Dallas eyes November pension bond election as budget pressures mount

Bloomberg News

Dallas took an initial step last week that could lead to the issuance of $500 million of pension obligation bonds to ease general fund budget cost pressures as the city ratchets up contributions to its public safety employees retirement system.

In a 9-5 vote on Wednesday, the city council advanced consideration of a Nov. 3 ballot measure to its Aug. 12 meeting. In addition to pension bonds for the Police and Fire Pension System, voters could also be asked to approve $441 million of general obligation bonds for public safety training and other facilities. 

Dallas is ramping up contributions to the pension system over five years to reach actuarially determined levels by 2030 under a 30-year funding plan approved last year to comply with a 2017 Texas law. State lawmakers stepped in as the city projected the system would become insolvent within 10 years. The pension crisis led to downgrades of the city's bond ratings.

Dallas Chief Financial Officer Jack Ireland laid out potential pension bond issuance at a June 10 city council meeting.

"Primarily, the advantage is capturing that positive arbitrage if the investment returns exceed the cost of borrowing, and for Dallas, what that means is that we would be able to reduce our contribution from the general fund over to the Dallas Police and Fire Pension System, and we would be paying for those bonds through our debt service fund, so it gives some relief to the general fund," he said.  

On Wednesday, Ireland said current market conditions are not conducive for pension bonds and that the city would adhere to certain triggers before selling any debt.

"Rates for borrowing need to come down, and rates for investing need to go up, and you need that difference," he said. "If the timing is right and we can get lower prices to borrow and they are able to invest and get a better rate of return, it will save us money."

Council Member Kathy Stewart said she favored having "a planning tool like the pension obligation bonds in our back pocket" to deal with pension contributions draining the general fund. 

"There may be a time that this makes sense," she said. "That's probably not this year, maybe not next year, but it will be something that we will want to have this tool accessible and available."

Others disagreed.

"I'm 100% opposed to the pension obligation bond, which is solely about moving this from a general fund item to debt," Council Member Cara Mendelsohn said. "This will be a massive tax increase for Dallas."

Dallas' consideration of pension bonds comes as issuance of the debt by states and local governments has dried up since peaking in 2020 and 2021 when interest rates fell in response to the COVID-19 pandemic. 

Current higher interest rates are holding back issuance, according to analysts.

"When borrowing costs are low, it's a lot easier to make the math work on a pension obligation bond and the likelihood of success goes up," said David Draine, a principal officer at The Pew Charitable Trusts' state fiscal policy project. "As the rates get higher, the expectation of what you'll get from it should go down, and the likelihood of falling short should go up."

Todd Kanaster, an analyst at S&P Global Ratings, said pension bond issuers are taking a risk.

"If the market tanks right after issuance, you are probably not going to ever recover that — you've just now taken a very large amount of money and lost it," he said. "At the same time, if the market jumps, then you're probably going to come out winning on this."

He said S&P does not have a position on whether pension bonds are good or bad, but instead focuses on an issuer's understanding of the risks.

"You are taking on a large amount of risk with the expectation that it will be profitable," Kanaster said. "So, what if it's not? Can you, as an issuer, handle the volatility that falls out from that?"

City of Dallas

The Government Finance Officers Association has advised against the practice since 2015, advice Ireland noted in his presentation to the city council. 

Pension bond issuance was brought before the Dallas City Council in 2023 as a potential option to help tackle persistent pension funding problems, but was not pursued. 

In Texas, the triple-A-rated city of Irving sold $80.78 million of taxable GO pension bonds in 2022. 

Public safety costs are weighing on Dallas' budget. The city commenced action in April to address a $34 million shortfall due to police and fire pay and overtime, along with declining sales tax revenue and increased employee healthcare costs. The latest projection for the upcoming fiscal 2027 budget showed a nearly $51 million gap.

A proposition approved by Dallas voters in November 2024 requires the city to spend more on public safety, including to boost police starting pay and maintain a police force of at least 4,000 full-time sworn officers. A lawsuit brought by the Texas Attorney General's Office in February contended the city failed to comply with the measure by shortchanging the amount of the annual revenue increase. 

Shortly after the election, Moody's Ratings revised its outlook on the city A1 GO and other bond ratings to negative from stable, citing the measure's expected credit impact, including reducing the city's fiscal flexibility and boosting the Police and Fire Pension System's liability by increasing police starting salaries and the number of officers.  

Earlier this month, the rating agency revised its outlook back to stable, citing an expectation the city will increase pension fund contributions while maintaining structural balance amid rising cost pressures, including for public safety operations, that "will constrain budgetary flexibility absent meaningful revenue growth or expense controls."

Other rating agencies are also closely watching Dallas' pension situation. The city's GO debt is rated AA-minus by S&P, AA by Fitch Ratings, and AA-plus by KBRA  — all with stable outlooks.

The public safety retirement system's latest actuarial valuation report showed an unfunded actuarial accrued liability of $3.73 billion as of Jan. 1, while the funded ratio rose to 35.17% from 34.05% in 2024.

As of Sept. 30, Dallas had nearly $87.28 million of taxable pension bonds outstanding from a 2005 sale, according to the city's fiscal 2025 annual comprehensive financial report. The nearly $400 million issue carried a final maturity in 2035.