States could be overwhelmed by health care burden

By Bob Porterfield, AP, September 25, 2006

The bill is coming due for years of generous benefits bestowed upon the nation's public employees, and it's a stunner: hundreds of billions of dollars over the next three decades.

California will almost certainly owe more than any other state, threatening to bankrupt local governments and all but guaranteeing cuts in services like education and public safety.

These staggering numbers are coming to light because of new accounting rules issued by the Government Accounting Standards Board. They require public agencies to disclose the future cost of health care and other benefits - such as dental, vision and life insurance - promised to retirees alongside traditional pensions.

"There will be horrific financial implications," said Steven Frates, president of the Center for Government Analysis in Newport Beach. "More money will be needed for providing health care benefits that could otherwise be used for fighting fires or keeping libraries open."

According to preliminary estimates, keeping California's approximately 2.3 million active and retired employees healthy through their sunset years could cost taxpayers more than $200 billion over the next 30 years.

"When you start putting these costs on the books and understand what they involve and the size of the obligation - it's big," said Marian Mulkey of the California Healthcare Foundation's Health Insurance Program. "Either way they have to pay for it or somebody has to go back on their promises."

Retiree health care costs have been quietly mounting for decades while public agencies have passed out generous retirement benefits during labor negotiations - often in lieu of salary increases. But government negotiators rarely considered the long-term financial consequences of awarding such perks, according to Brian Whitworth, a retirement benefits specialist with JP Morgan Chase and Co.

"A surprising number of public entities didn't even make informal estimates of long-term costs prior to the new accounting rules," Whitworth said.

Many cities and state agencies already are struggling to fully fund their pension obligations, but experts say those liabilities pale in comparison to the debt accumulated for other retirement benefits.

Last month, JP Morgan released what it considers the most comprehensive preliminary estimate. It projects the present nationwide value of unfunded health care and other non-pension benefits at between $600 billion and $1.3 trillion.

By comparison, the debt rating agency Standard and Poors estimates the country's total unfunded public pension debt at around $285 billion.

As for California, the state controller is just now beginning a detailed study. But preliminary estimates show the state will owe $40 billion to $70 billion to cover the health care costs of state employees alone. Add in the costs accrued by more than 6,400 local governments, school districts and other government agencies, and the total could reach $200 billion.

And California is already facing up to $100 billion in unfunded pension liabilities.

"There's a good chance some government entities are going to go bankrupt," said California Assemblyman Keith Richman, a Republican from Chatsworth. "But the issue isn't just bankruptcy, it's governments dying of a thousand cuts in services. The costs of promises that have been made are going to be astronomical."

Union officials say it's not their fault municipalities put themselves in a hole by promising more than they can deliver.

"This is a monumental problem and government is going to have to deal with it," said Steve Regenstrief, head of the retirement division at the American Federation of State, County and Municipal Employees.

Government does not pass out lucrative post retirement benefits on a whim, says Debbie Endsley, acting chief deputy director of the California Department of Personnel Administration, which negotiates state labor contracts for the governor.

"Its an important piece of total compensation" and an key factor in recruiting and retaining employees, she said.

The Government Accounting Standards Board is an independent nonprofit organization that establishes accounting standards for public agencies. Seeing a need to bring public sector disclosure rules in line with those of the private sector, the board unveiled the rules change in 2004 and gave governments until 2008 to implement them.

The new rules don't require governments to come up with the money right away, just to disclose the present value of these future costs and estimate how much more money is needed to pay for them. To prepare for these disclosures, public officials across the country already are beginning to calculate how much they might owe.

"When the numbers are produced, they're going to be shocking," said Ronald Snell, director of state services for the National Conference of State Legislatures. "They'll be in the hundreds of billions, and it's definitely something that policy-makers are going to have to take notice of and act upon. ... There are consequences of decisions made in the past."

So far, California, New York, and Maryland appear to have the biggest burdens, but that could change when estimates begin trickling in from Florida, Texas, Illinois and Pennsylvania. Of the country's 10 most populous states, none has completed a formal estimate of their liabilities, but those that have completed preliminary assessments are reporting astounding numbers.

-New York's preliminary analysis puts state liabilities between $47 billion and $54 billion. In a recent budget report, the state acknowledged "these costs are substantial and would significantly reduce or even potentially eliminate" New York's current $49.1 billion in positive net assets.

-Maryland has initially estimated its liability at $20 billion.

-Other states also have reported significant amounts: Alabama estimates $19.8 billion, Massachusetts $13.2 billion, Alaska at least $7.9 billion, and Nevada between $1.62 billion and $4.1 billion.

Many local governments also are beginning to acknowledge huge liabilities. The City of San Francisco reported its burden at $4.9 billion, and the Los Angeles Unified School District said its liability is $10 billion.

While the numbers are mind-boggling, some financial experts say they're not as scary as they appear.

"This isn't Chicken Little," says Lou Filliger, a partner in the Southern California actuarial firm of Demsey Filliger & Associates. "It's wrong to panic and it's wrong to put your head in the sand and ignore the liability altogether. The middle ground of responsible funding is the way to go."

When the new accounting rules take effect, taxpayers will be able to see for the first time just how much they're paying to provide benefits to active and retired state and local public employees. How this will impact individual citizens depends upon the size of their government's obligation and how it's handled.

At the least, experts say, the public can expect increased taxes and fees or reduced public safety and public works services as governments adjust their budgets to amortize the debt.

Some officials have taken a proactive stance, moving to rein in the costs of retirement benefits by establishing employment "tiers" mandating longer vesting periods for full benefits, requiring retirees to pay larger portions of their health care costs, and reducing or eliminating benefits for new employees altogether.

But these efforts can be difficult when labor unions are involved.

"Limiting future growth of (health care) liabilities will become a contentious issue in negotiations," said Suzi Rader, director of district and financial services for the California School Boards Association.

So employers must instead hold the line on granting additional perks to future retirees, she said.

John Abraham of the American Federation of Teachers said union negotiators have long been aware that future retirement benefits must be paid from shrinking resources.

"If they haven't been looking at the numbers, shame on them," he said. "Do we recognize there is a cost problem? Absolutely. As costs have gone up we've made accommodations."

Lori Moore, spokeswoman for the International Association of Fire Fighters, said nothing is really changing except the need for cities to reveal how much they'll owe in non-pension retirement benefits.

"The liability has always been there," she said. "They had to know in the back of their minds that it was there."

Most governments now fund retiree health care on a pay-as-you-go basis, with annual appropriations from their general funds, focusing most of their attention on current expenses.

Under the new accounting rules, the liability can be paid over 30 years, just like a home mortgage, but it forces public officials to recognize the debt and calculate an annual payment.

If officials choose not to set aside additional money each year to cover the payment, it counts against net assets, potentially putting a city or agency deeper into the red. Because assets are a critical component in the credit ratings that allow governments to borrow money at lower interest rates, Wall Street will be paying close attention to the coming disclosures. Standard & Poors warned that retiree health care liabilities were "an increasing credit concern."

Parry Young, director of public finance at Standard and Poors, said few governments are prepared for the annual contributions they'll be expected to make.

"It's been a growing liability that wasn't being addressed. But now the chickens are coming to roost," he said. "For some it's going to be a big credit issue depending upon what resources they have."

Public officials "might also choose to issue bonds, or review benefit costs and maybe make changes in the benefits themselves," he said.

Over the past decade, California's local leaders have frequently turned to Wall Street for solutions to their pension problems. And bonds could again become an integral part of the funding strategy for the retiree health care crisis.

Oakland's Peralta Community College District became the first in California to issue bonds to cover its liability last December. This summer, Eastside Union High School District in San Jose followed suit.

But using bonds to fund long-term obligations only increases the burden on taxpayers. With interest, the $153 million in bonds issued by Peralta will eventually cost taxpayers $512.3 million over their 45-year lifespan.

Tom Smith, Peralta's vice chancellor for finance and administration, said the bonds were structured to accommodate both existing retiree obligations and debt service payments the district could afford. And employees hired by Peralta since July 2004 do not receive lifetime health care benefits.

Still, "bonds are a foolish way to go," said Jeff Esser of the Government Financial Officers Association.

"Bonds should be used as a last resort," agreed actuary Filliger. "It's better to consider a trust."

Some public agencies are doing just that. The Elk Grove School District near Sacramento established a trust in 1995 that today contains $33 million earmarked for retiree health benefits. Oxnard Unified High School District established a trust in 1999, following protracted negotiations with the teachers union, and it now contains $20 million.

The California School Boards Association also recently received IRS approval to operate a multi-employer OPEB trust and is talking with 100 districts about joining. The California State Association of Counties Finance Corp. has also established a trust.

Rader said dealing with health care liabilities has become a top priority for public officials statewide.

"You have to start thinking about it," she said. "Can employers afford to pay in the future?"

FUSD retirees file lawsuit over health benefits

Fresno school district now bills for premiums and fees it used to pay

By Christina Vance , Fresno Bee, October 3, 2006

Maxine Rix and her husband — who combined had 58 years of teaching Fresno Unified students — built a retirement plan that could overcome financial emergencies.

They didn't expect $420 monthly health-care bills from their former employer to become one of those emergencies.

"We get by because we planned ahead," she said.

The couple are among thousands of Fresno Unified retirees now being billed for health-care premiums and administrative fees, which used to be paid by the district if the retirees met certain conditions.

Last month, the Fresno Unified Retirees' Association sued the district to have the fully paid benefits restored.

The lawsuit requested class action status on behalf of about 3,500 retirees.

Fresno Unified officials Monday declined to comment, saying they hadn't yet been served with the lawsuit.

The lawsuit's outcome is uncertain. Charles Sakai, a San Francisco-based employment and labor-law attorney, said there hasn't been a major test case in California on employers altering retiree benefits.

Meanwhile, Sakai said, more employers likely will look for ways to trim employee health-care liabilities that are swelling at alarming rates.

"It's really a developing area right now," he said. "It is the next big thing in negotiations."

Fresno Unified originally agreed to pay for retiree health care in 1977, according to the retiree lawsuit. The district altered that benefit in 2005 after negotiating with employee unions.

The district-union compromise aimed to reduce Fresno Unified's health-care liability of $1.1 billion.

The changes to benefits for retired and current employees knocked the liability down to $792 million, according to the district.

Robert Juarez's janitorial career at Fresno Unified ended after he fell during a summer floor-stripping job. The fall injured his back, causing three discs to bulge.

Juarez said he tried for a few years to stay on at Wolters Elementary School, but pain eventually forced him to retire about four years ago.

He had worked for Fresno Unified for 24 years, and the district honored him in 1991 as an employee of the year.

"I enjoyed my work. I loved it. I loved working with the kids," he said.

He said the district gave him a $10,000 settlement. He, like many other retirees, also expected to enjoy district-paid health care.

But recently, Juarez said, he began getting a $70 health bill each month from the district. Under the existing system, his bill will decrease when he turns 65.

"I'm only 53. I can't afford that," he said.

The $420 monthly bills going to Maxine Rix's home are a combination of current insurance fees and payments toward back fees, she said.

Some retirees received letters saying the district was billing them retroactively to July 1, 2005.

Rix said she also feels betrayed by the Fresno Teachers Association, which was one of the unions that negotiated with Fresno Unified.

"The union no longer represents us, so ... [we're] just out in the cold," she said.

Association President Larry Moore said he understood the retirees were frustrated, but the union tried to negotiate a reasonable compromise. He pointed out that monthly premiums drop to $10 per month when retirees turn 65 and are free when they turn 75.

Moore said it's not realistic to believe retirees will continue to pay nothing for their health care.

"That is just not in the cards anymore," he said.

Public awareness of unfunded health-care benefits — in Fresno Unified and elsewhere — has grown since the Governmental Accounting Standards Board changed its policy in 2004 to require public agencies to report the cost of unfunded liabilities.

Union and management representatives in California have been working to figure out how to deal with the massive costs, said Larry Buchanan, a Sacramento-area superintendent who is working with a group called the Education Coalition for Health Care Reform.

They've got a daunting job. Projected health-care increases for some districts could outstrip revenue growth within several years, Buchanan said.

"It's a very scary number, that's for sure," he said.

Retirees from some large districts such as Los Angeles Unified still enjoy lifetime health-care benefits. The district announced a tentative agreement with unions Monday that would preserve retiree benefits coverage.

Los Angeles Unified's program covers about 32,000 retirees and 18,000 of their family members, costing the district about $200 million each year, according to a February 2006 report from the Legislative Analyst's Office.

It's not clear what will happen if governments and companies try to cut retiree benefits on a large scale. The Legislative Analyst's report called the question an "evolving area of law."

p to this point, Sakai said, courts have been ruling differently based on the wording in each employer-employee contract.

In some cases, a single word has determined a court's ruling, he said.

The word was "underwrite" in a 2004 case that pitted retired employees against the Orange Unified School District, which had promised district-paid health benefits.

Retirees sued Orange Unified after the district began charging a fee to those who opted for a more expensive health plan instead of the district-paid plan.

The court sided with the district, saying it was fulfilling its written obligation to "underwrite" the health plan.

The court added that underwriting the plan didn't mean the district had to pay its entire cost.

Howard Nielsen, who retired after teaching more than 40 years at Fowler High School, said he has been paying for his health plan since 1996. Nielsen said he doesn't think Fresno Unified retirees should get fully funded health care on the public dime.

"I think that's baloney," he said.

But Rix said Fresno Unified had no right to charge for benefits that she and other employees expected as a trade-off for salary increases.

"We did sacrifice over the years," she said. "We have been betrayed by the people we sacrificed for."