Auburn considers pension bond to fight CalPERS investment instability

In an attempt to stabilize the city's unfunded liability for its pension plans, Auburn City Council members reviewed the possibility for a pension bond last week. Currently, the city owes $20.6 million in unfunded liability to CalPERS, and rather than pay that on "an unstable" CalPERS amortization schedule, City Finance Director Andy Heath suggested the city look into floating a pension bond to pay a majority of what the city owes up front. Pension costs have risen since before the recession in 2008, Heath said. Auburn's unfunded liability amount is highly dependent on CalPERS' returns on investment, called the discount rate, which is currently set at 7 percent. Over the last 13 years, CalPERS has earned more than the current 7-percent discount rate six times and less than the current rate seven times, making the average return on investment closer to 5.5 percent. "This volatility in investment returns creates significant uncertainty in determining what employers are required to pay from year to year," Heath said. Currently, the city offers eight retirement plans, which employees and the city of Auburn pay into. CalPERS is the state entity which invests the contributions and sets the total estimated costs of each plan. The pension plans provide a portion of each city employee's salary from retirement through death, and sometimes a spouse's death, depending on the plan. As a means to mitigate the volatility in rising pension costs, Heath urged city council members to consider issuing a pension obligation bond. "It's probably better to take a good portion of what remains of our unfunded liability and invest that at a fixed rate, probably around 4 percent, as opposed to exposing it to the winnings of the CalPERS board and their ability to earn 7 percent every year," Heath said. "I think long term the city gains more doing that." Heath said advantages of a pension bond include budgetary predictability in future payments for unfunded liabilities, preserving cash for other city priorities, taking advantage of historically low interest rates and utilizing the city's good credit. The bond isn't without risk, though. Heath explained if CalPERS earns more than its 7 percent return, the city would then be super-funding CalPERS because it paid up front. Heath also warned if CalPERS were to earn less than its 7 percent return each year, a new unfunded liability would begin to grow. Heath suggested the new liability could be paid down with the city's already-established pension reserve fund, which currently has more than $2 million. To protect against super-funding CalPERS, Heath said he would look into a bond that covers approximately 90 percent of the city's current unfunded liability. "CalPERS costs are likely to continue to rise and cities stand to gain by considering alternative means to mitigate CalPERS costs in the future," Heath said. City council members agreed the bond would be a good idea, especially if it would free budget space for other city priorities. Heath said he would bring more options regarding the bond to the next city council meeting and present a financial team to work on the bond.