DATE: APRIL 4, 2023
DEPARTMENT: FINANCE
FROM: MARK ROBERTS, DIRECTOR OF FINANCE
TITLE: PENSION UAL UPDATE & COST-MANAGEMENT STRATEGIES RECOMMENDED MOTION:
Staff recommends the City Council accept and file this Pension Update & Cost Management Strategies staff report.
EXECUTIVE SUMMARY:
The City of Salinas’s (the “City”) unfunded accrued liability (“UAL”), also known as the net pension liability (“NPL”), has grown from $183 million as of fiscal year end 2017 to a projected $272 million as of fiscal year end 2023. Annual costs to amortize this debt with CalPERS have risen from $10 million to $16 million over the last 6 years and are projected to grow another 80% by fiscal year 2031. Rising pension costs are one of the largest financial challenges facing agencies state-wide and are projected to impact the City’s budget significantly in the near future, potentially crowding out other critical priorities and projects. The presentation accompanying this staff report provides an overview of recent pension cost trends, projected future cost trends, and several cost-management strategies for City Council consideration.
BACKGROUND:
The City of Salinas, like most cities in California, has a UAL associated with its CalPERS pension plan. A UAL occurs when current pension plan assets are not projected to be sufficient to pay projected pension costs in future years. As of June 30, 2021 (the most recent CalPERS valuation), the City's UAL was $165 million. CalPERS, however, has reported an investment return of -7.5% for fiscal year 2022, which is projected to increase the City's UAL to approximately $238 million. CalPERS investment earnings for fiscal year 2023 are approximately 0% year to date, which, if unchanged, may drive the UAL to more than $270 million at the plan’s June 30, 2023 valuation. CalPERS effectively charges the City a 6.8% interest rate on this debt and requires a repayment schedule that escalates quickly over the next decade as shown in the chart above. Payments to amortize this debt have risen from $10 million in fiscal year 2018 to $16 million in fiscal year 2023 and are projected to rise to close to $30 million by the end of the decade.
Historical Efforts: The City has taken some proactive steps to control pension costs already. In April 2022, the City approved the establishment of a Section 115 Trust with PFM Asset Management of which the balance of assets, which is specially earmarked for pension expenses, is currently approximately $6.2 million. Benefits of a Section 115 Trust include (1) the ability to use the funds in the future to pay down the plan’s UAL or help smooth required CalPERS expenses; (2) enhanced budgetary flexibility; (3) investment diversification of pension assets away from CalPERS; and (4) increased investment earnings vs other City reserves. Additionally, the City has made Additional Discretionary Payments (“ADPs”) to CalPERS in fiscal year 2018 ($11 million) and fiscal year 2020 ($4 million) and has historically taken advantage of the prepayment discount offered by CalPERS by making a lump sum UAL payment at the beginning of each fiscal year. Currently, the prepayment discount is approximately 3.3%. With pension costs increasing dramatically, however, staff believes additional action will be necessary.
Cost-Management Strategies: As noted above, the attached presentation provides an overview of the recent pension cost trends, as well as projected future trends. Most importantly, it discusses options for the City to consider implementing in the short term, to proactively prepare for the imminent cost increases. Specifically, these options include setting aside reserves and/or surplus funds, dedicating them to address this pension challenge, either in the form of deposits to the Section 115 Trust or directly to CalPERS in the form of an ADP. The concept of a UAL restructuring (pension bond) will be briefly introduced, but this option is not being recommended at this time, due to current market conditions.
CEQA CONSIDERATION:
The City of Salinas has determined the proposed action is not a project as defined by the California Environmental Quality Act (CEQA) (CEQA Guidelines Section 15378).
STRATEGIC PLAN INITIATIVE:
Monitoring the growth of revenues and expenditures, including determining when supplemental appropriations are necessary, supports the City of Salinas Strategic Plan 2023-2025 goal of Effective Government.
FISCAL AND SUSTAINABILITY IMPACT:
Taking action to address the City’s rapidly growing UAL will enhance the City’s fiscal sustainability by mitigating the impact of the increase and enhancing budget predictability.
ATTACHMENTS:
City of Salinas Pension Unfunded Accrued Liability (UAL) Cost Management Strategies Discussion (Presentation) Page | 4
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