October 22, 2008
LEGAL PROTECTIONS FOR MUNICIPAL RETIREE PENSIONS
By: John Moran, Principal Analyst
You asked if Connecticut and federal law provide protections for municipal employees' defined benefit pensions including whether there are (1) requirements for annual actuarial contributions or (2) prohibitions on raiding pension funds or reducing benefits. You also wanted to know what other states have done related to these issues.
This report addresses municipal defined benefit pension funds administered by individual Connecticut towns, which operate under town charters, ordinances, and contracts, and the state-run Municipal Employees Retirement System (MERS), created by statute and administered by the state comptroller. It also addresses court rulings related to these issues.
Connecticut statutes do not provide for comprehensive oversight of municipal pensions. No state law requires a town to make the annual actuarially recommended contribution to its pension fund (and many towns do not) or prohibits it from “raiding” its own pension funds to use the money for other things (although we could find no cases of this).
But Connecticut law prohibits a municipality from reducing or diminishing a municipal retiree's (1) pension benefit or (2) health insurance benefit unless it is changed through collective bargaining and is kept equal to the health benefit for current employees in the same bargaining unit.
For pensions provided under MERS, participating municipalities must agree to make the appropriate annual contributions to cover their anticipated liabilities. If they are late making such payments, the statute requires the State Retirement Commission to charge interest on the late payments. Thus the MERS law is the only Connecticut statute that provides a penalty for failing to make a proper pension fund payment.
Also included is a brief description of the new law to fund and protect the Connecticut Teachers' Retirement System. Although this is not a municipal system, the new law provides an example of how to provide legal protections for retirement system funding.
Depending upon the municipality and which state it is in, municipal defined benefit pensions are governed by a mix of state law, constitutional provisions, local law or charter, employee contract, and case law. The report includes laws recently passed in Massachusetts and Missouri that help regulate municipal pension fund management and require a certain level of annual pension contribution.
MUNICIPAL PENSIONS IN CONNECTICUT
There are 210 defined benefit municipal pension plans in Connecticut, and 43 towns that have defined benefit plans through MERS (some towns have both types of plans). A number of towns have separate pensions for different groups of employees. For example, a town may have one plan for police and fire and another for general municipal employees.
For municipal pension plans that are not part of MERS state laws do not offer comprehensive oversight, but do set limited protections.
State statute permits any municipality or political subdivision of a municipality to create by ordinance or resolution:
. . . pension, retirement or other postemployment health and life benefit systems for its officers and employees and their beneficiaries, or amend any special act concerning its pension, retirement, or other postemployment health and life benefit systems, toward the maintenance in sound condition of a pension, retirement, or other postemployment health and life
benefit fund or funds, provided the rights or benefits granted to any individual under any municipal pension or retirement system shall not be diminished or eliminated (emphasis added) (CGS § 7-450).
Statute also requires that an actuarial evaluation of the pension or other postemployment benefit system be performed at least once every five years by a actuary enrolled by the joint board formed under ERISA, the federal law that regulates private pensions (CGS § 7-450a). The evaluations must:
1. analyze the accumulated or past service liability and annual liability of benefits currently earned under the system;
2. use assumptions for interest earnings, mortality experience, employee turnover, and any other factor affecting future liabilities as determined by the actuary; and
3. be delivered to the municipality's chief fiscal officer who must file a certified copy with the town clerk.
A summary of the evaluation, including the actuary's statement indicating the recommended annual pension payment the town should make to cover the liability, must be included in the next town annual report issued after the evaluation.
While the law requires these steps, there is no requirement to actually make the recommended annual payment to a pension plan. When faced with financial problems or other pressures, towns sometimes choose not to make the full payment and no state or federal law makes them do otherwise. Many Connecticut cities and towns do not fully fund their employee pensions. On the other hand, we could find no evidence of municipal retirees having their pension reduced or denied.
The State Retirement Commission administers MERS, as well as the State Employee Retirement System. The commission is housed in the Comptroller's Office, which also provides support staff. The state treasurer is responsible for investing MERS fund for the exclusive benefit of MERS members.
The law permits a municipality to join MERS in order for all its employees or certain employee groups to obtain MERS pension benefits. A town that agrees to join must adhere to the statutory rules for employee and employer contributions. If a town joins MERS with an unfunded pension liability, the commission determines how much the town must pay, using a 20-year or 30-year plan, to cover the unfunded liability. The commission also determines how much the town must pay, less the employee contributions, for the ongoing pension liability. The payment includes an administrative fee (CGS § 7- 441).
The statute requires interest be charged to the municipality if any required payment is not paid within two months. The interest rate must be the prevailing rate as the commission determines. (Non-MERS towns do not face such a charge if they are late on a pension payment.) These requirements have helped MERS to be funded at more than 100% of its $1.64 billion liability. A recent evaluation (prior to the stock market turmoil of Fall 2008) valued the fund's assets at $1.7 billion.
Recent Law Enacted to Protect the Teachers' Retirement System
The Teachers' Retirement System (TRS) is a statewide retirement system administered for the benefit of all local Board of Education teachers and retired teachers, recent legislation is an example of an effort to protect a retirement system for local employees.
PA 07-186 authorizes $2 billion in state bonds to cover unfunded liability in the TRS and for each year in which the bonds are outstanding, this law automatically appropriates the actuarially required annual state contribution to the TRF. It allows the state to reduce annual TRF contributions only if (1) it protects bondholders' rights in another way or (2) the governor declares an emergency or extraordinary circumstances, a supermajority of the legislature approves, and the reduction does not cause the TRF's funded ratio (assets versus liabilities) to fall below specified levels.
It also makes all TRS benefits contractual for all vested TRS members while the bonds are outstanding, thus barring the state from unilaterally reducing benefits during that time. Certain specified TRS benefits are already contractual for active teachers who were vested in the system on October 1, 2003 or who become vested or accumulate 10 years of credited service after that date.
For more details on this law see: www.cga.ct.gov/2007/SUM/2007SUM00186-R02HB-06141-SUM.htm.
HEALTH INSURANCE PROTECTIONS FOR MUNICIPAL RETIREES
State statute prohibits, with one possible exception, a municipality from diminishing or eliminating group health insurance benefits in violation of a collective bargaining agreement. It applies to any retiree receiving benefits as of June 2, 2006. The exception allows benefits to be changed if at the time of retirement the employee was covered by a collective bargaining agreement that includes a provision entitling the retiree to the same health benefits provided to the active employees under a collective bargaining contract (CGS § 7-459c). This language suggests that a retiree's benefits could be reduced if the active employees' benefits were reduced in the same way. A search of case law found no cases citing this law.
CONNECTICUT CASE LAW
A search of case law in Connecticut found no cases where a town either attempted to reduce a retiree's pension or raid a pension fund.
In two cases the courts ruled the cities in question, Hartford and Waterbury, had to abide by the appropriate city authority that governs their retirement benefits.
In Waterbury, the court found the city retirement board exceeded its authority by adding an additional requirement that reinstated city employees had to meet to rejoin the city pension program (Alexander et al., v. Retirement Board of the City of Waterbury, 57 Conn. App. 751 (2000)).
The city code simply required the reinstated employee to (1) pay back any funds withdrawn from the pension fund when the employee was separated from the city workforce and (2) demonstrate that he or she is in reasonably good health. The board added a six-year statute of limitations for applications for reinstatement. The court found that Waterbury pension rules must stem from city code authorization, and the code had no provision for a time limit on reinstating employees to the retirement fund.
The Hartford case was a split decision in which the plaintiff retirees won only part of the case (Fennell et al., v. City of Hartford, et al., 238 Conn. 809 (1996)). But the entire decision was based on Hartford retirement authority springing from the city charter.
On one issue the court found that despite a city pension manual that suggested lump sum sick time payments could be included in pension calculations, such a policy was not provided for in the city charter, so the city had no authority to make such a promise. The court ruled the lump sum payments could not be counted in the pension calculation.
On the second issue of whether the plaintiff employees should have been allowed to buy retirement credit based on time served in the military, the court ruled in favor of the plaintiffs. The court found the city charter clearly permitted for an employee to purchase up to four years of city service time for retirement purposes for that amount of time served in the military (Hartford City Charter, Chapter XVII, § 3 (bi) (III) (5)).
These cases indicate the courts take seriously a municipality's obligation to live up to the details of its pension plan.
Municipal employees across the country are members of a wide variety of pensions systems. There are over 2,500 ranging from very large state-run systems that include state and local government employees to smaller locally administered systems that cover only one group of employee, such as police officers. Some states (Maine and Hawaii) have a single system covering all types of employees, while other states (Connecticut, Florida, Illinois, Michigan, and Pennsylvania) have over 100 systems.
The pension protections for these systems must be determined by reference to the governing constitutional provision, statute, regulation, or contract.
(See Attachment 1, “State Protections for Public Sector Retirement Benefits,” compiled by the National Conference of Public Employee Retirement Systems (NCPERS); web link: www.ncpers.org/Files/News/03152007RetireBenefitProtections.pdf.)
In several states, provisions of the state constitution protect an employee's right to retirement benefits from legislative impairment, depending on the state, beginning (1) after the employee is hired, (2) has entered the retirement system, or (3) at least as of the time of the constitutional amendment. Courts usually interpret this as prohibiting legislative action that directly diminishes the benefits of those who joined the system before the modifying legislation was enacted, even though they are not yet eligible to retire (Sheffield v. Alaska Public Employees' Ass'n, Inc., 732 P.2d 1083 (Alaska 1987)). Legislative action intended towards another aim, such as terms and conditions of employment, but which has an incidental effect on the pension employees would ultimately receive, is not prohibited.
The U.S. Constitution's Equal Protection Clause does not require that all public employees receive the same pension benefits regardless of when they were employed. A government may reduce its costs by lowering the level of benefits provided new employees without denying them equal protection of the laws. (In Connecticut, this was done with the three tiers of state employee retirement benefits; all employees in the same tier must be treated the same. The date he or she was hired determines an employee's tier. Tier I employees, those hired prior to July 1, 1984, have the most generous benefit plan).
The right to a pension based on state or local public civil employment must be determined by reference to the statute or regulations governing these benefits, rather than to ordinary contract law principles. A pension statute may expressly grant the legislature the right to amend or repeal the laws the pension is founded on.
Thus, a Pennsylvania public transportation authority's change in its management employees' retirement plan to require employee contributions did not substantially impair the contractual relationship between employees and the authority. The court found this to be the case because the act authorizing the plan expressly contemplated that the plan would be subject to modification and that employees might be required to make contributions, and the plan document contained a plan termination procedure (Transport Workers Union of American, Local 290 Through Fabio v. Southeastern Pennsylvania Transportation Authority, 145 F.3d 619 (3rd Cir. 1998)).
In many states that recognize contractual or vested rights of a public employee in a state or local pension, those rights are subject to a reserved legislative power to make reasonable modifications in the plan, or to modify benefits, if there is a simultaneous offsetting new benefit of equal or greater value. A common version of this approach is the “California rule,” which permits modifications of state or local public pensions that are reasonable, provided that (1) they are materially related to the theory of the pension system and its successful operation and (2) any disadvantages to employees are accompanied by comparable new advantages (Maffei v. Sacramento County Employees' Retirement System, 103 Cal. App. 4th 993, 127 Cal. Rptr. 2d 279 (3d Dist. 2002)).
Another related variation on the reasonable modification rule is the “Pennsylvania rule,” which permits reasonable modifications when necessary to protect or enhance the actuarial soundness of the plan, provided that the modification cannot adversely affect an employee who has complied with all conditions needed to be eligible for pension benefits (Madden v. Contributory Retirement Appeal Bd., 431 Mass. 697, 729 N.E.2d, 1095, 144 Ed. Law Rep. 721 (2000)).
Courts have found reasonable modifications to include such things as (1) raising the retirement eligibility age while also increasing the retirement benefit and (2) reducing the pension benefit but providing death benefits and payments to a surviving spouse.
Recent Laws Enacted to Protect Local Government Pensions
In 2007, Massachusetts enacted a law authorizing the state to take over management of a local government pension system's assets if the system failed to meet specific standards for actuarial funding and investment performance over a period of time. The assets would be managed by the State Board of Retirement, which manages investments for two major Massachusetts pension funds.
Also in 2007, Missouri enacted legislation that provides funding standards for local government public pension plans. Those funded below 60% of the pension liability and whose contributory government fails to make 100% of the actuarially recommended contribution for five consecutive years can be declared delinquent, which means that state can place a first lien on the sponsoring government's funds. The State Retirement Board can seek a court order to require payment. The state treasurer must withhold 25% of the contribution delinquency from total state money due the local government until the delinquency is satisfied.