School districts would get more pension cost relief under a revised state budget proposed last week by Gov. Newsom.
The governor’s $700 million plan to lower scheool pension costs during the last two years of a seven-year CalSTRS rate increase would get an additional $150 million, if approved by the Legislature.
Unlike other public pension systems, the California State Teachers Retirement System gets funding from the state, not just employers and employees.
In addition to using non-Proposition 98 state money to pay part of school rates, the governor’s plan would spend $2.3 billion over four years to pay down the school district share of CalSTRS debt, saving more than $7 billion over three decades.
With state aid to get over the hump of the last two years of rising CalSTRS rates, struggling school districts would then face rates, under current projections, that drop slightly and remain stable for more than two decades. (see chart)
Of course, that assumes investment earnings, expected to pay about 60 percent of future pension costs, will average 7 percent, which critics say is too optimistic. But in the complicated CalSTRS system, school districts have some rate protection.
“The employer contribution rate is minimally impacted by investment performance, and when impacted, it generally moves in the opposite direction of the state contribution rate,” a draft report to the Legislature on the 2014 plan said last week.
Unlike other public pension systems, the California State Teachers Retirement System gets funding from the state, not just employers and employees, and has lacked the sweeping power to raise employer rates, needing legislation instead.
The 2014 legislation gave CalSTRS limited rate power, protecting employers. After scheduled rate increases end in 2021 at 19.1 percent of pay, the CalSTRS board can raise employer rates up to 1 percent a year, but no higher than 20.25 percent of pay.
A major increase in state school funding, up 37 percent since the beginning of the rate increase, has helped schools absorb higher pension costs
If investment earnings fall below the 7 percent target, most of the cost will be borne by the state. The CalSTRS board can raise the state rate up to 0.5 percent of pay each year until the funding plan expires in 2046.
For nearly three decades school districts had been paying the same CalSTRS rate, 8.25 percent of pay since 1986. Then the funding plan legislation in 2014 more than doubled their rates over seven years to 19.1 percent.
Total school district CalSTRS pension costs are expected to nearly triple over the seven years, going from $2.3 billion a year to about $6.8 billion, a Legislative Analyst’s office report estimated in March.
School district payments to the California Public Employees Retirement System for the pensions of non-teaching employees also may nearly triple during the seven years, going from $1.17 billion a year to well over $3 billion.
A major increase in state school funding, up 37 percent since the beginning of the rate increase, has helped schools absorb higher pension costs. Inflation-adjusted school funding per pupil is at an all-time high.
With the $150 million increase proposed last week, the new rate in July would drop to 16.7 percent of pay.
But now state funding growth is leveling off, while pension costs continue to rise. Many schools are losing enrollment and per-pupil funding. Some have little or no financial reserves, and thus no cushion if an economic downturn lowers state funding.
Strained school budgets are in the spotlight because of several well-publicized teacher strikes and the struggles of a large urban school district, Sacramento Unified, to avoid a state takeover.
A report last month from Pivot Learning, a nonprofit consultant, used a survey, a decade of budget data, and interviews and focus groups to show the impact of “The Big Squeeze” of rising pension costs on school programs and teacher pay.
Responding to pleas from school groups, the $700 million relief plan the governor proposed in January would have lowered CalSTRS school district rates from 18.13 percent of teacher pay to 17.1 percent in the new fiscal year beginning July 1.
With the $150 million increase proposed last week, the new rate in July would drop to 16.7 percent of pay — a reduction of 1.43 percent of pay instead of 1 percent as originally proposed.
There would be no change in the original 1 percent of pay reduction in the CalSTRS school district rate for the following fiscal year beginning July 1, 2020, which drops from 19.1 percent of pay to 18.1 percent.
CalSTRS remains on a path to reach 100 percent funding by 2046, a new annual valuation showed last week, a total turnaround from projections before the rate increase that had CalSTRS running out of money by then.
But it’s a mountain to climb. The new actuary report also shows that CalSTRS only had 64 percent of the projected assets needed to pay future pensions as of last June 30 and a debt or “unfunded liability” of $107 billion.
Like many public pension systems, CalSTRS funding did not recover from huge investment losses during the financial crisis and deep recession a decade ago, despite a bull stock market of record length.
Some have argued in the past that 80 percent funding is an acceptable goal for pension systems.
When the investment fund plunged from $180 billion in October 2007 to $112 billion in March 2009, CalSTRS funding fell from about 89 percent to 60 percent. As of March 31 this year, the investment fund was valued at $228 billion.
Low funding not only creates a need for higher contribution rates, but it also makes CalSTRS more vulnerable to another market crash or a long period of stagnant investment earnings.
Experts have told CalSTRS and CalPERS that falling below 50 percent funded is a red line, a potentially crippling blow that can make returning to 100 percent funded very difficult if not impossible.
The new actuarial report from Milliman shows a low chance for another CalSTRS funding nose dive. The projection that CalSTRS funding will only reach a little below 80 percent by 2046 is in the 25th percentile, while 100 percent funding is in the 50th percentile.
Some have argued in the past that 80 percent funding is an acceptable goal for pension systems. It’s enough to provide a cushion against dropping below 50 percent funded, but not enough to be regarded as full funding or a “surplus” that can pay for increased pensions.
Because of the complicated CalSTRS funding system, the annual actuarial report makes a calculation of what the funding level would be, 86 percent last year, if there had been no change in pension benefits since 1990.
The little-known SBMA had a $9.8 billion surplus and had only been spending around $165 million a year for three decades.
Although not as well publicized as the contribution cuts and pension increases (SB 400 and AB 616) pushed by CalPERS when it had a surplus around 2000, much smaller pension increases and contribution cuts were made for CalSTRS when it had a brief surplus then.
Notable among a half dozen bills was the diversion for a decade of a quarter of the 8 percent of pay pension contribution from teachers (2 percent of pay) into a new Defined Benefit Supplement, giving teachers a lump sum or annuity in addition to their pensions.
“No (state) general fund effect and no effect to the solvency of STRS,” said the legislative analyses of AB 1509 in 2000, unusually brief for legislation shifting billions of dollars. “The STRS surplus will absorb the cost of DBSP (Defined Benefit Supplement Program).”
An ongoing diversion of CalSTRS pension funding is an annual state payment, 2.5 percent of teacher pay, that goes into a separate fund, the Supplemental Benefit Maintenance Account, that keeps retiree pensions from dropping below 85 percent of their original value.
Pension funding is usually based on money expected to be received in the future from employer-employee contributions and investment earnings. But the unique SBMA is based on keeping enough money on hand to pay expected future costs.
In the last biennial report, the little-known SBMA had a $9.8 billion surplus and had only been spending around $165 million a year for three decades. The annual state payment into the fund two years ago was $699 million. (See details here.)
There has never been an analysis to see if money could be saved, perhaps billions, by switching the SBMA to traditional pension funding. That’s the way CalPERS funds a similar program that keeps its pensions at 75 or 80 percent of their original purchasing power.
Last week, the CalSTRS board elected a new chair, Sharon Hendricks, a Los Angeles City College communications instructor. She succeeds Dana Dillon, who did not run for re-election to the board.
Editor’s Note: Reporter Ed Mendel covered the Capitol in Sacramento for nearly three decades, most recently for the San Diego Union-Tribune. More stories are at Calpensions.com.