DALLAS – Cities in Texas could see some wiggle room on pensions after a recent U.S. Appeals Court ruling in favor of Fort Worth, according to Moody's Investors Service.
The Fifth U.S. Court of Appeals upheld a lower court ruling that allowed Fort Worth to reduce pension benefits for new employees.
In a consolidated case, two police officers and three firefighters challenged the changes, arguing the amendments violated the Section 66 of the Texas Constitution that forbids the reduction of public pension "benefits accrued by a person."
The lower court found that Section 66 prohibits the impairment of accrued benefits for vested employees but does not prohibit pension reform that would decrease expected but as-yet unearned benefits.
In a comment on the July 1 appeals court ruling, Moody's analyst Andy Hobbs said the decision may provide an avenue for other Texas local governments managing single-employer pension plans to reform them, although the amount of local control over pensions varies considerably among cities.
"For some local plans, state statute guides benefit and contribution requirements, but in other cases like Fort Worth's, local governments and local pension trustee boards have more control," Hobbs explained.
Fort Worth, Dallas and Houston have suffered ratings downgrades over the past year based on rising pension obligations.
Moody's downgraded Fort Worth to Aa2 from Aa1 in May, citing a "high pension and fixed cost burden."
"The city's balance sheet is significantly more leveraged today than it was five years ago, primarily because of increasing pension liabilities," Hobbs wrote in Moody's July 14 commentary. "The city's pension contribution rate has consistently fallen below actuarial requirements, which significantly contributes to the increasing liability."
Moody's fiscal 2015 adjusted net pension liability for Fort Worth is $2.49 billion, which is above the reported unfunded actuarial accrued liability of $1.25 billion, according to Hobbs.
"When assuming the same level of contributions for pensions, the ANPL increases to roughly $3.26 billion for 2016," he said. "Under this calculation, the city's ANPL would likely exceed 400% of its 2016 operating revenues. The city's pension task force continues to evaluate the plans' funding progress in an effort to address the growing liability."
The Fort Worth City Council passed ordinances in 2012 altering the pension formula for new employees.
Under the previous formula, the city averaged the three highest-paid years for employees to determine benefits. The new formula changed that to the highest five years for new employees.
The ordinances also lowered cost of living adjustments.
Fort Worth's pension task force continues to evaluate the plans' funding progress to address the growing liability. In late 2017, the city will be required under Texas House Bill 3310 to produce a plan to address the growing liability.
"We expect that the city will continue its efforts to address the plan's funding challenge," Hobbs said.
This is the third year that new Government Accounting Standards Board rules have been in effect for financial reporting of pension obligations. Under the new provisions, funded ratios are based on market asset values and plans.
"As a result of these two provisions, the overall ratio of assets to liabilities was lower under the new rules than under the traditional rules," according to a recent analysis of 160 state and local pension plans by the Center for State and Local Government Excellence.
"What happens from here on out depends very much on investment performance," the report said. "In 2020, assuming expected returns are realized, plans should be 78% funded. If returns are lower, as predicted by many investment firms, funding will drift lower."
In 2015, pension funding was little changed, according to the report.
"Higher payments of the required annual contribution by state and local governments increasing to 88% in 2014 compared to 82% in 2013," according to the report.
