Elimination and Reform of Retiree Health Care Benefit

Russell Fehr, City of Sacramento treasurer, reported that the City is close to $2 billion in debt, comprised of almost equal parts bond debt ($823 million) and unfunded liabilities for employee benefits ($950 million), comprised of unfunded pensions and unfunded retiree health care costs.

The real worry concerns the city’s pension and retiree health care liabilities, which have been soaring with scant council attention or public notice over the past five years.  The city has $469 million in unfunded pension liabilities, up a whopping 290% since 2005.  Its unfunded liability for retiree health care costs now stands at $440 million, a liability that has grown by $60 million since 2008.

Retiree health care costs are the sleeper liability!  While the city council has paid nominal attention to its pension liabilities, it has paid no attention whatsoever to an even larger unfunded liability: its obligation to pay retiree health care benefits.  The typical Sacramento family’s share of this $440 million liability amounts to over $7,000.

The city is now paying out about $11 million each year (on a purely pay-as-you-go basis) to cover the current costs of its retiree health care benefits.  To put the size of this outlay in perspective, $11 million/year is enough to hire 100 new city police officers, restoring almost all of the police officer positions eliminated during the past few years.  It’s a very big deal.

But that’s only the beginning of this monster liability.  The true annual actuarial cost of this sleeper liability is $43 million per year ($32 million more than the $11 million paid out in current benefits), a sum substantially more than the $27 million per year the city expects to bring in from Measure U, the half-percent city sales tax hike approved by voters in November.  Not only is the benefit a huge cost burden to city taxpayers, it’s a benefit that almost non one working in the private sector enjoys.

One of the most compelling points raised by Russ Fehr in his presentation to the council on city liabilities was the issue of inter-generational equity.  Is it fair to saddle future generations with liabilities for compensating the city’s current employees?  I would amplify the city treasurer’s message: it’s bad public policy, it’s financially dangerous, and, frankly, it’s morally indefensible.

So, what can the city do to rein in its escalating employee benefit liabilities and avoid a fiscal meltdown in future years?  For retiree healthcare benefits it ought to follow Sacramento County’s example and phase out its retiree health care benefit as rapidly as possible, relying upon the Affordable Care Act (Obama care) to provide subsidized health coverage for low and middle income city retirees before they become Medicare-eligible.  Eliminating the benefit would likely improve the city’s bond rating; lower future interest costs, and make borrowing for future major projects easier.

If the retiree health benefit is not ended outright, it should be retooled to require employees to fund it entirely or partially themselves through payroll deductions paid into a benefit trust account.

The city should increase the number of years of city employment it takes for the retiree health care benefit to vest, and it should eliminate the benefit for new employees.

Finally, it should cut off the benefit once a city retiree becomes eligible for Medicare or is covered under a spouse’s health plan.  Under the current plan, a 52-year old retired firefighter, collecting a pension equal to 90% of his final salary after working 30 years, pockets a $750/month cash medical benefit in retirement, even if he’s covered under his wife’s health insurance plan or is covered by Medicare.