Other Shoe Drops in Troubled City Hall Finances

By Bill Dries

PwC City Pension Report

Concerns about the long-term financial health of Memphis city government that subsided in June go back to the front political burner at City Hall this week.

The administration of Memphis Mayor A C Wharton Jr. has a report on the city’s pension plan from PricewaterhouseCoopers LLP of Atlanta that concludes the city’s pension plan for city employees is unsustainable and “has continued to deteriorate.”

The 40-page report was delivered to Memphis City Council members over the weekend and it is up for discussion during Tuesday’s council budget committee session.

The report comes on the sixth anniversary of the event that is considered one of the triggers to the worst national recession since the Great Depression of the 1930s, the collapse of Lehman Brothers.

It is the impact of that recession that is the main culprit, according to the report.

In the fiscal year prior to the onset of the recession, the city’s defined benefits retirement plan for its employees was funded at a level of 104.5 percent. That dropped to 79.8 percent in the next fiscal year that began July 1, 2009 with a $449.5 million unfunded liability.

For the current fiscal year, the plan is funded at a 73 percent level with an unfunded liability of $682 million.

The fourth page of the 40-page report goes to the core of what have been different ways of looking at what until now were general numbers.

Municipal union leaders have contended over the last two fiscal year that the city did not have to put as much as some on the council, council member Kemp Conrad in particular, have advocated putting toward the unfunded liability.

Their reasoning has been that the city had the money to restore pay the 4.6 percent pay cut city employees took two years ago because the city’s investments of the pension fund were doing well.

Not well enough according to the report which acknowledges that “despite better than average asset returns for 2010 and 2011, the plan’s funded status has continued to deteriorate.”

“Assuming no other changes, it is estimated that it would require an annual asset return of 13 percent over each of the next 10 years in order to fully fund the plan,” the report continues.

If no action is taken by the city, the funded ratio drops to 72 percent with a $740 million unfunded liability in the next fiscal year.

If the city takes no action, state leaders in Nashville are certain to issue at least an advisory suggesting city actions as they did this past May in a critical report on city finances from Tennessee Comptroller Justin Wilson.

The PricewaterhouseCoopers report is what might be termed the other shoe dropping from that first report out of Nashville in May that was a political bombshell.

The PricewaterhouseCoopers report suggests several options all of which involve changing the city’s pension plan for employees and moving away from defined benefits to somewhere closer to defined contributions if not an outright switch to defined contributions. With such a transition, the city leaders must also decide if they will grandfather in some or all city employees to make them exempt from the changes or make the plan applicable to all city employees including those already vested in the existing pension plan.

The middle ground in such a transition is a multi-part plan that further divides past, present and future city employees as well as current employees who are vested and those who are not yet vested.

All of the issues in the two reports this year critical of city government finances are technical financial planning issues that are much more complex than the projects and initiatives and tax rates that get the lion’s share of attention at City Hall.

But in his May report to the city Wilson underlined their importance.

“This office strongly encourages the council to look at the fiscal needs of the community, including those that have been less visible due to interfund borrowing,” Wilson wrote.

Wilson also pinned the city’s financial instability to its 2009 debt restructuring through a bond refunding issue known among those in municipal finance as “scoop and toss.” What gets tossed is the city’s debt into future fiscal years with dramatically increased debt payments due in those out years.

Wilson said that the shifting of funds among the fund balances gave the false impression that the city’s budget is balanced when it is not.

Wharton proposed and the council approved the measures recommended by Wilson which included using $11 million in its reserves to restore the negative fund balances in several of the funds.

The council approved a $3.40 city property tax rate in June – a four-cent tax hike after adding another 25 cents just to get the same amount of revenue as the old $3.11 rate after the 2013 property reappraisal.

The budget included laying off 50 city employees, instead of the 100 initially proposed, and losing 300 more through attrition. It also restored the 4.6 percent pay cut and cut the police budget, the largest division of city government, by 2.5 percent.

Wilson didn’t bar the city from a second restructuring or “scoop and toss” but said it should be the last.

Wharton’s administration tweeked the restructuring to toss less of the increased debt to the out years. But Wharton later said he would delay pulling the trigger on the restructuring because national economic conditions had changed the return the city had hoped for to less than the $9 million to $10 million anticipated.