The Future of Pensions in Pennsylvania
Revised Policy Brief
Compiled and Written by: Kimberly D. Geyer
Mars Research & Retrieval Services
www.marsrrservices.com
May 30, 2006

Pennsylvania currently pays into a pension system that serves both state employees and local teachers. Local communities throughout the commonwealth also pay into this system on behalf of the teachers they employ. Decades ago when contracts were initially negotiated and healthcare was considered a fringe incentive benefit and largely an afterthought, teachers found themselves promised benefits unavailable to very few of the taxpayers who paid into these costs. As healthcare costs continue to soar, these contracts represent a financial crisis threatening school districts nationwide. Unfortunately, over the past few years, state contributions to the pension system have been increasing at an unsustainable rate. The Public School Employees’ Retirement System (PSERS) is the 14th largest public pension fund in the nation and the 21st largest among public and corporate pension funds in the nation.

In a polarizing time when policymakers are examining ways to implement property tax relief for Pennsylvania’s taxpayers, as well as, reform, Pennsylvania’s 501 school districts will be paying 42% more in retirement costs to the PSERS fund in 2006-07 than this past year. The annual contribution rate for school districts is determined by the state and invested by the state. The current formula is driven by a three way contribution formula through state, district, and employee contributions. All 501 school districts collectively have to match and pay the other 50% that is contributed by the state through its annual education budget. The PSERS Board of Trustees set the employer contribution rate for the fiscal year of 2005-06 at their past December 9, 2004 board meeting. The new rate is 4.69% of payroll and applies to salary and wages earned from July 1, 2005 through June 30,2006. Meanwhile, the State Employees System is driven solely by a 50-50 contribution formula.

History Lesson Applicable to Pennsylvania’s Taxpayers & School Districts: (Act 9 became law on May 17, 2001)

Prior to Governor Tom Ridge’s departure from office, Act 9 of 2001 was negotiated with both the Pennsylvania State Education Association (PSEA), as well as, the State Employees Retirement System (SERS) in which both retirement plans were increased by 25% for working teachers and state employees. Before that point in time, from the mid to late nineties, retirement contribution rates were significantly low for taxpayers based on a strong market generating an abundant surplus. In fact, districts did not make contributions into the retirement fund during years of revenue surplus. There was no minimal contributions made during the “good years” in which funds should have been put aside into reserves. Meanwhile, in the measure approved by the state legislature, retirees who had been left out of the 2001 pension benefits increase as contained within the realm of Act 9, were soon included by the follow up piece of legislation in 2002 known as Act 34 of 2002.

Less than four months after Act 9 of 2001’s approval, the events of September 11th, 2001 transpired, rocking the global economic market creating a financial crisis in ways unknown to investors and businesses throughout America. The initial plan of Act 9 of 2001 to cover both the loss of investments due to risk and liability and in addition, to cover the pay out of obligated benefits was no longer feasible for both Act 9, as well as, Act 34. The measures of both acts were designed to have the surpluses of each cover the pay out of obligations OR risk….but, there was no built in system into the surplus design to cover BOTH.

That same year on December 2, 2001, the global energy giant, Enron, suddenly declared bankruptcy with nearly 21,000 employees in over thirty countries and stated revenues exceeding more than $100 billion dollars. I mention this for the simple fact that many state teacher’s unions invest some of their pension funds into big American Companies, such as Enron, and WorldCom. Unlike Florida’s Education retirees who suffered a devastating loss of $420 million in pension fund investment into both Enron and WorldCom, the Pennsylvania Public School Employees Retirement System with almost $50 billion in fund assets, lost only $59 million during the decline in Enron stock from October 1998 through January 2002. Overall, the loss represents less than 0.25% of the retirement system’s pension fund assets. The Pennsylvania State Employees’ Retirement System with $24.7 billion in fund assets lost $10.6 million with its investment of pension funds into Enron alone.

Prior to bankruptcy in 2001, the Securities and Exchange Commission began publicly investigating Enron and their troubling losses. What does this hard lesson say about the money managers who invested the general public’s retirement funds and had no clue what they were doing and had no trigger in place telling them to pull their stock and sell….in essence, they were just holding on and hoping. They all say they had everything under control. But, did they? What does this say about their investment strategies to begin with? What does this say about one’s future and who manages it? The Enron story is a profound story which far exceeds the tale of one disastrously mismanaged company containing many morals to be learned.

Fast forward to 2002-2003, state legislatures across the country faced shortfalls in pension funds and Governors, inclusive of Pennsylvania’s governor, forced school districts through legislation to make up the shortfall through mandating incremental increases annually established from ten years as contained in Act 9 to a 30 year amortization period with the passage of Act 40 of 2003 by Governor Rendell. Unknown to most Pennsylvania taxpayers, school districts have no control over these costs and these increases are generally passed onto the local taxpayers of Pennsylvania through increased property tax millages. Hypothetically, policymakers must ask themselves, if an individual from the private sector chooses to invest at their own risk any funds into the stock market and loses as a result, do they or should they expect the public taxpayer to makeup the shortfall resulted through poor investing? Yet, that is exactly the scenario that state legislatures are imposing upon local school districts and mandating districts to do for the unions. It is significant for policymakers at all levels to recognize the history of people and events that took place prior to the current situation and challenges we now find ourselves as a commonwealth facing.

One of the key implications of the 2005 education budget is found on page two of the six page budget, under the line item of School Employee’s Retirement Pension Fund showing a variance of $29,303 million and a 12.81% increase, along with a 2.19% increase and $9,175 million variance in School Employee’s Social Security Rates. What both of these figures indicates is that at least $29 million dollars is written off the top of education funding before ANYTHING else in this budget here in Pennsylvania to cover the pension fund.

To further exacerbate the situation, the current formula is driven 50/50 when pertaining to districts and the State, in which the state’s share is $29 million to pay into social security and retirement, therefore, school districts statewide will need to comprise their share of an additional $29 million in funding dedicated to the same purpose. As expected, local school districts can expect to see increased contribution rates into the PSERS pension fund. In the past several years, local school districts have seen these increases at 12-15% per local school district and many have been forced to generate new funding through increased property taxes The future will have even higher increased pension costs, the only way to handle such rising costs will be to ultimately cut other areas of local school budgets which ultimately impact the local students and classrooms. State funding increases in education along with rising health care costs and pension contributions puts schools in a precarious position with the public taxpayers. The public hears increased funding for education, but, property tax increases leads to public perception of mismanagement of school budgets, as well as, bottomless pockets.

Pension reform is a global issue not limited merely to the United States, but, impacting countries such as the United Kingdom, Turkey, and Canada.

There are many controversial proposals floating about states, such as privatization of the teacher retirement system, not including ALL school employees into the pension plan, and various other proposals inclusive of 401 K retirement plans. The health care and pension situation facing school systems mirrors the pressure felt by both public and private employers, as well as, the retirees facing financial constraints on social security and Medicare. Many states are prefunding their budget per pupil to cover the costs of health care and pension costs, such as in San Diego and Los Angeles California. Keep in mind, this is money originally intended for the per pupil expense, but, is now leaving and going into pension funding…..this is funding that is leaving the student, the school, and never sees the light of the local classroom for educational purposes. Some states are capping retirement plans and others are moving toward a direction of defined contribution plans. Perhaps policymakers need to consider increasing the salary wages of school teachers with the option that they invest their own money into their own private retirement savings in lieu of the current structure? Whatever the case may be, in all cases through examining various states throughout the country, the common denominator is this fact: “The sooner action is taken to bring the promised benefits in line with revenue, the less painful the solution will have to be”. With that being said,, most states are leaving promised benefits intact for those vested in the current system, or whom have already been collecting a pension, will likely see any changes to their benefits. However, states are factoring in four basic elements related to new hiring, where the new structuring process is being currently addressed. These states are facing formidable opposition, as expected by the unions.

States have little room for flexibility to provide or grant waivers for exceptions. The pension system is at a crisis and will become even more so with the recent release of GASB-45, which will only magnify the issue ten-fold in some States. States are utilizing the Consumer Price Index or CPI, to calculate the annual cost of living adjustment. This CPI formula would allow pension benefits to increase every year according to the CPI or at 3%, whichever is lower. Another strategy some states are utilizing is passing policy to support that any unexpected surpluses over $30 million would address the system’s unfunded liability by paying down their pension fund obligations. A third strategy, is approving the measure that the maximum pension a state employee can collect is worth 75% of their final salary after 38 years. Finally, states are raising the standards for collection, by raising the age for state employees to sixty years old to collect a pension. State employees and teachers would be eligible for a pension at age 60 with 30 years of service, otherwise at age 65. There are all kinds of reforms being attempted and there has been no greater time and/or thirst for “thinking outside the box” than now.

As the chart below demonstrates, the contribution rates increase annually along with millage rates…how will state policymakers accommodate this process while providing real and meaningful property tax relief? Policymakers and taxpayers should realize that even if referendum is implemented at this point in time throughout Pennsylvania, school districts will still be forced to increase property tax millage rates as exhibited in the below case study related to Seneca Valley School District.

(This chart was compiled by Dean Berkebile, President of Seneca Valley School District)

<1> basically assumes no new hires
<2>From http://jsg.legis.state.pa.us/PENSIONS.HTM

School districts will have less money to hire teachers, less money for programs, textbooks, supplies, and materials….less money for everything. Money earmarked for educational purposes is being channeled into an entirely different direction….into pension funds. Reduced services and programs will adversely affect the educational programs currently sustained throughout schools despite socio-economic factors of the communities that house these schools. No one will be untouched.

State taxpayers are already paying their fair share. If we do not, as policymakers, make necessary reforms today, and keep pushing and postponing this policy issue to subsequent legislative sessions and before and after the election and before and after such and such administration….we will be placing a huge burden on the backs of taxpayers tomorrow and for years to come. We have not even felt the ripple effect of the wake as the boat cuts through the lake….the long term ramifications could realistically be devastating for all our schools and students. I hope I am wrong in my assumption.

Sincerely,

Kimberly D. Geyer
Mars Research & Retrieval Services
May 29, 2006
www.marsrrservices.com
724-799-1195

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