'Designed to Fail,' Pension Laws Imperil Texas Cities

rawlings-mike-dallas-mayor.jpg

DALLAS – Texas lawmakers bear responsibility for creating a local pension system that was "designed to fail," but Dallas is bearing the consequences, according to Mayor Mike Rawlings.

And those consequences, he said, could include bankruptcy for the state's third-most-populous city.

"It is horribly ironic that a city that has enjoyed such tremendous success, a city that has made Texas so proud and so strong, is potentially walking into the fan blades of what might look like bankruptcy," Rawlings told the Texas Pension Review Board on Nov. 3. "Shame on me, shame on you, shame on all of us if we allow that to happen."

In testimony about the dire straits of the Dallas Police and Fire Pension Fund, Rawlings detailed how decisions beyond the city's control created a $4 billion unfunded liability and drained a pension system that is only 46% funded.

A 1933 state law that created the fund gave majority control to plan members and their elected representatives. The original pension board included three representatives of the city council and four from the police and fire departments. Years later, the pension board changed the governing body to weaken city control even further.

"I would suggest that the fox guarding the henhouse is a great metaphor," Rawlings said.

The situation worsened in 1993 when the Legislature created the Deferred Retirement Option Program, commonly known as DROP.

The program allowed police officers and firefighters to continue working while investing their benefits into an account guaranteeing 8.5% interest, regardless of investment performance. The employees could later take the DROP proceeds as a lump sum payment.

As the current pension board seeks to preserve the fund by lowering the DROP guarantee and reducing benefits to new hires, members have retiring in large numbers and taking their lump-sum payments in an effect much like a run on a bank.

"There are plan members who are retiring with multi-million-dollar DROP accounts," Rawlings said. "This is much like a Bernie Madoff scheme, if you ask me."

The fund's looming insolvency has made it more difficult for Dallas to hire police and firefighters, Rawlings said. And the threat that the city might be forced to add money to the account has made it difficult to provide raises for current employees, he said.

Members of the fund were scheduled to vote this month on reforms designed to save the pension fund, but a court injunction has halted the process.

The Police and Fire Pension Fund has asked the city for a $1.1 billion cash infusion, but Rawlings called the suggestion "ridiculous," saying it would amount to an entire year of the city's general fund budget. Rawlings also rejected a proposal that would require raising the city's property tax rate by 130%.

As the pension fund unravels, the city is also bracing for a possible adverse court ruling in a lawsuit over back pay for police officers based on interpretation of a 1979 referendum. If the city loses, it could be on the hook for $4 billion, Rawlings said.

"These two issues combined represent an $8 billion hit, equivalent to eight years of our general fund budget," Rawlings said.

Combined, the $4 billion pension liability and a potential $4 billion court ruling represent "two looming public safety financial challenges that could bankrupt the city," Rawlings told the board.

The pension and lawsuit crises coincide with the Dallas City Council's plan to seek $800 million of bond authority from voters next May.

"At a minimum, the city will need $500 million for streets alone, which are in dire need of attention," Rawlings said. "It's going to be difficult to do that with these clouds on the horizon. So, the pension problem is diminishing our capacity to provide desperately needed infrastructure and basic city services."

While the city does not believe it is legally responsible for the $4 billion pension obligation, the city "stands ready to help," Rawlings said.

"But we will not be able to do so without major changes in the pension fund's governance system," he added.

That's where the 2017 Legislature is expected to step in, not only for Dallas, but also for Houston and other large cities. To grant the cities control of the pensions, Texas lawmakers will have to reverse the trend of recent years in which they pre-empted local regulations of everything from plastic bags to oil drilling in residential neighborhoods.

So far, three bills have been introduced, with Senate Bill 152 by Sen. Paul Bettencourt, R-Houston, providing the most sweeping change.

The bill would hand control of the local pensions to the cities, reversing the need for state legislative action on fund management.

Bettencourt's companion bill SB 151 would require voter approval for pension fund obligations in the municipality that sponsors the pension.

Houston Mayor Sylvester Turner, the City Council and the city's three pension systems have already reached agreement on a proposal for the Legislature designed to solve the city's growing crisis.

Under the plan, Houston employees would make $2.5 billion of concessions and the city would issue $1 billion of pension obligation bonds, reducing the unfunded obligation from $7.7 billion to $5.2 billion with a 30-year amortization period.

"The business community and legislative delegation are helping to get the plan enacted into law," Turner said in a letter to the city. "And, as I have said many times before, I will later ask taxpayers to step up and share in these sacrifices by agreeing to repeal the revenue cap that is crippling the City's ability to meet its growing needs."

In October, Moody's Investors Service downgraded Dallas one notch to Aa3. A week earlier, Fitch Ratings downgraded the city to AA from AA-plus. Both agencies cited the growing pension problems and maintained negative outlooks at the lower rating.

In March, Moody's downgraded Houston to Aa3 from Aa2, and S&P Global Ratings dropped the state's most-populous city to AA from AA-plus, based on the pension problems there. Those rating outlooks remain negative.

The cities are counting on legislative approval of the pension reforms to halt slipping bond ratings, but legislators are also considering an even tighter cap on local property taxes as a form of tax reduction.

Fort Worth has also been downgraded because of its pension liabilities.

In a Moody's Investors Service ranking of cities with the highest adjusted net pension liabilities as a percentage of operating revenues, Dallas ranked second worst at 549% behind Chicago at 719%. Houston ranked fourth at 414%. Austin ranked 14th at 267%, while San Antonio ranked 22nd at 188%.

For the 50 largest local governments, pension contributions totaled $17.6 billion in fiscal 2015, and exhibited a median of 5.2% of governmental revenues, up from $7.4 billion and 3.6% of governmental revenues in 2005, Moody's said. The median contribution in 2015 was 6% relative to operating revenues.

For reprint and licensing requests for this article, click here.
Texas
MORE FROM BOND BUYER