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Cypen & Cypen
July 26, 2012

Stephen H. Cypen, Esq., Editor

1.     FIVE MYTHS ABOUT PUBLIC EMPLOYEE PENSIONS:     Writing in the Huffington Post Blog, Harold Schaitberger, general president, International Association of Firefighters, writes about the oft-repeated myth being fed by many that claims the defined benefit pension plans available to most public employees are going bankrupt.  While one new report feeds those myths, its research paints a false picture of pensions.  So, here are five repeated myths about public pensions, followed by the facts: 

  • Pensions are going bankrupt.   Methods used to calculate a pension system’s funding level are quite complicated and convoluted, which has enabled detractors to point to the funds in a few states where funding shortfalls are notably higher.  In 2010, when recovery was not as far along as it is today, 16 states were above the threshold some say is necessary to qualify for good fiscal health.  The number of states meeting that threshold today is probably much higher.  Most important, pensions will continue to recover steadily as markets rebound. 
  • States are facing an unfunded liability in excess of anywhere from $757 Billion to $3 Trillion.  The concept of an unfunded liability is misleading because pension benefits are paid out over decades.  A mortgage represents a good analogy. Imagine newlyweds, both of whom work, buying a $300,000 home and putting $20,000 down.  The $280,000 they owe represents an unfunded liability, but like pensions, that money is not due all at once.  It is due over 30 years under the terms of a typical loan agreement.  Opponents of public employee pensions have skillfully portrayed pension liabilities as a bill that is due today.  
  • States can no longer afford to pay benefits.  Payments to pension systems account for less than three percent of state budgets.  Most of the funds in pension plans are not even provided by taxpayers; indeed, two-thirds of all pension assets are contributed by employees or earned on investments.  Where pensions are underfunded, it is overwhelmingly because of the recession and because states took “pension holidays,” which means politicians declined to make their state or locality’s annual contribution, breaking a promise to the public servants of that state and in a bad faith effort as the fiscal stewards of taxpayer dollars.  Had they simply honored their commitments when times were good, virtually no state pension system would have unfunded pension liabilities that raise concerns. 
  • Public employee benefits are overly generous.  Since pensions are now virtually non-existent in the private sector, and because the recession decimated the nest eggs of everyone with money in the stock market, opponents of defined benefit pensions have gained traction with this argument by creating and fostering pension envy.  The story that is not told is that the pensions public employees receive, in most cases, are the only source of income those workers receive in retirement since most are not allowed to collect Social Security. And the median benefit of those receiving a pension paid by a public employer is $23,407.  The hope is that their pension gives the average public worker the ability to pay his basic bills, but they definitely are not getting rich in their old age.
  • We can fix the pension system by converting to 401(k)-style defined contribution plans.  There is a well financed effort to force 401(k) plans as the solution, because Wall Street firms stand to earn billions of dollars in fees if pensions are converted to 401(k)s.  But the momentum of that effort is dwindling because 401(k)s have provided investors with a paltry return over time.  Think about what has happened to your own 401(k) since 2008, and whether the money in that account would be enough to sustain you in retirement.  A 60-year-old who worked for 30 years has an average 401(k) account balance of $172,555.  That sum will provide retirement income of only $575.18 per month.  It would take a 401(k) balance of $1,000,000 to provide $40,000 annually over one’s lifetime.  The real retirement crisis is not in the public sector, however, it is in the private sector.  The average 401(k) balance today is just $71,500.  Americans whose retirement security relies on Social Security supplemented by such small balances in 401(k)s must consider how they will avoid falling into poverty in their retirement years, and states will need to figure out how they will provide welfare to those who do.  The 401(k) was always intended to supplement -- not replace – one’s retirement income.  About 10,000 Americans a day are turning 65 years old.  While Wall Street’s 401(k) plans have done nothing to help retirees enjoy their golden years, defined benefit plans are the best way to support retirees and allow them to continue to contribute to their local economies. 

     A recent piece in the New York Times by Teresa Ghilarducci, well-known economics professor, is important enough to merit extensive review.  What Professor Ghilarducci says is spot-on … and scary.  Seventy-five percent of Americans nearing retirement age in 2010 had less than $30,000 in their retirement accounts.  Almost half of middle-class workers, 49 percent, will be poor or near poor in retirement, living on a food budget of about $5 a day.  To maintain living standards into old age we need roughly 20 times annual income in financial wealth.  If you earn $100,000 at retirement, you need about $2 million beyond what you will receive from Social Security.  If you have an income-producing partner and a paid-off house, you need less.  This number is startling in light of the stone-cold fact that most people aged 50 to 64 have nothing or next to nothing in retirement accounts, and thus will rely solely on Social Security.  If we manage to accept that our investments will likely not be enough, we usually enter another fantasy world -- that of working longer.  After all, people hear that 70 is the new 50, and a recent report from Boston College says that if people work until age 70, they will most likely have enough to retire on (see C&C Newsletter for July 3, 2012, Item 5).  Unfortunately, this situation ignores the reality that unemployment rates for those over 50 are increasing faster than for any other group and that displaced older workers face a higher risk of long-term unemployment than their younger counterparts.  If those workers ever do get re-hired, it is not without taking at least a 25 percent wage cut.  Like the nation’s wealth gap, the longevity gap has also widened.  The chance to work into one’s 70s primarily belongs to the best off.  Medical technology has helped extend life, by helping older people survive longer with illnesses and by helping others stay active.  The gains in longevity in the last two decades almost all went to people earning more than average.  It makes perfect sense for human beings to think each of us is special and can work forever.  To admit that you cannot, or might not be able to, is hard, and denial and magical thinking are underrated human coping devices in response to helplessness and fear.  It is irresponsible for Congress to deny that regardless of how much you throw 401(k) advertising, pension cuts, financial education and tax breaks at Americans, the retirement system simply defies human behavior.  Basing a system on people’s voluntarily saving for 40 years and evaluating the relevant information for sound investment choices are like asking the family pet to dance on two legs.  Not yet convinced that failure is baked into the voluntary, self-directed, commercially run retirement plans system?  Consider what would have to happen for it to work for you.  First, figure out when you and your spouse will be laid off or be too sick to work.  Second, figure out when you will die.  Third, understand that you need to save 7 percent of every dollar you earn.  (Didn’t start doing that when you were 25 and you are 55 now?  Just save 30 percent of every dollar.)  Fourth, earn at least 3 percent above inflation on your investments, every year.  (Easy.  Just find the best funds for the lowest price and have them optimally allocated.)  Fifth, do not withdraw any funds when you lose your job, have a health problem, get divorced, buy a house or send a kid to college.  Sixth, time your retirement account withdrawals so the last cent is spent the day you die.  The current model for retirement savings, which forces individuals to figure out a plan for their retirement years by individual decision-making will always fall short.  According to the Employee Benefit Research Institute, only 52 percent of Americans expressed confidence that they will be comfortable in retirement (see C&C Newsletter for April 26, 2012, Item 2).  Twenty years ago, that number was close to 75 percent.  The coming retirement income security crisis is a shared problem; it is not caused by a set of isolated individual behaviors.  Professor Ghilarducci’s plan calls for a way out that would create guaranteed retirement accounts on top of Social Security. These accounts would be required, professionally managed, come with a guaranteed rate of return and pay out annuities -- a sensible way to get people to prepare for the future.  You don’t like mandates?  Get real.  Just as a voluntary Social Security system would have been a disaster, a voluntary retirement account plan is a disaster.  It is now more than 30 years since the 401(k)/Individual Retirement Account model appeared on the scene.  This do-it-yourself pension system has failed.  It has failed because it expects individuals without investment expertise to reap the same results as professional investors and money managers.  What results would you expect if you were asked to pull your own teeth or do your own electrical wiring?  Although humans may be bad at some behaviors, we are good at others, including coming together and finding common solutions that protect all of us from risk.  Surely we can find a way to help people save -- adequately and with little risk -- for their old age.  Well said. 
3.      HOW BIG IS THE LEAKAGE FROM 401(K) LOAN DEFAULTS AND WHAT CAN POLICYMAKERS DO TO PRESERVE AMERICANS’ NEST EGGS?:      One thing in the piece from Professor Ghilarducci was not separately treated, is “leakage” from the retirement savings on an involuntary basis (see Item 2).  During times of economic stress, Americans increasingly borrow against their 401(k) accounts to smooth consumption and to extinguish other debts.  In a paper from Robert Litan and Hal Singer, both with Navigant Economics, entitled “401(k) Loan Defaults:  How Big Is the Leakage and What Can Policymakers Do to Preserve Americans’ Nest Eggs?,” this pattern has been clearly in evidence during and since the Great Recession of 2008-09.  According to the Investment Company Institute, the percentage of active plan participants with a 401(k) loan increased from 15.0 percent in 2006 to 18.5 percent in 2011.  If a participant loses his job, becomes disabled or dies with a 401(k) loan outstanding, then the loan generally goes into default, and his retirement account is debited the loan amount plus applicable taxes and penalties.  New data on 401(k) accounts suggest that this “leakage” from Americans’ retirement savings on an involuntary basis was in excess of $9 Billion in 2009.  Because this estimate is largely driven by default rates on 401(k) loans from mid-2005 to mid-2008, including default due to job loss, the amount of leakage is much greater to the extent that 401(k) loan defaults increased with the onset of the recession in late 2008.  In the policy brief, the authors estimate the size of the leakage in light of more realistic estimates of 401(k) loan defaults; the leakage could be as high as $37 Billion per year depending on the source of the data on loans outstanding and the assumed default rate.  The authors also highlight the disparate impact of a participant’s borrowing against 401(k) balances across racial lines.  The findings raise serious policy implications.  They largely embrace policies that reduce the likelihood of 401(k) loan default, but suggest an additional remedy that would insulate borrowers from losses upon default:  that the default rule or “base setting” in a sponsor’s plan provide insurance via auto-enrollment with an opt out to participants who borrow against a 401(k) account, which is analogous to standards requiring mortgagors posting smaller down payments to purchase private mortgage insurance.  Unlike mortgage insurance, in the case of 401(k) loans, the borrower is also the lender, which means that costs relating to information asymmetries are mitigated.  The authors demonstrate that the social benefits of steering (but not compelling) plan participants towards insurance when they borrow are likely positive and economically significant.  Interesting thoughts. 
4.      NASRA’S TAKE ON COLAS:      National Association of State Retirement Administrators has issued a brief on Cost-of-Living Adjustments.  Most state and local governments provide a COLA for the purpose of offsetting or reducing effects of inflation, which erode the value of retirement income.  Using the actual average inflation rate for two time periods (2001-2011 and 1981-2001), after 20 years, the real (inflation-adjusted) average U.S. public pension benefit in 2010 of $22,600 falls to $14,052 (62 percent of its value) or $10,976 (49 percent of its value), depending upon the actual rate of inflation.  This depreciation can affect sufficiency of retirement benefits, particularly for those who have no means to supplement their income due to disability or advanced age.  Social Security beneficiaries are provided an annual COLA to maintain their purchasing power. Similarly, most state and local governments provide an inflation adjustment to their retiree pension benefits.  This adjustment is particularly important for those public employees -- including nearly half of public school teachers and most public safety workers -- who do not participate in Social Security.  Unlike Social Security, however, state and local retirement systems typically pre-fund cost of a COLA over the working life of an employee to be distributed annually over the course of his retired lifetime.  The way in which public pension COLAs are calculated and approved varies considerably.  In general, COLA types and features are differentiated in the following ways: 

  • Automatic vs. Ad hoc - An overarching distinction among COLAs is whether they are provided automatically or on an ad hoc basis.  An ad hoc COLA requires the governing body to decide upon a postretirement benefit increase.  By contrast, an automatic COLA occurs without action, and is typically predetermined by a set rate or formula.  In some cases, ad hocCOLAs are accompanied by other factors, such as maximum unfunded liability amortization period. 
  • Simple vs. Compound - Another distinction between COLA types is whether the increase is applied in a simple or compound manner.  Some COLAs are both, in that they may be simple until the retiree reaches a certain age or year retired, at which point COLA benefits are calculated using a compound method.
  • Inflation-based - Many state and local governments provide a post-retirement COLA based on a consumer price index, which is a measure of inflation.  Most provisions like this restrict the size of the adjustment, such as by one-half of CPI, but not to exceed three percent.  
  • Performance-based - Some public pension plans tie their COLA to the plan’s funding level or investment performance. 
  • Delayed-onset or Minimum Age - Another characteristic contained in some automatic COLAs is to delay its onset, either by a given number of years or until attainment of a designated age.  A COLA may take on any of the characteristics above and become available once a retiree meets the designated waiting period or age requirement. 
  • Limited Benefit Basis - Some retirement systems award a COLA calculated on a portion of a retiree’s annual benefit, rather than the entire amount.  For example, one system provides a COLA of three percent applied to only the first $18,000 of benefit.  
  • Self-funded Annuity Option - Some state retirement plans offer post-retirement benefit increases through an elective process known as a self-funded annuity account.  Under this design, a member effectively self-funds his COLA by choosing to receive a lower monthly annuity in exchange for a fixed rate COLA to be paid annually after retirement. 
  • Reserve Account - Other public retirement systems pay COLAs from a pre-funded reserve account.  This variation of COLA is tied to investment performance since the reserve account is funded with excess investment earnings.  

The Governmental Accounting Standards Board requires public pension plans to disclose assumptions regarding COLAs, including whether the COLA is automatic or ad hoc and to include the cost of COLAs in projections of pension benefit payments.  Unlike automatic COLAs, the cost of ad hoc COLAs is typically not funded in advance, but rather increases the plan’s unfunded liability or amortization period or both, and increases future costs.  GASB considers an ad hoc COLA to be substantively automatic when a historical pattern exists of granting ad hoc COLAs or when there is consistency in the amount of changes to a benefit relative to an inflation index.  As part of efforts to contain costs and to ensure sustainability of public pension plans, and in response to the current period of historically low inflation, many states recently have made changes to COLA provisions by adjusting one or more of the elements mentioned above.  The conclusion is the effects of a COLA can be consequential both in protecting purchasing power and in adding costs to a plan.  As states consider measures to ensure the sustainability of their pension plans for both those currently retired or employed and future generations of workers, policymakers are reexamining all aspects of benefit design and financing, including the way COLAs are determined and funded.  Just as high periods of inflation in the past placed pressure on states to add or adjust COLAs upward, the recent low rates of inflation, combined with sluggish state and local revenues and poor investment returns, have spurred action to reduce COLA levels.  Some states have included provisions that would enable COLAs to increase should inflation grow or funding status or fiscal conditions improve. 
5.      RETIREMENT READINESS – CONSENSUS ON A COURSE OF ACTION:     A new Position Paper from Retirement Advisor Council concludes that for many, target income replacement ratios should be higher than the 70-75% conventionally accepted as a rule of thumb.  The higher ratio is to account for projected cost of healthcare in retirement, and traditional financial planning concerns such as personal health, children education needs and the cost of caring for elderly relatives.  Regardless of target income ratio, the paper calls for consistent contribution levels in the range of 10% to 16% of pay over a 30-year or 40-year career.  To measure retirement readiness the authors suggest a two-prong approach:  one measure based on income replacement ratios for younger participants with a decades-long horizon to retirement and a different set of measures for those with limited savings and a shorter timeframe.  The paper also touches on the type of tools most impactful on participant behavior.  When it comes to automatic enrollment, the authors advocate for a default deferral election in the range of 6% to 10%, which far exceeds the 2% to 3% many employers adopt out of fear of disruption, which experience suggests is unfounded. 
6.      MOODY’S REQUESTS COMMENT ON ADJUSTMENTS TO U.S. STATE AND LOCAL GOVERNMENT REPORTED PENSION DATA:     A Request for Comment from Moody’s Investors Service requests feedback on its proposal to implement several adjustments to the pension liability and cost information reported by state and local governments and their pension plans.  While its methodologies for rating state and local government debt already incorporate an analysis of pension obligations, Moody’s seeks comment on whether the proposed adjustments would improve comparability of pension information across governments and facilitate calculation of combined measures of bonded debt and unfunded pension liabilities in its credit analysis.  Moody’s is considering four principal adjustments to as-reported pension information: 

  • Multiple-employer cost-sharing plan liabilities will be allocated to specific government employers based on proportionate shares of total plan contributions
  • Accrued actuarial liabilities will be adjusted based on a high-grade long-term corporate bond index discount rate (5.5% for 2010 and 2011)
  • Asset smoothing will be replaced with reported market or fair value as of the actuarial reporting date
  • Annual pension contributions will be adjusted to reflect the foregoing changes as well as a common amortization period

The proposal is part of Moody’s ongoing efforts to bring greater transparency and consistency to analysis of pension liabilities, which have driven a number of downgrades and outlook changes for states and cities.  In 2011, Moody’s began using consolidated debt and pension metrics in its state government credit analysis.  Moody’s proposes these adjustments to address the fact that government accounting guidelines allow for significant differences in key actuarial and financial assumptions, which can make statistical comparisons across plans very challenging.  While Moody’s does not expect any state ratings to change based on these adjustments alone, it will take rating actions for those local governments whose adjusted liability is outsized relative to their rating category.  With specific reference to the last bullet point, although Moody’s has actively monitored pension pressures, the cost-sharing adjustments could enhance its view of the long-term pension liabilities facing certain issuers, and new data regarding sector medians and averages could reveal some unexpected outliers.  Moody’s did not, however, anticipate mass rating actions because in the past its analysis of pensions has included an assessment of the assumptions underlying the reported data and the fact that pensions are only one factor in its analysis.  Nevertheless, the full rating impact of the proposed pension adjustments in the local government sector has not yet been determined.  As in the state sector, Moody’s has long considered unfunded pension liabilities in its rating analysis, and has downgraded ratings or assigned negative outlooks to a number of cities’ ratings in recent years.  (Examples include Chicago, Illinois; Providence, Rhode Island; and San Jose, California.)  Also as in the state sector, a new methodology and scorecard for local governments would incorporate adjusted pension data and consolidated debt metrics. 
     New census estimates show that while a growing number of Americans surf the Web, some states still lag behind in Internet adoption.  According to, about 71 percent of U.S. households were connected to the Internet in 2010, up from 61.7 percent in 2007.  Strong divides in Internet access remain, with adoption rates varying widely among different regions and demographic groups.  In some rural areas, Internet providers offer limited coverage or slow connection speeds.  Many low income Americans also opt not to purchase Internet service, citing cost concerns.  Data indicate southern states have the nation’s lowest household adoption rates.  New Mexico recorded a household adoption rate of 64.1 percent -- the lowest of any state -- likely explained in part by its high Hispanic and American Indian population, groups typically less likely to connect to the Internet.  By comparison, an estimated 86.2 percent of New Hampshire residents had household Internet access, the highest share in the survey.  Household access jumped in all 50 states over the three-year period, although Indiana’s rate of 66.8 percent changed little.  The survey results did not distinguish among Internet connection types for state adoption percentages.  It is no surprise that less-educated individuals are far less likely to have their homes wired.  Only 43 percent of those age 25 and older with less than a high school education and 66 percent who graduated high school but did not attend college had access at home, compared to nearly 91 percent holding at least a bachelor’s degree.  Household Internet adoption also varies across race and ethnicity:  about 63 percent of Hispanics and blacks lived in households with access, compared to 81 percent for non-Hispanic whites and nearly 87 percent for Asians.  In Florida, Internet access at home rose 7.1 percent, from 69.5 percent to 76.6 percent. 
8.      PENSION ACCOUNTING FOR DUMMIES:     An editorial from the Wall Street Journal believes new government reporting rules are no better than the old ones.  Government Accounting Standards Board has issued new rules that aim to crystallize government pension liabilities (see C&C Newsletter for June 28, 2012, Item 5).  .It failed on that count, but it did succeed, albeit inadvertently, in making the case for defined-contribution plans.  GASB sets accounting guidelines for local governments.  Since the board is run mainly by former public officials, its standards are often low.  The board also usually takes several years to finalize rules, so it is often behind the times.  The new rules concerning how governments discount their pension liabilities are a case in point.  Financial economists have recommended for decades that governments calculate pension liabilities using so-called “risk-free” rates pegged to high-grade municipal bonds or long-term Treasuries.  The argument goes that since pensioners are de facto, secured creditors -- even bankruptcy judges have been reluctant to slash retirement benefits -- pensions are riskless and therefore the liabilities should be discounted at risk-free rates.  Governments have resisted climbing down from Fantasyland because using lower discount rates would explode their liabilities.  When Financial Accounting Standards Board introduced its risk-free rate guidelines, many companies shifted workers to 401(k)s because they did not want to report larger liabilities.  (DC plans, by definition, are 100% funded.)  GASB’s new rules allow governments to continue discounting their liabilities at their anticipated rate of return, so long as they project enough future assets to cover their obligations.  At the time they forecast they will run out of assets, they must begin discounting their liabilities with a high-grade municipal bond rate.  The idea is that governments would have to issue bonds to pay retirees when their pension funds go broke.  But few pension funds project that they will run dry, since they are hooked up to a taxpayer IV.  It is impossible to get governments to come clean about their pension debt, and not just because the union allies controlling pension funds have a vested interest in obfuscating the liabilities.  In reality, nobody knows how much taxpayers will owe because so much depends on inscrutable actuarial and economic factors like interest rates 30 years from now.  One advantage of DC plans is they do not require governments to calculate their liabilities; there are none. 
9.      NCPERS RESPONDS TO WALL STREET JOURNALEDITORIAL:     Hank Kim, Executive Director and Counsel of National Conference on Public Employee Retirement Systems, has responded to the above Wall Street Journal editorial (see Item 8).  Kim says theJournal’s extreme bias against public pension plans -- and in favor of defined contribution plans -- is not only unjustified, but dangerous.  The good news:  the vast majority of public pension plans are solidly funded and recovering nicely from the Great Recession.  Three-, five-, 10- and 20-year investment returns are all on the rise -- and long-term returns are far more indicative of a plan’s health than short-term fluctuations.  The bad news:  DC plans are underfunded by over $8 Trillion, meaning grave uncertainty for most 401(k) owners. Retirement security is not a luxury, it is a necessity -- for the individual and for the national economy.  Millenials new to the workforce are competing for scarce jobs with baby boomers who cannot afford to retire.  Baby boomers who retire with insufficient assets not only will be unable to contribute to the economy, they will likely become drains on public resources.  A strong economy demands that we manage our workforce.  Older workers must be able to retire with security to make room for younger workers.  It is crucial that we find ways to extend defined benefit pensions to private sector workers.  
10.    STATE BUDGET CRISIS TASK FORCE REPORT:     The State Budget Crisis Task Force was assembled to understand the extent of fiscal problems faced by the states of this nation in the aftermath of the global financial crisis.  While the extent of the challenge varies significantly state by state, there can be no doubt that the magnitude of the problem is great, and extends beyond the impact of the financial crisis and the lingering recession.  The ability of states to meet their obligations to public employees, to creditors and most critically to the education and well-being of their citizens is threatened.  The Task Force decided to focus on major threats to states’ fiscal sustainability.  Since it was not feasible to study each of the 50 states in depth, the Task Force members decided to target six states:  California, Illinois, New Jersey, New York, Texas and Virginia -- for in-depth, onsite analysis.  While all states are different, these states reflect important geographical and political variations within our country.  They account for more than a third of the nation’s population and almost 40 cents of every dollar spent by state and local governments.  All six states face major threats to their ability to provide basic services to the public, invest for the future and care for the needy at a cost taxpayers will support.  The study finds all suffered considerably after the 2008 financial collapse.  One measure of this damage is employment, an important broad-based measure of the economy.  Employment in California fell by nine percent from its peak, the largest decline among states in the study.  California was followed by Illinois and New Jersey, at 6.9 percent and 6.4 percent employment drops, respectively.  The declines in New York, Texas and Virginia were less acute but still in the range of 4 percent to 5 percent.  Tax revenues generally fell much further than employment, reflecting among other things, significant declines in stock market gains, retail sales and corporate profits, which drove income, sales and corporate taxes down sharply.  In New York between 2007 and 2009, for example, overall adjusted gross income fell by 18 percent but capital gains subject to income tax fell by 75 percent.  Tax revenues would have fallen sharply but for tax rate increases that the state enacted.  Texas does not have an income tax, but its sales tax revenues fell by 9 percent between 2008 and 2010; other tax revenues fell substantially as well.  Revenues have resumed growing in the six states, but in 2011 they remained below their prior inflation-adjusted peaks.  Illinois, which increased its income tax rate by two-thirds, will show considerable revenue growth in 2012.  While the study states differ along many dimensions, including politics, policies, economies, and demographics, they share many problems, including these six major fiscal threats: 

  • Medicaid Spending Growth Is Crowding Out Other Needs
  • Federal Deficit Reduction Threatens State Economies and Budgets
  • Underfunded Retirement Promises Create Risks for Future Budgets
  • Narrow, Eroding Tax Bases and Volatile Tax Revenues Undermine State Finances
  • Local Government Fiscal Stress Poses Challenges for States
  • State Budget Laws and Practices Hinder Fiscal Stability and Mask Imbalance

These problems threaten the states’ investments in education and infrastructure, and affect the ways in which the states are likely to issue debt.  More broadly, these problems threaten states’ abilities to provide other essential services, such as their justice systems, welfare and environmental protection.  
On the subject of underfunding retirement promises creating risks for future budgets, one paragraph says it all: 
The most significant reason for pension underfunding is that investment earnings have fallen far short of what was assumed. Many pension plans with the greatest need for increased contributions have an additional burden in the fact that their states and localities habitually have skipped or underpaid their actuarially required contributions.  In other words, these governments have willfully underpaid, and now find it difficult to afford the contributions required.  Over the last five years, state and local governments have underpaid contributions by more than $50 Billion.  California, Illinois and New Jersey, with 19 percent of the nation’s population, accounted for more than half of the contribution shortfall!  Between 1996 and 2011, Illinois underpaid contributions by $28 Billion. 
:       Hank Kim, Executive Director and Counsel of the National Conference on Public Employee Retirement Systems, has issued the following statement.  The Report of the State Budget Crisis Task Force verdict on the role public pensions are playing in state and local government fiscal woes -- which recommends stronger local funding policies and greater disclosure -- is a balanced one (see Item 10).  The Task Force members correctly identified state and local governments’ failure to keep up with required contributions in recent years as a primary cause of the current dilemma.  NCPERS’ 2012 Fund Membership Study, the most comprehensive such review to date, using the most current data available -- convincingly demonstrates the vast majority of public pension plans are solidly funded and are experiencing a robust recovery from the Great Recession (see C&C Newsletter for June 14, 2012, Item 1).  Three-, five-, 10- and 20-year investment returns are all on the rise -- and long-term returns are far more indicative of a plan’s health than short-term fluctuations. Confidence among plan administrators is justifiably running high.  
12.              JERSEY JUDGES DODGE INCREASED PENSION AND HEALTHCARE CONTRIBUTIONS:       The Supreme Court of New Jersey considered whether the Pension and Health Care Benefits Act (Chapter 78) which subjects sitting justices and judges to increases in their pension and health care contributions violated the New Jersey Constitution.  Chapter 78, signed into law on June 28, 2011, implemented contributory changes to pensions and to the State Health Benefits Plan for all public employees.  Over a seven-year period, it increased judicial pension contributions for sitting justices and judges from the current three percent of salary to a mandatory twelve percent of salary, and it increased judicial contributions for health benefits from the current one-and-one-half percent of salary to a required thirty-five percent of premium.  In other words, over a course of seven years, justices and judges appointed prior to the new law’s effective date will be subject to a more than four-hundred percent increase in required pension contributions and a more than one-hundred percent increase in required health plan contributions.  In effect, the take-home salaries of justices and judges will decrease in the range of seventeen-thousand dollars or more, representing a more than ten percent decline in their disposable income.  On July 21, 2011, Paul DePascale filed a complaint in state court, seeking a judgment declaring that Chapter 78 violates the No-Diminution Clause of the New Jersey Constitution.  That clause states that justices and judges shall receive for their services such salaries as may be provided by law, which shall not be diminished during the term of their appointment.  The court concluded that requiring justices and judges in service to make the increased judicial contributions set forth in Chapter 78 amounted to an unconstitutional diminution in judicial salaries (see C&C Newsletter for October 27, 2011, Item 6).  The Supreme Court granted direct certification on November 10, 2011.  In affirming, the New Jersey Supreme Court held that the Pension and Health Care Benefits Act, which requires increased pension and health care contributions by sitting justices and judges, diminishes judicial salaries during a jurist’s term of appointment in violation of the No-Diminution Clause of the New Jersey Constitution.  It is undisputed that Chapter 78 applies to all justices and judges appointed after date of its enactment, and that increased pension and health care contributions can be carved out of any future judicial pay raise.  Chapter 78 makes no distinction between justices and judges and other public employees.  However, the New Jersey Constitution prohibits the Legislature from diminishing salaries of sitting justices and judges; it does not include a similar prohibition with respect to salaries of other public employees.  DePascale v. State of New Jersey, Case No. A-34, 069401 (N.J., July 24, 2012). 
13.    GUESS WHAT STATE TOPS THE NATION IN FORCE-PLACED INSURANCE? … WHY, IT’S FLORIDA:       Florida led the country in its share of force-placed insurance premiums the past three years, including 35 percent, or $1.2 Billion in 2011, more than three times the amount sold in the next-highest state, California, according to South Florida Sun Sentinel.  Florida has one of the country’s highest numbers of foreclosures, and most people stop paying insurance premiums when they default on mortgage payments.  Therefore, a lot of policies are imposed on consumers without coverage.  Force-placed insurance protects lenders against possible losses on property they have loaned money for.  But coverage has drawn scrutiny from federal regulators because prices often are much higher than policies sold directly to consumers.  Many force-placed policies are sold by insurers with unregulated rates or with agreements to provide lucrative commissions or other perks to companies that manage consumers’ loans and impose the insurance -- a potential conflict of interest, according to consumer advocates.  Problems with force-placed coverage are exacerbating the mortgage meltdown.  Lenders or companies that manage loans profit while the borrower either pays the bill or goes into foreclosure and leaves entities that own the loans to pay the premiums.  The biggest loan owners are taxpayer-backed Fannie Mae, Freddie Mac and the Federal Housing Administration; they hold about 90 percent of all new residential loans.  Insurers and mortgage managers say force-placed policies are imposed after customers fail to show proof of coverage, and customers can replace the forced coverage with other insurance at any point.  In addition, imposed coverage can cost more, because the insurers must accept all risks, and they cannot provide discounts because they do not evaluate individual homes’ risk when calculating prices.  Others say policies should cost less because they typically exclude coverage offered by most homeowners and the insurers do not have to pay agent commissions and advertising or customer service costs to attract and keep the policies.  Just one example:  a Coral Gables resident is being charged a whopping $90,000 a year for coverage that used to cost $5,600.  Yikes. 
14.    WHAT ON EARTH … ?:      Apropos of nothing, here are 13 incredibly lucky Earth facts from LiveScience: 

  • Third Rock:  There is a reason we have found life on Earth and nowhere else.  Our world orbits the sun at just the right distance -- not too hot, not too cold.  
  • The Moon:  Be thankful for our great big beautiful satellite. Without the moon, you might not be here.  Its gravitational tug creates tides, and one theory holds that life originated in tidal regions. 
  • Stable Rotation:  Earth’s rotation brings the sun up each morning and, thankfully, sets it back down.  If it were not for this situation, one side of the world would be unbearably scorched and the other would freeze life to death.  
  • Constant Gravity:  Nobody expects gravity to go anywhere anytime soon, but it is interesting to note that scientists do not really understand how gravity works.  We take it for granted, but gravity helps make us who we are.  It defines our strength, and contributes to the shape and form of every living thing.  
  • Protective Magnetic Field:  If Earth did not have a strong and relatively stable magnetic field, we would all be fried by cosmic rays and solar storms.  
  • Temperate Zones:  Some life has adapted to the most frigid places on Earth (including Antarctica, where the planet’s record low was set at minus 128.6 degrees Fahrenheit, or minus 89.2 degrees Celsius) and its hottest deserts (including El Azizia, Libya, where the record high of 136 degrees F, 57.8 degrees C, was recorded).  
  • The Deep Blue Sea:  About 70 percent of our world is covered by oceans.  The significance cannot be overstated -- abundant liquid water is the most significant distinguishing factor on this planet that supports life. 
  • Sea Level:  Oceans can be a blessing and a curse.  Until recent decades, the idea of sea level was a stable concept, fortunately for people building beach houses.  But the situation is changing.  Melting ice caps and glaciers, along with warmer seas, are causing ocean levels to rise.  
  • Green, Not Purple:  We take green for granted, but green is an important color.  It is nature’s sign that sunlight, carbon dioxide and water are being converted into plant food by photosynthesis, the process that provides the basis for animal life.  
  • Electric Earth:  Dozens of U.S. residents are killed by lightning every year.  But lightning may be a key to the origin of life.  With water, methane and other chemicals in the atmosphere, lightning can create amino acids and sugars that are the building blocks of life.  
  • Major Recycling Effort:  Some worlds are pretty static, even dead, from a geological perspective.  They lack the internal movement we call plate tectonics.  Earth, on the other hand, is constantly changing, recycling its crust into the mantle and bringing the superheated material from below back to the surface.  
  • Space:  Earth does not exist in a vacuum.  The space in our solar system is dotted with asteroids and comets, plus dust and traces of gas.  Even now, small space rocks rain down on Earth daily.  
  • Staying Power:  Earth was formed about 4.54 billion years ago.  It took hundreds of millions of years before simple life forms appeared.  However, it was not until very recently -- about 585 million years ago -- that any advanced multicellular animal life developed, and these animals were just tiny sluglike creatures the size of a pill.  

 We are lucky to live on such an incredibly perfect planet.  Of course, in reality, we are here because all of the foregoing circumstances fostered life as we know it.  Buy a lottery ticket today. 
     To the rest of the world, everything in Miami-Dade County is known simply as “Miami,” but the actual City of Miami is one of the smallest main municipalities of a major American metropolitan area.  One reason is because historically the area has had a flair for incorporating new municipalities for any odd reason, and some of the 35 municipalities within the county have truly bizarre backstories.  If you can believe Miami New Times, here are ten of them: 

  • West Miami was founded by businessmen who wanted to get drunk and gamble. 
  • Sweetwater was founded in part by a bunch of Russian circus dwarves looking to retire. 
  • Virginia Gardens was founded by horse lovers. 
  • Opa-locka was originally called Opa-tisha-woka-locka. 
  • Islandia was incorporated by 18 registered voters and still has 18 residents. 
  • Doral got its name from a combination of the names of developer Al Kaskel and wife Doris.  (This one we know is true.) 
  • Florida City was originally named Detroit. 
  • Biscayne Park’s founders made it illegal to kill birds within Village limits. 
  • The Bal in Bal Harbour is made up.  (And we always thought it was French for “dance.”)
  • Miami Gardens originally wanted to call itself “City of Destiny.” 

Seriously, folks, Miami is a great place … and it is so close to the United States. 
   According to the most recent Boards of Trustees reports, Medicare and Social Security’s surplus funds will run out, respectively, in 2024 and 2036 (see C&C Special Supplement for May 4, 2012, Item 1).  After that, retirees will still receive their monthly checks and Medicare coverage, but at a lower rate.  The same trustees predict that through 2085, Social Security will be able to pay out 75% of the benefits estimated today, and Medicare will function at about 90% when its surplus is gone.  From The Motley Fool, here is a simple tip to boost your Social Security checks.  The average retiree currently receives just $1,177 in Social Security benefits per month.  (We would have guessed less.).  This amount works out to $36.72 a day.  After factoring in Medicare premiums, the average retiree is left with just $26.14 a day, less than holding down a minimum wage job full time.  You may be aware that the longer you wait to collect Social Security benefits, the higher your payout will be.  But you may not know that for each year you hold off on claiming Social Security, your benefit could increase by as much as 8% per year.  There are some caveats, of course:  You cannot delay past age 70, and the annual rate of increase depends on the year in which you were born.  (The annual rate of increase is 5.5% for those born in 1933-1934 and 8% for those born in 1943 or later.)  And you can delay even after you retire from your current job.  It is easier, of course, if you have a pension coming in, a decent-sized portfolio or savings account you can draw down on or if you are planning to pick up a part-time job to stay busy.  But even if you do not want to work for a paycheck ever again, many retirement experts advise that it is actually better to live off of retirement savings for a few years and delay Social Security than immediately claim benefits, and let your savings grow.  After all, an 8% annualized gain is not something you can guarantee in your brokerage account.  Each year you delay taking Social Security, you are locking in an 8% return.  There is one exception:  married women should take Social Security benefits early. Married men and single women should take Social Security benefits late.  Why? -- because married men earn more over their career on average, their Social Security benefit tends to be higher.  Further, women tend to outlive men, and widows can receive half of their spouse’s Social Security payment if it is higher than their own.  So if you are married, it is often a smart move you can make to benefit both you and your spouse.  (Factoid:  in 16 years of doing this Newsletter and producing thousands and thousands of items, we don’t ever recall mentioning The Motley Fool.  Then, again, we probably never mentioned Motley Crue either.) 
17.    DEALING WITH A BAD BOSS:      It is often said there is nothing certain in life except death and taxes.  According to Harvard Business Review Blog Network, the parallel in organizational life is that at some point in your career you will have a bad boss -- or at least a boss who is bad for you.  Bad bosses come in all shapes and sizes:  abrasive and insensitive, indecisive, inconsistent and unfair, the micromanager who stifles your ability to perform and grow and “matador managers” adept at sidestepping every tough issue that comes their way.  So, the question is not whether you will have a bad boss, but, rather, how you will respond when you do.  Faced with a bad boss, many managers retreat to commiserating with co-workers or adopt a passive “this too shall pass” attitude.  Or, in case of an extremely bad boss relationship, they are driven to jump ship to take a job with another company, often with negative consequences.   Your starting point in dealing with a bad boss is confronting some important realities.  First, your boss, regardless of whether he is effective or not, is a major factor in your ability to perform well in your job, and he plays a key role in shaping senior executives’ perceptions of your performance and career potential.  Second, in most organizations, it is difficult if not impossible for a subordinate to dislodge a boss in the short term.  Frequently, if you do some digging, you will find that your manager has some special ability his manager values.  For example, a close relationship with a key customer or specific expertise that the boss lacks.  As a result, rather than get demoralized or seek comfort from peers in your misery, it is better to take steps to try to address the situation proactively.  Start by doing some diagnostic work.  What are your boss’s goals and interests? What does he value?  A sense of urgency, attention to detail, getting everyone on board before advancing a proposed initiative?  How does he take in and process information:  reading, verbal updates, fact-based analysis?  How does he make decisions:  analytically or based on endorsement of trusted lieutenants?  What issues is he vitally interested in -- and which is he prepared to delegate to you with only periodic updates?  By helping your boss achieve his goals and communicating actively on those issues he cares about -- and doing so in his preferred style -- you can begin to build the boss’s confidence, and make an imperfect relationship acceptable for the period of time you report to him.  Also, try to identify your boss’s base of knowledge and expertise, and convey a desire to learn from him. Often when a boss feels valued and confident that he is receiving all of the information he feels necessary to do his job, the seeds of a more positive relationship are sown.  Dealing with a bad boss can be one of the most nerve-wracking events of your career.  However, having a bad boss can actually be one of a future leader’s most formative developmental experiences, since those leaders were able to identify the ways they did not want to manage.  
18.    YUCK!:     It was an expensive, hair-brained idea, according to the New York Daily News.  A New Jersey police officer won almost $14,000 for being served a bagel stuffed with pubic hair by a vengeful deli worker.  Officer Jeremy Merck’s civil suit victory followed a short jail term and probation for 27-year-old cook Ryan Burke, a former sandwich slinger who confessed to putting his body hair in Merck’s turkey, egg and cheese bagel in retaliation for a 2009 traffic stop.  Merck did not make the disgusting discovery until he had already bitten into the sandwich.  Burke was immediately fired and arrested on charges of aggravated assault on a law enforcement officer and retaliation against a public official.  The civil suit was dismissed when the two parties settled for $13,750. 
19.    GOLF WISDOMS:      Out of bounds is always on the right, for right-handed golfers.         
20.    PUNOGRAPHICS:     We’re going on a class trip to the Coca-Cola factory.  I hope there’s no pop quiz.               
21.    QUOTE OF THE WEEK:   “Little strokes fell great oaks.”  Benjamin Franklin
22.    ON THIS DAY IN HISTORY:  In 1952, Mickey Mantle hits his first grand slammer.     
23.    KEEP THOSE CARDS AND LETTERS COMING:  Several readers regularly supply us with suggestions or tips for newsletter items.  Please feel free to send us or point us to matters you think would be of interest to our readers.  Subject to editorial discretion, we may print them.  Rest assured that we will not publish any names as referring sources. 
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Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.

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