Explaining East Lansing's Retiree-Related Debt

Sunday, October 25, 2015, 1:37 pm
By: 
Alice Dreger

 

Introductory note:  Two days ago, we published an article about a new analysis of East Lansing’s ballooning retiree-related debt and on a related campaign controversy. In response to that, we’ve been getting lots of questions about the City’s retiree-related debt.

Although I have been reporting on this story steadily for ELi’s readers for over a year, until it became a campaign issue a lot of people simply glossed over it. I get that; financial stuff can be boring to most of us. But I hope readers will take a moment to read this article so that they can catch up on what we think is a story that deserves continued attention from ELi’s staff and readers. It is, after all, about over $100 million in debt for which the City’s taxpayers are on the hook.

What debt are we talking about?

There are two relatively very big chunks of debt related to retired (or eventually-will-be-retired) City of East Lansing employees. These are our unfunded pension liability and OPEB (other post-employment benefits).

“Unfunded” pension liability is called that because it’s money we haven’t yet put away to cover that debt. We care specifically about the unfunded portion because it’s money that has yet to come from somewhere, not money that is already saved.

OPEB includes things like healthcare insurance we have promised to retired employees in contracts we made with them.

In the report I did last year on the City’s roughly $186 million debt, I showed that our unfunded pension liability was at about $62.5 million and our OPEB liability at about $43 million.

So what percentage of our debt is retiree-related?

Together our funded pension liability and OPEB liability represent about 57% of our City’s total debt. Absolutely and relatively speaking, it is a very large sum for East Lansing and has for many years been of great concern to our City Manager, our Finance Director, our employees, and our City Council.

Is it fair to say this is really part of the City’s debt?

Some people have said this isn’t really a “debt” because we don’t owe it all until the future. The definition of debt is “something that is owed or due,” so financial analysts speak of our unfunded pension liability and OPEB as a debt. City Finance Director Mary Haskell includes it in her discussions of the City’s debt. Our annual external audit considers it as part of the City’s debt.

Are external auditors concerned about this debt?

Yes. The most recent external audit named it as a major concern, particularly because changes in accounting standards are likely to start showing that, because of this retirement-related debt, our City is in the red, not the black. Said one auditor to City Council earlier this year, “Your net position will very likely not be positive anymore, and that will tell a story.” (Read about the audit here.)

The accounting standards change to which this auditor was referring is coming from the Government Accounting Standards Board (GASB). In the past, GASB didn’t require cities to put this retiree-related debt front and center—it got stuck in footnotes—so cities with huge retiree-related debts could still look pretty financially healthy in terms of the “bottom line” shown on their annual financial statements.

But it is because many cities are struggling with retiree-related debt that GASB is pushing those numbers up front—so that cities and their citizens become vividly aware of how retiree-related debt is affecting their financial presents and futures.

East Lansing’s retirement funds are managed by MERS, the Municipal Employees’ Retirement System, a public non-profit that manages retirement accounts for cities all over the state. Although the debt we are talking about is not new, MERS is worried about how the GASB change is going to make cities like ours look. MERS has offered public relations assistance to East Lansing and other cities, saying the GASB change “could present a range of communication and public relations challenges as local media outlets, the public and others try to understand how these changes affect local municipalities and why liability numbers appear to have changed from previous years.”

In other words, municipal retiree-related debt is becoming a public point of discussion as never before.

Is this GASB change likely to negatively affect our credit rating, and result in us paying more to borrow money as a City?

According to our Finance Director Mary Haskell, it seems unlikely this accounting change will harm our credit rating because credit raters have known about our retiree-related debt when rating us. (Read more about our credit rating here.)

How do we look compared to other Michigan cities?

According to MERS, East Lansing’s pension system is currently funded at about 58%. That means we have in the bank about 58% of what we will need to pay out.

According to MERS, this means that East Lansing is doing quite poorly compared to other Michigan cities. The graphic below is from a presentation made by MERS to East Lansing’s City Council at the request of Councilmember Ruth Beier on June 23. (Beier is a union-employed labor economist.) It shows that 2/3 of Michigan cities are funded at 70% or higher, but East Lansing is not in that group. In fact, East Lansing is in the bottom 15% of cities in terms of financial preparedness for paying pension obligations.

The average Michigan city investing with MERS has their pension system funded at 79%. Again, East Lansing is at 58%, well below the average, and according to MERS, we have been losing ground steadily for the last several years. Here is another illuminating slide from the MERS presentation in June:

In short, we are losing ground right now. In 2010, our pension system was 66% funded. By 2014, it was down to 58%. The latest analysis estimates we will be down to 53% by fiscal year 2021.

How did we get here?

There are a number of factors that led us to having this problem with funding our pension system. For years, East Lansing offered very generous packages to its employees, and now we have to make good on those commitments. Additionally, retirees are living longer than expected; good for our people, but tough on the pension pay-out numbers. The bear market of 2007-2009 took a chunk out of our MERS savings.

MERS has also been overestimating the likely investment return at 8% annually; their most recent report reduces the estimate to 7.75%, which doesn’t sound like a lot, but when you are talking about a 0.25% annual difference on millions of dollars, it turns into a lot of money not gained after all. If it turns out the real rate of return is even lower than 7.75%, we’ll be deeper still in the hole.

What are we doing to try to get out of this hole?

City Manager George Lahanas and City Finance Director Mary Haskell, with the cooperation of City employees and City Council, have been trying to deal with this problem by dramatically reducing the number of City employees, offering much less lucrative employment packages, slashing discretionary funding, passing bonds (like the library millage) as a way to fund city services, and putting large lump sum payments into the retirement system. Right now, fully 19% of our annual budget expenses goes simply to trying to make up the gap in our retiree-related debt.

Even so, as the most recent analysis shows, we are not keeping up.

How did this become a campaign issue?

In his campaign for reelection to City Council, Nathan Triplett has been stating that the City’s debt has been reduced “by nearly 30%” since he joined Council. That is true if you look at the budget that doesn’t include retirement-related debt. Triplett says that debt is separate.

Beier has been pushing MERS to produce new analyses and reports, and those are showing what she says she had feared: that we are in even worse shape than we thought. She has been voting in opposition to Triplett on many financial issues, particular tax increment financing (TIF) plans, in part because she is worried about how the City is going to meet its retirement-related obligations. MERS’s new report to East Lansing this week caused Beier publicly to lose patience with Triplett’s campaign statements about debt and to say that Triplett “is purposely misleading people so that he can say that as mayor, he reduced our debt. And that is not true.”

Triplett has not responded to Beier directly, but he has consistently specified, when it has come up in public, that his claims about debt reduction are not referring to retirement-related debt, which he has said is a separate issue from the debt he is talking about.

 

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