Fending off state, cities vow to rein in retiree benefits costs

With the state’s failure to win more control over how local governments fund their retirement systems, the focus turns to what exactly cities will do to fix the problem.

Talk to officials in Saginaw, and they will tell you they’ve been working on this budget-sucking dilemma for at least seven years. Saginaw’s battle to get out from under unfunded legacy debts is familiar to cities across Michigan.

Saginaw has $375 million in unfunded retiree health care and pension obligations, according to the findings of a state task force. Its pension system is about 54 percent funded, according to the report. As for health care benefits, City Manager Tim Morales tells Bridge, “We pay as we go.”

But the city is making quiet, if hard-won, progress. Saginaw leaders and employee unions negotiated increased copays and contributions for health care, including in retirement. Management of the police and fire pension system was transferred to the Municipal Employees’ Retirement System, saving an estimated $200,000 a year in administrative costs. The city closed defined-benefit pensions in 2000 and negotiated a hybrid plan for new hires with capped city contributions. Retirement health benefits for new hires were eliminated after 2009 in favor of contributing to health savings plans for them, Morales said.

Saginaw also consolidated the retiree health plans it managed from 20 to four. Morales said that should reduce costs by $3 million annually, though it took years in court after the city was sued by a retiree group.

“In my opinion,” he said of state efforts to expand emergency powers over struggling cities, “the things that we’ve done … (are) about all that you could do to help reduce the cost and move toward becoming funded … (W)e didn’t need the legislation to tell us we had a problem.”

Skeptical state lawmakers hope Morales is correct.

Rep. James Lower, a Republican from Cedar Lake, fought for a more muscular state oversight role, an effort that failed earlier this month. State lawmakers, however, did get a provision that requires local governments to submit an annual report on their financial condition to the state.  

“If it doesn’t work out, it’s entirely on them,” Lower, chairman of the House local government committee, said of local and union officials who fought off a larger state role. “I, obviously, don’t think it will.

“We literally gave them what they asked for,” he added. “Hopefully they’re right. I sincerely hope they’re right.”

Finding a balance

As the legislative reforms giving local governments more leeway to rein in retiree health care and pension costs make their way to Gov. Rick Snyder’s desk, the measures are being praised for preserving local control and criticized for not going far enough to allow the state to intervene.

Some city leaders facing large liabilities to retirees say they know they have a funding problem, but insist the steps they have taken will be enough to satisfy the Legislature’s concerns.

“There’s certainly the possibility (that the state will have to get involved), and we don’t want that to happen,” said Ben Bakken, vice president of commercial banking for Mercantile Bank, and co-chair of an advisory group in Lansing working to ease that city’s budget strain.

In 2017, Lansing will spend $44 million ‒ more than a fifth of the city’s $197 million in revenue ‒ on promised pension and health care benefits to its retirees, according to the advisory team, convened by outgoing Lansing Mayor Virg Bernero. It’s enough to fund pensions, but not health care, too.

While the Lansing group says the city owes at least $680 million to its pension and retiree health care systems, the state task force appointed by Snyder put the city’s combined benefits debt closer to $737 million ‒ landing it near the top of cities with the highest unfunded liabilities in Michigan.

Lansing’s Financial Health Team insists it has a plan, one that will keep state government from having to step in.

On Dec. 13, the advisory group sent Bernero and Mayor-elect Andy Schor, a Democratic state representative from Lansing, recommendations that include offering Medicare-eligible retirees a stipend for health coverage in a reimbursement account, and evaluating whether it’s possible to sell off some city assets. The group also suggests ending subsidies for dental and vision coverage.

“We want to be able to continue to make those difficult decisions with our bargaining partners,” Bakken said, “as opposed to having those decisions made for us.”

The bills that made it out of the state House and Senate this month had bipartisan support, but only after lawmakers stripped a provision that would have allowed the state to send in a team under Michigan’s emergency manager law with the power to change local budgets, sell off public assets and even potentially change benefits plans if a community resisted developing its own plan to boost funding.

Democratic lawmakers, employee unions and some municipal lobbying groups opposed the idea of expanding the controversial emergency manager law.

Some drew comparisons to the lead-poisoning crisis in Flint’s drinking water after a state-appointed emergency manager switched water sources without properly controlling for corrosion to prevent lead leaching from old pipes. Others argued the expanded powers could erode benefits that had been bargained locally.

The watered-down language in the approved legislation prevents the state from intervening in communities that find themselves in fiscal distress due to underfunding, said Lower, who ultimately voted against legislation he co-sponsored.

Lower was one of just a handful of state representatives to oppose the final package of bills. He said the legislation as adopted doesn’t go far enough.

Republican legislators and several state business groups, including Business Leaders for Michigan and the West Michigan Policy Forum, say addressing funding shortfalls with these benefits systems is a top policy priority to avert local fiscal stress and preserve promised benefits for retired government employees who have earned them.

Without a mechanism like the expanded emergency manager law, there is no way to compel a municipality to develop or follow its own local corrective plan, Lower said. A plan that opponents initially said had too many teeth now, in his opinion, has too few.

A problem everywhere

Municipal retirees’ pensions across the state are underfunded by an estimated $7.5 billion, according to Snyder’s task force report. An estimated $10.1 billion in promised health care benefits to local government retirees has not been funded.

There are multiple reasons for this. People are living longer, so they’re drawing benefits later in life. In some cities, there are more retirees than active employees. Backers of a larger state role say some communities use overly rosy assumptions about investment returns and how long retirees will live. So too, health care costs are rising fast.

Local leaders note that other factors come into play that are not within their control, such as state cuts to revenue sharing to local governments over the years. And many older, industrial cities have a diminished tax base, with few options to increase revenue.

“While identifying the problem with accurate information is very important, our local government workers, Michigan’s taxpayers and our future generations need a solution,” John Kennedy, chairman of the West Michigan Policy Forum and president and CEO of Kentwood-based Autocam Medical, said in a statement after the Legislature voted. “We cannot simply stop at this point and think everything has been resolved.”

Bakken, of Lansing’s financial advisory team, doesn’t think efforts to restructure benefits are over.

“We were moving forward on the assumption that regardless of what (the current legislation) reads, there’s a potential at some point for cities that don’t manage it and don’t deal with it to have that decision-making ability taken away,” he said. “We don’t want to see that happen.”

Under the legislation, any community with a pension system less than 60 percent funded or a retirement health care system less than 40 percent funded would have to come up with a plan to increase funding. A municipality could negotiate those plans with their employee groups.

The legislation aligns with a set of recommendations put forth in July by Snyder’s task force.

The City of Warren has more than $550 million in combined unfunded pension and retiree health care liabilities, according to the governor’s task force report.

Mayor Jim Fouts told Bridge his city has increased funding for retiree health care benefits from 12.8 percent in 2010 to more than 26 percent as of October. The city’s strategy has been to draw some money from its fund balance to boost funding for retirement obligations, he said, which it will continue to do.

Warren’s 2018 general fund revenue includes 6.8 percent, or $7.7 million, from the fund balance to make annual payments into retiree health care systems for general employees and public safety officers, the budget document shows.

Local leaders’ complaints

Municipal leaders for years have said they are starved for cash, in large part because state law limits how fast property values can grow, which restricts city revenue collections in better economic times. That has left many communities unable to fully recover from the housing crash a decade ago. The impact has been compounded by years of cuts to state revenue sharing.

But a serious discussion about how Michigan can improve funding to local governments hasn’t gained steam in the Legislature, even as the state’s economy has improved under seven years of Republican control.

“They all talk about being willing to talk about it, but I don’t know how much,” said Deena Bosworth, governmental affairs director for the Michigan Association of Counties, which represents the state’s 83 counties.

“There are budget constraints coming up at the state level again,” she said, “so I don’t know if they’re necessarily thinking about the local units.”

House Democratic Leader Sam Singh, of East Lansing, said he would be willing to ask his caucus to discuss some of the tougher remedies that Republicans proposed for financially crunched cities ‒ but not without also looking at how state law restrains local revenue.

“I’m willing to look at additional ideas, but it has to be done in a comprehensive way,” said Singh, who supported the softened legislation.

Gideon D’Assandro, a spokesman for Republican House Speaker Tom Leonard, said House leadership would need to see a specific proposal on revenue reform before it could be considered. The priority has been to get more information on the funding status of employee legacy costs in local governments, he said.

The Michigan Municipal League, which represents Michigan cities, villages and urban townships, has floated ideas about restructuring Proposal A ‒  a 1994 law that lowered property tax bills and created a state funding stream for public schools ‒ to reverse a flaw exposed during the last recession that has limited how fast property values can rise.

Property taxes are many municipalities’ main revenue source. Proposal A limits annual growth of a property’s taxable value to the inflation rate or 5 percent, whichever is less. The Headlee Amendment, adopted in 1978, requires communities to roll back millage rates if total property tax revenue growth exceeds inflation. Taken together, local property values ‒ and tax revenue ‒ can only recover incrementally despite being able to tumble as fast as the market.

Meanwhile, even though revenue sharing to local governments via state sales taxes has increased in recent years, it remains below early 2000s levels.

The Municipal League and statewide associations for counties and townships opposed the original version of the bills, largely because of the emergency manager provision.

They say they are not entirely pleased with the bills that passed, either. They argue that the measures lack specific tools in state statute that would help them change retirement benefits promised decades ago to account for today’s rising healthcare costs.

“We’re going to continue to work for a full comprehensive reform,” said Chris Hackbarth, director of state and federal affairs for the League.

While the Snyder administration supported the more stringent version of the pension and health care reforms, State Treasurer Nick Khouri recently testified before a legislative committee, the legislation “doesn't solve all the problems facing local governments and retirees. But it does take a step toward transparency.”

Transparency is an important first step, agreed James Freed, city manager in Port Huron. Freed is one local official who supported the tougher version of the bills, arguing that the problem is too important to allow communities to choose to do nothing. He said the state needs some way to force action to protect benefits beneficiaries and taxpayers from insolvency and, potentially, bankruptcy.

But Freed added that Port Huron will not be a community that does nothing.

The city has about $71 million in unfunded pension liabilities and $48 million in health care obligations, he said. The city’s pension system is 49 percent funded, while its healthcare system is only 26 percent funded.

Port Huron has more than 200 active employees, but nearly 370 retirees.

Freed said he has directed numerous steps to deal with the funding shortfalls. Port Huron voters in August approved operational millages that will raise $2.2 million per year for five years to support public safety and parks and recreation.

The city contributes an extra $500,000 per year on top of the contribution it’s required to make toward its pension and health care benefits, Freed said. And it should save $1.5 million annually through negotiated concessions with its employee unions, he added, including lowering pension multipliers, capping overtime hours and final average compensation used to calculate pension benefits, and increasing health care deductibles and copays.

“When we’re dealing with an issue as important as this, I don’t think we should gauge the political winds,” we should develop the fortitude to get it done, Freed said. “If not now, when?”