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Tuesday, November 20, 2012

The Boy In The Bubble (LONG)

Seems to have peeked out of the bubble for a moment.  Groundhog Day?  Or Governor Kitzhaber checking in with the world 6 days after the election handed him complete control over the Legislature.  Oddly, on Saturday, House Majority Leader Tina Kotek announced that the majority would not introduce any PERS legislation that would fall to litigation.  Moreover, Rep. Kotek announced that the priorities in this session would be jobs and education, not PERS.  This was pleasant news coming from the newly appointed leader of the majority caucus.  Imagine their surprise when their titular leader, the Governor gave a speech to the Oregon School Board Association in which he highlighted PERS as one of his major items for the 2013 Legislature.  HELLO?  ANYONE HOME?  Kitz has always been accused of being aloof and standoffish.  This must set a new record for pure lack of ANY communication.

So, what should we do?  Who should we believe?  I can assure my readers that there is not much likelihood that PERS won't be considered this session.  Moreover, Governor Kitzhaber has spelled out the areas that many of us have feared for some time - retiree COLA cap, jettisoning the 6% pickup, and discontinuing the out-of-state income tax remedy for all eligible retirees (not just those retiring after 1/1/12).  So in today's musings we shall review a bit of history and assess the likelihood that Governor Kitzhaber's agenda will meet Representative Kotek's requirements.  Short answer:  unlikely.

Much has been written about the 6% "pickup" so that little review is required.  The very short version is that the 6% pickup was Governor Victor Atiyeh's suggestion of a way out of a salary impasse back in 1979 when inflation was nearing 10% annually.  Prior to 1979, PERS members paid their own contributions to PERS in AFTER TAX dollars.  When the various unions negotiating the contract back in 1979 asked for and fully expected raises that would keep up with inflation - in the vicinity of 10-12%, the state balked and argued that it didn't have that kind of money.  Governor Atiyeh, following on a suggestion from Bob Straub proposed that in lieu of a salary increase, the state would "pickup" (i.e. pay for) the employee's contribution to PERS.  It would still be regarded as the employee's money and would count towards salary at the time of retirement.  After running the numbers, the unions as well as the unrepresented members decided that this was a reasonable trade that would effectively cover the needs of members at the time.  This was not offered as a temporary solution; it was offered as new benefit for all employees.  That subsequent contracts included sizable pay increases did not mitigate the previous replacement of benefits in lieu of salary increases.  Whether this is contractual or not remains to be determined.  It is clear that this is part of collective bargaining and not legislative tampering.

The big ticket item in Kitz's quiver is the retiree cost of living increase.  The retiree COLA provision was enacted in statute in 1971 (before collective bargaining was prominent).  The statute stated that retirees would receive the lesser of 2% or the actual CPI-W (Portland/Salem Metropolitan Cost of Living Adjustment).  The 2% would be applied to the received benefit.  In the event the CPI-W exceeded 2%, the overage would be "banked" and the bank drawn on in years when the CPI-W was less than 2%.  There is nothing in statute that says the COLA will be applied to only part of the benefit, as Kitzhaber would like to have happen.   The idea of that cutting the Cost of Living to retirees is acceptable to retirees is simply hogwash.  Retirees did NOT create the funding problem and so it is questionable that the lion's share of any savings.  Let's analyze the math.  Presumably, capping the COLA at $24,000 (an amount that we shall question later) will save about $1.1 billion over the biennium.  This will save employers about 4.4% of payroll if estimates are to be believed.  But let's stop for a minute and examine the $24,000 figure.  Where did it come from?  It originated in 2010 with the Portland City Club's report suggesting that the PERS average salary, which was then about $24,000, be used as the cap.  Today, the average PERS benefit is $25,500, not hugely higher.  But let's look at who gets it.  PERS publishes a document entitled PERS BY THE NUMBERS twice annually.  The latest came out on 9/20/2012 - two months ago.  If you look closely at the document, you will observe that approximately 33% of all PERS retirees receive a benefit of $25,500 or less.  This is nowhere near the 50% that Ted Sickinger wrote about in his latest series of hit pieces on PERS published this past weekend in the Oregonian.  The fact is that examining the same tables that accompany the number Ted doesn't use show that about half of PERS retirees receive benefits below $40,000 and half above.  The problem with using the average or mean benefit level is that it is unduly influenced by part-time employees and a rather large number of retirees who worked between 5 and 10 years prior to retirement.  It is typically not possible to accumulate a reasonable benefit in that period of time unless you start out in a very high paying position and retire under the formula.  That isn't the case for most people and so we have a left-skew to the distribution (it isn't a normal distribution) in which 67% of benefit recipients are to the right of the average benefit.  Consequently, picking any number to the left of the 50th percentile will insure that far more people are hit by the cap than would be hit if this distribution were normal.  Career employees average closer to $48,000 in benefits, not $24,000.  So any plan proposed by the legislature to cap the COLA immediately puts far more people in jeopardy than one that truly affects "about half" of PERS retirees.  Finally, we should note that the Washington judiciary has just turned down the Washington Legislature's attempt to eliminate their COLA for certain groups of retirees (they have 7 different retirement systems for public employees so it is a bit harder to compare theirs with ours, but the principle still holds).  In Washington, the decision is only at the Circuit Court level and has a long way to go before it is final and our brethren in Washington see their COLA reinstated, but the decision should give our Legislature some pause before it launches into its apparent plans.

Lastly, we have the income tax subsidy for residents of states other than Oregon.  This issue is much more tricky than it appears on first blush.  The subsidy traces to a US Supreme Court decision rendered in 1988.  The case, Davis v Michigan, centered on the question of whether Michigan could give its state retirees tax treatments it did not offer those Federal retirees living in Michigan.  The Supreme Court held that Michigan was wrong and had to treat both groups of retirees identically - either tax both or tax neither.  Federal retirees followed suit in Oregon, objecting to the fact that they were subject to Oregon tax while PERS retirees were not.  Their suit, Hughes v Oregon, prevailed in the Oregon Supreme Court in 1991.  In 1989, the Oregon Legislature passed legislation to start taxing PERS retirees rather than remove the tax on Federal retirees.  By 1991, the Oregon Supreme Court ruled on the Legislature's decision in Hughes, explaining that Oregon had to comply with Federal law and thus were correct in their decision to tax PERS retirees, but then they explained that the income tax exclusion for PERS retirees was part of the PERS Contract; therefore, the state had to come up with a remedy for the breach of PERS' contract.  Eventually, this resulted in two different Legislative solutions in different sessions.  The 1991 Legislative session passed a small subsidy to offset the taxation.  This remedy was SB 750.  This turned out to be insufficient and another bill eventually made it through the Legislature in 1995.  This bill, captioned HB 3349, attempted to remedy the shortcomings of SB 750.  Principally, SB 750, did not fully remedy for the breach and didn't satisfy the Oregon Supreme Court's original ruling in Hughes.  Instead of repealing SB 750, however, the Legislature adopted HB 3349 with implementation on January 1997.  At the same time the Legislature passed HB 3349, it adopted many other changes to the PERS system, including terminating Tier 1 with its guaranteed rate of return.  It created Tier 2 with language that stated that their benefits were explicitly NOT CONTRACTUAL.  Moreover HB 3349 passed with language stating that it, too, was not a contractual right.  Sometime during the early 1990s another Federal law changed stating that retirement income would be taxed in the state of residence, not from the source state if the two were different.  Prior to this change, all PERS income was subject to Oregon Income tax no matter where retirees lived.  Because of this, the earlier SB 750 had been part of the PERS contract, but by 1995 PERS income was only subject to Oregon Income Tax if the retiree lived in Oregon, not elsewhere.  When HB 3349 was considered, the issue of residency came up in the discussions.  Both PERS and the Oregon Department of Revenue objected strenuously to having to check residence of recipients and so the Legislature decided to pass HB 3349 without a residency requirement.  HB 3349 applies ONLY TO TIER 1 MEMBERS WHO WORKED ANY PART OF THEIR CAREER BEFORE OCTOBER 1, 1991.  The benefit was computed by determining the amount of time worked prior to 10/1/1991 as a percentage of total work time.  The resulting fraction was multiplied by 9.9% and the result determine what income tax subsidy an employee was eligible for.  As an example, I began my career in 1970 and retired completely in 2002.  Thus, in simple math, I worked roughly 67% of my career before 1991 and my tax subsidy is roughly 6.2% of my benefit.  

Nearly every year since about 2001 one or more legislators introduced a bill trying to clarify HB 3349 to indicate that it was only intended for retirees living in Oregon.  And from 2001 to 2010 the bills died without a hearing.  In 2011, the Legislature got more serious about PERS and again introduced a bill to limit the tax subsidy only to Oregon residents.  This time the bill got traction and after ferocious lobbying ended up passing.  However, the revised bill was not the bonanza anyone expected because it only applied to members retiring on or after 1/1/2012.  The mainstream media were livid because the whole point of the bill was to recapture revenue that escaped Oregon for, in their opinion, no good reason.  Because the Legislative Counsel was concerned about the legality of the move, the Legislature backed off on going after all out of state residents receiving the tax subsidy.  This year, however, the calls for repatriating that income have gotten louder and more shrill.  Moreover, because the HB 3349 language explicitly states that this isn't a contract right, it is unlikely that the Legislature will avoid trying to recapture the subsidy from members living out of state.  This would not be a retroactive capture; it would be simply cutting off that portion of the benefit in the future.  For out of state retirees, this would result in an approximately 5-10% benefit reduction; however still looming is the fate of SB 750 which was passed before the state started inserting "no contract right" provisions into changes to PERS.  Moreover, SB 750 passed before the source tax was eliminated.  So it is far from clear what impact a change to HB 3349 would have on out of state retirees, especially if SB 750 is viewed as a contract right.

Needless to say, these are but a few of the possible changes to PERS to look for in the 2013 Legislature.  I expect an attempt to put new PERS employees in a pure 401K type plan (a Tier 4 if you will).   No doubt other changes will be sought, including a change to the way retiree benefits are computed - an attempt to decouple the actuarial assumed interest rate from the assumed earnings rate on the fund.  

This is the year where PERS members near retirement and all retirees need to become politically active.  Truly draconian bills are unlikely, but draconian is still in the eyes of the beholder.  It is time to write your legislator, starting with your House representative and then to your Senate representative.   Silence is not golden.  Make your letters or emails short and to the point.  For the COLA, it is a CONTRACTUAL MATTER with more than 40 years of documented history, no caps, and already ruled on once by the Oregon Supreme Court.  If you were a union member during your working career, make sure you contact your union and ask how you can contribute to their political action fund.  The PERS Coalition is a group of unions that handles legal, political, and lobbying duties for the member unions.  If your group is a member of the PERS Coalition, emphasize to them how important some or all of these issues are to you personally.  Offer to help in any way you can.  If help isn't needed, send money.  This is going to be an expensive battle both politically and legally.  It is your (and my) retirement income at stake.  


Anonymous said...

Excellent summation, Professor. Now, a matter of lobbying protocol: If I am not a resident of Tina Kotek's District, is it still appropriate to communicate with her, and if so, how do I coujch the language of introduction in my letter?

George Schneider

mrfearless47 said...

George. You don't have to be her constituent to contact her. She is the leader of the WHOLE House, not just her own district. I would write her directly

Larry said...

My wife and I are some of those retiree's that moved out of Oregon a few years after we retired. I contacted several state politicians last year when the were proposing the changes to out of state benefits. No one responded. Who is going to represent the few of us who no longer lives in Oregon?

TruthSeeker said...

I wrote to tina Kotek, even though I am one of the evil expatriots living out of state. For better or worse, I called to her attention that I found it necessary to leave Oregon...a State which had recruited me away from Washington. My education and training had all been paid for or subsidized by other states, and I contributed financially, professionally, and as a community volunteer for 30 years. I told her I thought Oregon got a bargain, and losing the tax adjustment would hurt me significantly.

Anonymous said...

It is discouraging for me to notice when inaccurate information from reports, PCityClub, and journalism, Oregonian, enter the decision making process. Thanks for your continuing defense of accuracy in the ongoing PERS reform attempts.

Done with that! said...

Just a quick question...I'm one of those out-of-staters who's trying to estimate my tax "bump" liability. Your posting said 67% of your career was prior to the 1991 date, times the 9.9% factor, giving you an estimated 6.2% tax bump figure. My math says your figure is 6.63%. Am I missing something? My pre 1991 percentage is 54.7%

mrfearless47 said...

Both were rough estimates. I entered PERS in 1971 and retired in October 2002. The 67% figure was a rough approximation and so was the 6.2%. In fact, the actual figure is 6.42%. I didn't buy back my initial 6 months, as I didn't need it and the benefit increase was too small to justify the expense.

mpguy said...

Kitzhaber is proposing the $24K limitation on COLA increases. Marc, what is your opinion of 1) the likelihood that this will pass; and 2) the legality of going back on the 2% that the state has committed to?

mrfearless47 said...

Personally, I think the $24K figure is a bargaining tool. I *think* the game in play is to give the unions and the PERS coalition a point of negotiation that will result in a figure higher than $24K as the COLA cap in exchange for the unions and the coalition agreeing not to litigate. The state will claim they are not going back on the 2% figure; instead they are capping the income amount on which the two percent applies. I am convinced this is illegal in terms of the way the statute reads, but I am not an attorney and have no connection with the unions, the coalition, or the legislative branch. The fact that the unions and the coalition have done bupkis (nothing, nada, zero, zilch) tells me that they don't really have a solid plan to stem this tidal wave.

Kolbs said...

I have written my state senator, state representative, another representative that I know and Tina Kotek expressing my alarm of the COLA proposals. We all need to get on this ourselves and not rely on others to do it for us.

I will be sorely disappointed if the coalition or unions tacitly allow this to go forward without a fight all the way to the Oregon Supreme Court.

mpguy said...

Capping the COLA would seem to be a violation of contract law. Those retiring did so with the understanding that they could project their benefits out ahead based on the law at the time of their retirement. They agreed to retire at a certain beginning benefit level, knowing that at the time they retired, that the current benefit would increase by 2% (or less, Portland CPI was less, as adjusted by the COLA bank) each year.

If the Legislature can adjust this, it would seem that they can also adjust the core benefit downward as well. Both are written into the ORS, both are part of future benefit calculations, and both are rooted both in law and in custom. This would seem to be a dangerous road for Kitzhaber and the Dems to go down at this time.

If they're going to cap the amount on which the COLA applies (and that limit should be at least twice the $24K Kitzhaber talks about, then there should be no limit on the COLA. If the cost of living goes up by 4.2%, for example, then that should be the COLA for that year. The purpose of the COLA is to keep benefits up with inflation. If we can play with the 2% limitation, why not renegotiate other parts of the deal? PERS opponents claim that benefits are "too high." If we're going to, in effect, cut benefits, then part of the rationale for any limitation on annual cost of living increases would also seem to go by the wayside.

Now, if they want to cap COLAs for those retiring after a certain date, it would be different. Those people can decide, based on their initial benefit as modified annually by whatever rules apply to COLAs, to continue to work to achieve a higher initial benefit or retire knowing that that annual adjustment will not be under the current terms.

Thoughts, anyone?

mrfearless47 said...

@mpgguy. I agree with your analysis that this is a dangerous direction that kitzhaber's has gone in. That said, the Supreme Court has rules that benefits can be changed prospectively but not retroactively. The question all will have to answer before we know whether this strategy is legal or not is "when does the COLA statute become contractual and a vested right?" The way the statute is presently written (since 1971 I might add) it appears that the vesting occurs at the time of retirement. If that is true, then this fails the test of prospectivity as the COLA becomes contractual as written on the day you retire. Two legislatures in different states (Washington and Colorado) have tried to alter retiree COLAs, and in both cases the attempts were struck down by the court system. In CO the ruling came from the state Supreme Court, while in Washington the matter has not reached an appellate court. The issue that makes this so confounding and challenging is the fact that both the legislature and the judiciary would be affected by this decision eventually. Supporters of the COLA cap are going to argue that there is more of a conflict of interest here than on most other issues relating to PERS that have come before the court. It is going to be a very rocky ride however this plays out.

Andrew said...

Thanks for the illuminating post. Your point with respect to the COLA proposal that the mean PERS income is heavily skewed by part time or shorter term PERS employees is a critical one to drive home to legislators. For it undermines the moral force of the claim by proponents of the COLA cap that it would protect "low-income" retirees, as if doing so is tantamount to protecting the least-well off retirees. The fact is that a large number of these "low-income" retirees are receiving retirement income from other employment. Is it fair that they receive the full benefit of the COLA while career employees who do not have income from other employment don't? I think not.

Assuming capping the COLA is constitutional (which is doubtful), the cap should be set no lower than the $48,000 figure, representing the average career employee benefits. Moreover, whatever figure the cap is set at, it needs to be raised each year - otherwise the real value of the COLA will diminish substantially over time. (Assuming 3% inflation average over the long term, the current 2% max COLA already doesn't keep up. But at least it compounds, which it wouldn't for anyone above a non-inflation adjusted cap. This would result in a major loss of real retirement income over time).

One question on the tax subsidy: If eliminating the tax subsidy for out-of-state retirees were held by the Oregon Sup. Ct. to be in violation of SB 750 but otherwise permissible, what subsidy would SB 750 provide?

rikester said...

Just a note to let you know how much I appreciate you keeping up this blog. Since I am one of those out-of-staters. I don't really have access to the whole picture all the time from Nevada. Like everyone else, we counted on that 5.7% approx figure for us included in our retirement calculation. Since my spouse and I are both Pers retirees, we get the double whammy if the Kitz proposal becomes law. And I am one of those scheduled for a Strunk overpayment reduction in February, if the posted schedule is correct. Ouch! What I object to the most is that the legislature, rather than trying to find an equitable solution, is cherry picking seeming loopholes in the law, or trying to enact things like a cap which in effect is an attempt to retro-actively reduce promised benefits.

Anyway, thanks for all the 'fearless work'!

Anonymous said...

How do they come up with such huge savings by capping the COLA? 2% of the entire annual 2.9 billion is 58 million. They are talking about 810 million saved in the biennium. Are they figuring the total savings out forever and suggesting it will be available to reduce budgets for two years? Curious.

TruthSeeker said...

I continue to see much of what the legislature has tried to scam and now, Kitz, and nothing more or less that attempts at a "mulligan"
(DO-OVER) of the retirement agreement given to us by the State of Oregon when we retired...including the Tax Adjustment...whether in or out of state. Has Oregon morphed into Scott Walker's Wisconsin? nd here I was so thrilled with Kitzhaber's re-election...silly old me.

opuspus said...

I am curious, or better I don't understand the positioning for ending the tax "pick up" on out of state PERS retirees.Just as an example:
I am one of those who has moved form Oregon since retirement. O retired in 2011 after 29.5 years of service.
If the Oregon Legislature determines that it will "end the subsidy" does that mean that retirees checks will simply be cut by the lump liability each month, or will Oregon tax the retirement each month/year at the assumed rate?
If that is the case, and my retirement income is subject to Oregon income tax would I then be required to file an Oregon tax return? If that should be the case, then my guess is that many of us would have low enough incomes and deductions (such as medical deductions) that Oregon might end up owing us money back each year