DALLAS – Dallas and Houston still face challenges to turn around troubled pension plans after securing pension legislation from the Texas Legislature, but officials are optimistic they can now reverse the downward trend of the past few years.
Houston must resolve a firefighters’ lawsuit and convince voters to authorize $1 billion of pension obligation bonds, while Dallas still faces some heavy financial lifting to restore the health of its Police and Fire Pension Fund. Both cities are hoping to remove negative outlooks on their general obligation ratings in the process.
“Now that we’ve resolved it, I assume the rating agencies will take another look,” said Houston Controller Chris Brown. “I know for certain that the market will respond positively to this.”
Regardless of the challenges ahead, Brown said Gov. Greg Abbott’s signing of the bill May 31 brought sighs of relief to Houston city officials, some of whom have been struggling with the pension issue for 16 years. Brown, who was elected controller in 2015, was previously deputy controller and has been dealing with the problem for 13 years.
“I feel like Houston has dodged a bullet,” Brown said. Had Senate Bill 2190 not passed this year, “it could have been a real financial calamity for the city.”
After Abbott signed House Bill 3158 reforming Dallas’ pension structure, also on May 31, S&P Global Ratings called the measure “a first step in stabilizing the city's police and fire pension plan and addressing some of the structural issues that led to rapid declines in the pension's funded ratio over the past year.”
In reviewing its negative outlook on Dallas’ AA-minus rating, S&P said its analysis “will focus on what impact the changes ultimately have on the plan's funded status as well as on whether contribution increases strain operating budgets.”
S&P analysts Andy Hobbs and Bianca Gaytan-Burrell noted that the Dallas plan has an amortization period of more than 40 years and that the Texas Pension Review Board considers that length actuarially unsound.
“We view the current amortization period of more than 40 years as a structural weakness because even if assumptions are met, there's a strong likelihood that the plan's net liability will continue to rise, albeit at a more modest pace,” they said.
Houston’s plan to issue $1 billion of pension bonds is a critical piece in the city’s plan to pay down its $8.2 billion pension liability over 30 years. Although Mayor Sylvester Turner opposed a provision in Senate Bill 2190 that calls for a public vote on the bonds, the bond election survived in final passage.
In the November election on the pension bonds, the city will likely compare the borrowing costs to a home mortgage interest rate, Brown said. Regardless of what form the pension liability takes, the city owes the money.
“This is essentially repaying borrowed money from the police and municipal fund,” Brown said. “At the interest rates that we could issue those bonds, around 4.5%, that’s well below the 8.5% from the pension. This money is going immediately as liquidity into the pension funds.”
If voters approve, Brown thinks it might be possible to get the bonds issued before the end of the year. However, a lawsuit by the Houston Firefighters Relief and Retirement Fund argues that the city’s reform plan violates the state constitution by undermining the fund's authority to select attorneys and actuarials and to create actuarial assumptions.
Firefighter opposition to SB 2190 developed in the waning days of the legislature because changes to the bill cut firefighter retirement benefits more than anticipated. The firefighters argue that their fund is in far better condition than the Houston police and municipal funds.
The HFRRF is asking the state district court to permanently block the city from acting on SB 2190 when it becomes law July 1.
"Our board is already being asked to knowingly violate its duty to the Texas Constitution through provisions contained in SB 2190," pension board Chairman David Keller said in a statement. "We will not collude in an act we believe to be illegal."
An injunction could also affect the city’s $2.4 billion general fund budget that goes into effect July 1. Under assumptions based on the new law, the city will be paying $70 million into the pension fund, about $23 million less than it would have paid under the old law.
HFRRF claims the correct contribution as $148 million, which it attributes in part to lower assumed rate of return, which the city lowered to 7% from the previous 8.5%.
"HFRRF’s Board maintains in the suit that it has sole constitutional discretion over determining actuarial assumptions for the Fund moving forward," it said in the statement announcing the lawsuit.
Houston carries negative outlooks on its ratings of Aa3 from Moody’s and AA by S&P.
In Dallas, the Police and Fire Pension is in much worse shape than Houston’s. Without legislative relief, the fund was headed for insolvency within a decade.
The Dallas pension plan has a city-reported net pension liability of $6.8 billion and is funded at an estimated 28%. The city estimates the actuarial accrued liability as of Jan. 1, 2017 to be $5.8 billion, funded at an estimated 36.8%.
Among the factors that led to the pension system’s peril were a high assumed rate of return coupled with increased investment risk-taking to try to achieve those returns. Also playing a part were actual economic and demographic experience that deviated from assumptions, and limitations on the city's ability to adjust contributions and reduce benefits to offset these losses.
With the pension fund’s survival in question, police and firefighters began to flood the system with retirements to lock in the previous rates. The retirements and the weakening of the pension system impaired the city’s ability to recruit new police and firefighters, Mayor Mike Rawlings told the Texas Pension Review Board.
In an alarming statement that made national headlines, Rawlings also warned that failure to reform the pension plan could raise the prospect of bankruptcy if it coincided with the city losing a separate lawsuit involving back pay to police over several years. A ruling in that case is still pending.
Fitch Ratings said it is awaiting a consultant’s analysis of how the new law will affect the pension fund before it issues a report. Fitch has a negative outlook on its AA rating for Dallas.
Fitch downgraded Dallas’ general obligation rating to AA from AA-plus in October, retaining a negative outlook.
Fitch said the new law “must stabilize the level of the city’s obligations to the plan and reduce the risks presented by the deferred retirement option plan in order to maintain the current rating.”
Moody’s has a negative outlook on Dallas’ A1 general obligation rating, lowered from Aa3 in December.