by Dec 19th to this questionnaire for both the fiscal year ending 6-30-2010 and the fiscal year ending 6-30-2011. If you have questions or require additional time, please reply via email as quickly as possible to allow sufficient time to resolve issues. Thank you. Section 1: PENSION 1. How many defined pension plans do you have? Please identify them by name and answer all subsequent questions for each identified plan name. 2. Does CaIPERS administer your pension fund?If not, please identify and describe the manner in which the pension plan is being administered. 3. Please provide a description of each defined pension plan that you provide to your employees. • At what age is an employee eligible for a pension? • How many years must an employee work to be vested for a pension? • Are employees required to make contributions to their own accounts? If so,what percent of their salary is paid toward their pension? Is there any annual or lifetime employee contribution cap? • Does the plan include cost-of-living allowance increases post retirement? 4. For each identified plan,what percent of an employee's income is earned toward retirement each year of employment? • For each identified plan,is there an identified maximum salary percent cap that can be earned in retirement? 5. Do plan participants contribute to Social Security? 6. For each identified plan,describe the formula for determining final compensation used in hctoring a retiree's pension.Include number of months that income is averaged,whether or not overtime is included or excluded from this calculation,and whether or not any other form of employee payments other than base salary are included in the formula(awards,bonuses,travel compensation,etc.). 7. How much money was contributed in each of the last two fiscal years toward pensions(not including employee contributions)? • What percent was this of total payroll? 8. How much pension money was paid out in each of the last two fiscal years to retirees? • How many retired employees are currently collecting benefits? • How many active employees are there currently? • How many employees are within five years of being eligible for retirement? 9. For each plan, please identify and quantify all significant actuarial assumptions used in evaluation of ARC to include: a) Amortization period b) Investment rate of return c) Projected salary increases d) Overall payroll growth e) Inflation factor f) Smoothing duration g) Other,if applicable 10. What is the unfunded liability of each identified plan for the fiscal years 2010 and 2011? 11. Please indicate the major reasons for the unfunded liability. For each reason provided, indicate the approximate percentage of contribution to total unfunded liability. 12. What is the funded ratio of each identified plan for the fiscal years 2010 and 2011? 13. When was the last time the funds have been funded at the level of 100%or higher? 14. Have pension contributions ever been reduced from calculated ARC payments? • What year was the last time this happened? 15. Please summarize any significant changes to pension benefits over the last ten years for each plan. • For each, indicate if this was a pension benefit enhancement or reduction. 16. Please provide any evidence that indicates how projected pension costs are expected to change in the next 5 to 10 years.(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) 30 Appendix B: Grand Jury Survey - continued 17. Please provide any evidence of the strategies that are in work to reduce the rate of pension escalation.(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) 18. For each plan, please provide evidence as to how pension fund past performance is doing relative to assumed performance for the last ten years.(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) Section 2: OTHER POST EMPLOYMENT BENEFITS 1. How many defined benefit plans do you have?Please identify them by name and answer all subsequent questions for each identified plan name. 2. Does CaIPERS administer your OPEB fund?If not,please identify and describe the nature of the OPEB benefit plan being used. 3. Please provide a description of the OPEB benefits to include: • At what age is an employee eligible for a OPEB benefits? • How many years must an employee work to be vested for a OPEB benefits? • Are employees required to make contributions to their own OPEB benefits? If so,how much? • Are OPEB benefits limited to employees only or do they include additional family members? Identify any additional family members qualifying for OPEB benefits. 4. Is OPEB generally offering health care benefits(defined benefit)or is it making contributions (defined contribution)toward health care? • Are there caps in what is paid? • Who is at risk for escalating health costs;the employee or the employer? 5. How much money was contributed in each of the last two fiscal years to OPEB(not including any employee contribution)? • What percent of total payroll cost was this? 6. How much money was paid out in each of the last two fiscal years in OPEB benefits? • How many retired employees are currently collecting OPEB benefits? • How many current employees are there?(If the number of current employees is different here than provided above,please explain the difference.) 7. Please identify and quantify all significant actuarial assumptions used in evaluation of ARC to include: a) Amortization period b) Investment rate of return c) Projected health care increases d) Inflation factor e) Smoothing duration f) Other,if applicable 8. What is the OPEB unfunded liability of each identified plan for the fiscal years 2010 and 2011? 9. Please indicate the major reasons for the unfunded liability. For each reason provided,indicate the approximate percentage of contribution to total unfunded liability. 10. What Is the funded ratio of each Identified OPEB plan for the fiscal years 2010 and 2011? 11. When was the last time the funds have been funded at the level of 100%or higher? 12. Have OPEB contributions ever been reduced from calculated ARC payments? • What year was the last time this happened? 13. Please summarize any significant changes to OPEB benefits over the last ten years. For each, indicate if this was a benefit enhancement or reduction. 14. Please provide any evidence that indicates how much OPEB benefit costs are expected to rise In the next 5 to 10 years.(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) 15. Please provide any evidence of plans that are in work to reduce future OPEB costs?(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) 16. Please provide any evidence as to how OPEB fund past performance is doing relative to assumed performance?(Page referencing within an included URL or separate attachment with appropriate material is an acceptable response.) 31 Appendix B: Grand Jury Survey - continued Section 3: VACATION AND SICK LEAVE ACCRUAL POLICIES I. Please describe vacation policy to Include: • How many vacation days are granted at what seniority levels? • Is there any limit to the amount of vacation time that can be accrued? • Is unused vacation paid upon retirement? 2. Please describe sick leave policy to include: • Is there any limit to the number of sick days allowed per year? • Is there any limit to the amount of sick days that can be accrued? • Are unused sick days paid upon retirement? 32 Appendix C: Glossary of Terms & Acronyms Actuarial Assumptions: Assumptions representing expectations about future events (e.g. expected investment returns on plan assets, member retirement and mortality rates, future salary increases, or inflation) which are used by actuaries to calculate pension liabilities and contribution rates. Actuarial Valuation: Technical reports conducted by actuaries that measure retirement plans' assets and liabilities to determine funding progress. They also measure current costs and contribution requirements to determine how much employers and employees should contribute to maintain appropriate benefit funding progress. Actuary: Professionals who analyze the financial consequences of risk by using mathematics, statistics, and financial theory to study uncertain future events, particularly those of concern to insurance and pension programs. Pension actuaries analyze probabilities related to the demographics of the members in a pension plan (e.g., the likelihood of retirement, disability, and death) and economic factors that may affect the value of benefits or the value of assets held in a pension plan's trust(e.g., investment return rate, inflation rate, rate of salary increases). Actuarial Accrued Liability(AAL): The value of benefits promised to employees and retirees for services already provided. This concept applies to both the pension liability and retiree health care liabilities. Annual Required Contribution (ARC): The amount of money that actuaries calculate the employer needs to contribute to the retirement plan during the current year for benefits to be fully funded over time. Generally CaIPERS uses a 30 year period. CAFR: Acronym for Comprehensive Annual Financial Report CaIPERS: Acronym for California Public Employees' Retirement System Defined Benefit: Promised fixed sum paid or service rendered. The assets in a defined benefit plan are held by the employer who incurs all investments risks. See also defined contribution. Defined Contribution: Contributions made by an employer to an individual employees investment account such as a 401 k. All investment gains or losses are those of the employee, not the employer. See also defined benefit. Employer Paid Member Contribution (EPMC): A program whereby the city pays employee contribution in a manner in which the amount paid is considered income for the purposes of determining pension. As exemplified by one city, For example, an employee with a $100K income and a 7% EPMC retires using a salary of$107K per year rather than $100K per year." Experience Gains/Losses: Gains or losses that arise from the difference between actuarial assumptions about the future and actual outcomes in an organization's pension plan. First tier (1st tier) plans: Benefits promised to all employees prior to the implementation of a second tier plan. First tier plans have generally been enhanced; contributing to the cost escalation. See also "second tier" in the Glossary. 33 Appendix C: Glossary of Terms & Acronyms - continued Funded Ratio: The market value of assets divided by the accrued liability. Funded ratio is a measure of the economic soundness of a fund. Market Gains/Losses: Gains or losses that arise from an increase or decrease in the market value of a plan's assets, including stock, real property, and investments. Miscellaneous (MISC) employee/plan: Public employees who are not sworn police or fire. The term MISC generally is used to describe a pension plan. The city of San Jose refers to these employees as belonging to a Federated plan rather than a MISC plan, Normal Cost: That portion of the ARC (see above) which is based solely on the value of the benefits being offered. OPEB:Acronym for Other Post Employment Benefits. OPEB benefits are primarily health care benefits but can include other benefits such as life insurance. Opt In Plan: Term used to designate an employee elective benefit plan: employees choose between maintaining current benefits but at an increased employee contribution rate or elect to receive lower benefits and avoid increases to employee contribution rates. Risk Pool: In 2005 CaIPERS created risk pools to aggregate small cities (generally defined as having less than 100 employees) into large pools to eliminate statistical anomalies associated with small sample sizes and gain reporting efficiencies. ROI:Acronym for Return on Investment. See also Market Gains/Losses. Public Safety Employees: Most police and fire personnel. Other public employees are generally referred to as miscellaneous employees (see above) and may include some members of police and fire departments. Second tier (2nd tier) plans: Benefits promised to all employees hired after the date of implementing a plan with reduced benefits. Second tier plans generally have reduced benefits and lower costs. See also"first tier" in the Glossary. Sidefund: Generally the unfunded liability that existed prior to entering a risk pool. A city is responsible for their entire sidefund plus their portion of the risk pool. Sidefund repayment can be accelerated. Some cities did not separate sidefund monies from ARC while others did. Smoothing of Gains/Losses: Actuarial method of spreading, or smoothing, market gains and losses over a period of time. The purpose of smoothing is to minimize short-term, year-to-year contribution rate fluctuations which may result from market swings. The smoothed asset value is also known as the actuarial value of assets. Unfunded Liability: This is the unfunded obligation for prior benefit costs, measured as the difference between the accrued liability and plan assets. When using the actuarial value of plan assets, it is also referred to as the Unfunded Actuarial Accrued Liability (UAAL). 34 This report was PASSED and ADOPTED with a concurrence of at least 12 grand jurors on this 171h day of May, 2012. Kathryn G. Janoff Foreperson Alfred P. Bicho Foreperson pro tern James T. Messano Secretary • 35 Attachment 2 Proposed Response to Santa Clara County Civil Grand Jury Report, An Analysis of Pension and Other Post Employment Benefits The City of Mountain View has the following responses to the Findings and Recommendations in the report, An Analysis of Pension and Other Post Employment Benefits: Finding 1 Public sector employees are eligible for retirement at least 10 years earlier than is common for private sector employees. City Response: The City of Mountain View agrees with this finding. For many nonpublic safety job classifications, employees may retire at an earlier age than their private-sector counterparts. However, in the case of public safety positions such as Police and Fire, there are no comparable positions in the private sector. Additionally, it is worth noting that retirement benefits are only one part of employee compensation. Recommendation 1 The Cities should adopt pension plans to extend the retirement age beyond current retirement plan ages. City Response: This recommendation will be implemented effective January 1, 2013. Recently approved State pension legislation has established pension formulas for new employees which will extend retirement ages. The City of Mountain View has focused on increased employee pension contributions rather than adopting a second tier of benefits which could include higher retirement ages. Finding 2 Campbell, Gilroy, Los Altos Hills, Los Gatos, Milpitas and Palo Alto have adopted second tier plans that offer reduced Benefits, which help reduce future costs, but further changes are needed to address today's unfunded liability. Santa Clara County and the cities of Cupertino, Los Altos, Monte Sereno, Morgan Hill, Mountain View, San Jose, Santa Clara, Saratoga and Sunnyvale have not adopted second tier plans. City Response: The City of Mountain View agrees with this finding; however, while it is true that the City of Mountain View has not adopted second-tier pension plan, this is not the only mechanism for addressing pension liabilities. -1- As noted in the Grand Jury report, "Comparing the Sunnyvale pension costs expressed in percent of payroll to Mountain View (same plans) demonstrates that employee contributions toward the cost of pensions is just as effective at keeping the cost under control as curtailing the level of pension benefits being offered. Mountain View actually compares favorably to other cities offering lower benefits." Recommendation 2A Santa Clara County and the Cities of Cupertino, Los Altos, Monte Sereno, Morgan Hill, Mountain View, San Jose, Santa Clara, Saratoga and Sunnyvale should work to implement second tier plans. City Response: This recommendation will be implemented effective January 1, 2013, as the City implements the terms of new State pension legislation. Additionally, the City of Mountain View has negotiated significantly greater-than-normal employee pension contributions which are an effective tool for addressing pension liabilities. Recommendation 2B—Does not apply to the City of Mountain View. Recommendation 2C All Cities' new tier of plans should close the unfunded liability burden they have pushed to future generations. The new tier should include raising the retirement age, increasing employee contributions, and adopting pension plan caps that ensure pensions do not exceed salary at retirement. City Response: This recommendation will be implemented effective January 1, 2013. As noted in the response to Recommendation 2A, the City of Mountain View has negotiated significantly greater-than-normal employee pension contributions in order to address pension liabilities. Finding 3 Retroactive Benefit enhancements were enacted by Cities using overly optimistic ROl and actuarial assumptions without adequate finding in place to pay for them. City Response: The City partially agrees with this funding as ROI and actuarial assumptions have not been realized in recent years. However, the City of Mountain View did work to ensure adequate funding existed for benefit enhancements, negotiating with Mountain View employees to contribute toward the cost of enhanced retirement benefits. These additional employee contributions have helped moderate cost increases associated with lower-than-projected investment returns and longer-than- projected retiree life spans. -2- Recommendation 3 The Cities should adopt policies that do not permit Benefit enhancements unless sufficient monies are deposited, such as in an irrevocable trust, concurrent with enacting the enhancement, to prevent an increase in unfunded liability. City Response: The City does not anticipate any Benefit enhancements for the foreseeable future. If this changes, the City will implement this recommendation. Finding 4 The Cities are making an overly generous contribution toward the cost of providing Benefits. City Response: The City of Mountain View disagrees with this finding as City employees pay between 9.5 percent and 15.4 percent of their salary toward pension benefits, a notably higher rate than most other public agencies. Recommendation 4A The Cities should require all employees to pay the maximum employee contribution rate of a given plan. City Response: The City of Mountain View has implemented this recommendation. City employees pay both the maximum employee contribution rate as well as a portion of the employer contribution rate for pension benefits. Recommendation 4B The Cities should require employees to pay some portion of the Past Service Cost associated with the unfunded liability, in proportion to the Benefits being offered. City Response: The City of Mountain View has implemented this recommendation. As noted previously, the City of Mountain View has adopted a different strategy for addressing costs associated with pension benefits with employees paying part of the employer contribution for pension benefits. The employer contribution is based on both the normal cost of benefits and the Past Service Cost. Finding 5 The Cities are not fully funding OPEB benefits as evidenced by large unfunded liabilities and small funded ratios. City Response: The City of Mountain View partially agrees with this finding as the OPEB funded ratio is indeed low for many agencies. However, the City of Mountain View has the highest funded ratio of all agencies in the County; significantly more than the rate of the next highest city as noted on Table 6. Additionally, the City has negotiated with bargaining groups to reduce the costs associated with retirees' health benefits by offering an optional defined contribution plan for miscellaneous employees, and by negotiating employee contributions to the City's retirees' health trust. As a result, this funded ratio is expected to increase in the future. Recommendation 5 The Cities should immediately work toward implementing policy changes and adopting measures aimed at making full OPEB ARC payments as soon as possible. City Response: The City of Mountain View has implemented this recommendation and already contributes full ARC payments. Finding 6—Does not apply to the City of Mountain View. Finding 7 The Cities' defined benefit pension plan costs are volatile. Defined contribution plan costs are predictable and therefore more manageable by the Cities. City Response: The City agrees that defined contribution plan costs are more predictable. Recommendation 7 The Cities should transition from defined benefit plans to defined contribution plans as the new tier plans are implemented. City Response: The City of Mountain View has implemented this recommendation for OPEB, instituting a defined contribution plan option for retirees' health benefits for nonsafety employees. As noted above, the City of Mountain View has focused on working with bargaining groups to increase employee contributions toward pension benefits in order to manage the City's costs associated with these benefits. Additionally, the City of Mountain View, as a member of the California Public Employees Retirement System (Ca1PERS), can only offer benefits as allowed under CaIPERS law. Currently, no defined contribution plans are available to employers contracting with CaIPERS for pension benefits. MSD/7/MGR/602-09-11-12A-E -4-