(In 17th paragraph, corrects to read "costs are passed onto
member cities," not "passed onto members," to make clear that
the costs are borne by the cities, not by the the employees)
By Tim Reid
April 25 The City Council of San Jose, in the
heart of California's Silicon Valley, wants to quit the state's
public pension fund - which covers its current and former
members - because it fears it can't afford the rising
There's just one problem. It also can't afford the
"astonishingly high" termination fee of up to $5.7 million that
the California Public Employees Retirement System is demanding.
The catch-22 situation comes at a time when cities and
states are struggling to manage budgets because of soaring
The San Jose City Council voted unanimously in January 2012
to explore terminating its relationship with Calpers, America's
biggest pension system with $256 billion in assets. It asked for
a termination figure for the 30 current and former council
members subscribed to the plan. In January 2013, Calpers pegged
the cost at between $5 million and $5.7 million, a figure just
"I was astonished," said Mayor Chuck Reed. "It was a shock."
One year ago, he said, the city council's unfunded liability
figure estimated by Calpers was about $500,000. "I was expecting
at most two or three times that as a termination figure," Reed
He said the quit fee was so high that the city, America's
10th biggest with a population of nearly 1 million, had little
option but to keep paying into Calpers for the current and
former council members. Newly elected members are already
offered a different pension plan with lower costs and benefits,
and will not pay into Calpers, Reed said. The city's general
workforce pays into different pension funds not managed by
Brad Pacheco, a Calpers spokesman, said that when a
termination fee is paid, cities get fully funded and guaranteed
lifetime pension payments for all members in the plan.
San Jose is not the only California city looking for a way
out of Calpers or a way to renegotiate their obligations to the
The tiny southern California city of Canyon Lake served
formal notice to quit Calpers earlier this month, and Pacific
Grove, another small city, on the state's central coast, says it
wants to quit the plan but cannot because of the high
James Spiotto, a municipal bankruptcy specialist and a
partner at law firm Chapman and Cutler in Chicago, said the San
Jose city council is just a small example of a wider problem in
California where cities simply cannot afford their current
pension obligations to Calpers. Something has to give, he said.
"If municipalities can't pay, then they have to be able to
negotiate" with Calpers, Spiotto said. "You cannot have a
situation where a city says they can't do it, but Calpers says
they have to do it. That's an impossibility."
Calpers serves many California cities and counties,
including the cities of Stockton and San Bernardino, which filed
for bankruptcy last year under the pressure of rising costs for
wages and pensions.
RATE OF RETURN A BONE OF CONTENTION
Calpers calculated the San Jose council's termination fee
based on annual return rates of 2.37 to 2.5 percent -- compared
with a the 7.5 percent return rate it uses to calculate future
liabilities for members in the plan.
The higher the estimated rate of return, the less an
employer has to pay into the plan. But when a pension fund is
closed, contributions from cities and workers stop.
"Calpers can no longer go back to employers to make up
shortfalls," Pacheco said. "This is why we adopted a much more
conservative investment strategy for the terminated agency pool
where the assets are moved."
Critics say that Calpers' 7.5 percent long-term projected
return rate, as well as similar rate of returns adopted by
public pensions across the country, is artificially high. Some
economists suggest that pension funds, including Calpers, should
be using a lower rate to reflect risk-free investments such as
the yields paid by U.S. Treasury bonds.
When a pension fund's returns do not meet its projected
rate, a shortfall is created. The costs are generally passed
onto member cities. This month Calpers' board approved
accounting changes requiring state agencies, cities and counties
to pay rate hikes of up to 50 percent to cover the fund's
shortfall over 30 years.
Critics say the low discount termination rate produces a
huge one-time figure that makes it impossible for cities to quit
Calpers, and there is little that a single city can do.
"There has to be a number between 7.5 percent and 2.5
percent, but there is no means for a city to challenge that,"
said Karol Denniston, a bankruptcy attorney with Schiff Hardin
in San Francisco who helped draft California's bankruptcy
In San Jose, the council was worried about its rising
monthly contribution costs and a growing unfunded liability to
Calpers. Last year the city council paid Calpers $130,700 in
annual contributions, and this year it paid over $147,000. Next
year's projected annual contribution is nearly $165,000, the
Outside of the council, the city's workforce does not pay
into Calpers but into a separately administered municipal plan -
similar to other large California cities, including Los Angeles.
San Jose's workforce has had significant salary and pension
reductions imposed by the city council because of rising city
The council decided to look at terminating its own pension
plan with Calpers to show the city's wider workforce that it was
interested in reining in elected officials' pension costs.
(Reporting by Tim Reid in Los Angeles; Editing by Tiziana
Barghini and Leslie Adler)