"Ticking time bomb" 

Unfunded public safety pensions threaten city budget - and nobody knows how to pay for them

Unfunded public safety pensions threaten city budget — and nobody knows how to pay for them Paul F. P. Pogue When Bart Peterson took over as mayor in 2000, he inherited one of the largest fiscal problems any Indianapolis leader has ever faced: a liability with a long-term price tag in the billions. For 29 years it has hovered over virtually every aspect of city/county fiscal politics — property taxes, county option income tax, the airport, the stadium, sewer utilities, bond issues, city pay rates and the Indianapolis Works consolidation plan. It has bedeviled three mayors and numerous city financial officers, and it will do so for decades to come. It has such an unassuming, technical name. “Pre-1977 unfunded public safety pensions.” It hardly gives pause to many Indianapolis residents; just saying it aloud will make most people’s eyes glaze over. But try these words and see what reaction you get: “potential city bankruptcy.” The unfunded pension liability may be the single most pressing issue facing the city, an ever-growing obligation that will eat up more and more of the city budget over the next several decades. It would take $424 million — half the yearly budget — in today’s dollars to pay it all off at once. The most likely scenarios envision the city paying out more than a billion dollars in the long run. It’s nearly impossible to overstate the severity of the problem, for three simple reasons: It’s a lot of money, it absolutely must be paid and while stopgap solutions have been proposed, nobody has any idea how to come up with the money. A ticking time bomb Mayor Peterson began looking for solutions to the city’s unfunded pension problems as early as 2001, going so far as telling the state Legislature the issue was a “ticking time bomb,” and warning as recently as 2005 that it has the potential to bankrupt the city. And his comments are not hyperbole. The firefighter pension fund began in 1937 and the Indiana Police Department pension fund began in 1953. Both funds were pay-as-you-go; in other words, money was not set aside to pay for the pensions of future retirees. Instead, cities simply paid out the pensions when people retired, out of the current budget, with the expectation that each generation’s tax base would be larger than the last and thus able to handle the burden. “[When the funds were started], cities were constantly expanding, and they felt the growth would take care of it,” said Thomas Hanify, president of the Professional Firefighters Union of Indiana. In 1977, it became clear that this system was headed for disaster, and the state Legislature mandated that all retirement funds be actuarially sound. “We should all be grateful that the Legislature acted in 1977 to end that system,” Peterson said. “I don’t say that enough, but it should be said. This problem would be a thousand times worse if it hadn’t been addressed in 1977. But it’s bad enough.” Thus, all public safety officers hired after 1977 are covered under a fund administered through the state’s Public Employee Retirement Fund (PERF). But police and firefighters hired prior to 1977 were contractually guaranteed pensions for which no money had been set aside. Now, 29 years later, public safety employees from that era are retiring in larger numbers, and the money to cover those pensions has to come from ever-tighter city budgets and ever-smaller coffers. At its peak, the pension liability will cover roughly 1,200 public safety employees, their spouses and beneficiaries. Four hundred and twenty-four million dollars to pay it all off today. By the time it’s all over, it’s going to be much more than that, to the point it’s impossible to estimate exactly how much. “Over time we’re going to pay more than that out,” city Controller Bob Clifford said. “It’s always an estimate of what it may be worth. That liability would assume things such as future salaries for police officers and firefighters, how long they’re going to live, how long their spouses are going to live.” Current projections indicate that the state and city combined will pay out $2.2 billion between 2004 and 2043, with more than $1 billion from Indianapolis — assuming nothing changes in the meantime. Indianapolis is far from the only city in the state to have this problem, though as the largest, its portion of the liability dwarfs all others, according to Clifford. Seven hundred cities and towns in all face the same issue in paying out their pre-1977 liabilities. In 2001, Peterson and the Indiana Association of Cities and Towns went to the state Legislature to ask for aid in covering the liabilities. The result was the Schedule K Pension Relief Fund, which guarantees coverage of 50 percent of the liabilities for affected cities and towns. Indianapolis’ share of that aid has totaled $88 million since 2001. In 2006, Indianapolis contributed $20 million itself to cover pensions, and that number will only increase. By 2013, it will be $27 million, if not more, and over the decade after that, the numbers get thornier. Monroe Gray, recently installed president of the City-County Council, was particularly frank earlier this year: “We haven’t figured that out yet. There still hasn’t been a revenue stream that has been recognized to eradicate the pension shortfall.” Paying a price The first long-term steps to address the unfunded pensions came during the administration of William Hudnut, mayor of Indianapolis from 1976 to 1993. In the mid-1980s, he established a fund to cover future costs by applying the then-new County Option Income Tax (COIT) to a Pension Trust managed by Indiana National Bank. State law provided for a COIT that could start at .2 percent and rise on a yearly basis up to a maximum of 1 percent. “I paid a price; I had to use a certain amount of political capital for that,” Hudnut said. “It was a very high priority. To have an unfunded liability could damage our bond rating, and more than that, put in jeopardy some of the pensions that had been put in place, and we wanted to safeguard those pensions.” During the later Hudnut years, the pension portion of the COIT reached .4 percent, which resulted in about $7 million put aside each year. “If you look at the salaries back then and the budget back then, that was a considerable amount of money to be putting away,” said Fred Armstrong, city/county controller from 1970 to 1990. “It would take 40 years to pay off that pension when it started in 1977,” Armstrong said. “It would peak in 2007, and people would start dying off and it would be completely retired by 2017. Now that was based on the assumptions we used on investments. We were building up this kitty to take these peak periods and have the money there to be paid for.” According to Vince Huber, president of the Indianapolis Lodge of the Fraternal Order of Police, the COIT has been used for purposes outside of public safety, and the trickling out of those funds over the years is a serious contribution to the ongoing problem. “This goes to before the current administration. It’s been going on for several administrations. Our role is to give them ideas to make sure they’re giving money back into that fund,” Huber said, noting such ideas as hospitality and downtown user fees. “Unfortunately, they took those ideas and applied them to the new stadium.” Jim Steele, controller from 1990 to 1997, said that the fees from the trustees at Indiana National kept the Pension Trust Fund from accumulating any money. In 1992, the city stopped paying into the fund and created a dedicated city fund to handle all new old-fund pension monies. However, as pension costs mounted throughout the 1990s, the dedicated city fund was depleted as well, and by the end of the decade the Pension Trust Fund was empty. Steele instituted a number of creative revenue strategies, including payment-in-lieu-of-taxes (PILOT) plans with the sewer utility; consolidation of some Indianapolis Police Department and sheriff operations; and a consolidated county fund based on payments for the countywide services provided by IPD. None of these were directly applied to the pension, but they freed up COIT money in the public safety fund. Steele said that by 1996, after Stephen Goldsmith’s re-election as mayor, the pension issue was an oncoming train. “I started discussions with the mayor and the City-County Council about increasing the COIT. It had been frozen at .7 in 1989,” Steele said. “It could go up all the way to 1 percent. I could see the pension shortfalls were looming and we needed to do something fairly quickly.” He estimates that after the first three years, the COIT increase would yield $45 million per year that could be applied to public safety finances. “But the mayor and the council were not interested in increasing any taxes.” Through his assistant, Goldsmith declined to comment for this article. Hard to swallow But the hard part comes well before that. Starting in 2012, the total projected expense is $60 million per year, and doesn’t ease up until somewhere around 2030. Probably. With state assistance, as matters currently stand, the city will still need to come up with $53 million per year — nearly three times what is currently being paid out. From the earliest days of his administration Peterson said he made pension relief a priority. The Pension Trust Fund ran out in 2000, and Peterson’s first major pension effort was to cover the city’s $14 million shortfall with PILOT contributions from the Capital Improvement Board and the Indianapolis Airport Authority. It worked that year, but it was clearly a short-term measure. “We didn’t continue it because it was an extremely difficult pill for both the airport and the Capital Improvement Board to swallow, because of their other cash flow obligations,” Peterson said. “With CIB we couldn’t do that now, because every spare dollar they have is devoted to the new stadium. And with the airport authority, it came from the pocket of the airlines. We had to really struggle, and we had to essentially promise it wouldn’t be every year.” Later that same year he spearheaded the Schedule K effort, which resulted in the 50 percent aid to cities from 2001-2007. From 2004 to the present, his budgetary attentions have been focused on full city-county consolidation under the Indianapolis Works program, which he predicted could save the city more than $30 million per year. Political wrangling Mayor Bart Peterson’s Indianapolis Works program is proving to be one of the most controversial aspects of his administration. While the mayor was able to get police/sheriff consolidation passed (after nearly two years of political wrangling), township and firefighting consolidation, where most of the savings were expected, ultimately failed. Indianapolis Works also proposed a Pension Authority that would be invested with responsibility for past and present pensions, and that too did not pass. Indy Works received fierce criticism from many sides, perhaps none more vigorous than from the Fraternal Order of Police and the Marion County Township Trustee’s Association, both of whom saw Indy Works as a dangerous financial grab for the pension funds. “Under the old Indianapolis Works, it wasn’t smaller or more efficient government, it was a bigger bureaucracy headed and controlled by the Mayor’s Office,” Huber said. “All the resources were going to be controlled by the mayor himself. And that created fears because we knew he was going to shift money from the fully-funded 1977 and county [sheriff] pension funds into the unfunded 1953 fund. Thank God the state Legislature took away that portion of Indianapolis Works. It now says the pensions are protected and cannot be messed with.” “We refuse to be the collateral damage of the mayor’s reorganization plan,” Rick Snyder, speaking on behalf of the Fraternal Order of Police, said in 2005. “They had approximately $30 million going to people who no longer work there,” said Tom Marendt, Warren Township trustee and president of the Marion County Township Trustees Association (MCTTA). “There’s no small business, there’s no company that can carry that kind of pension liability and continue to be successful.” Peterson has made certain promises to address these concerns, including keeping the city’s portion of the pension debt inside the old city limits and not using township funds to cover it, and strictly separating the old-fund pension from sheriff’s pensions during the current police and sheriff merger. Taxes going … UP The unavoidable truth is that tax increases are inevitable. The city’s portion of the bill is limited to taxes raised within the old city limits, but the Schedule K funds are being paid for from state money. Sooner or later, every person in Indiana pays for this. The only questions are which taxes, through whom, and by how much. “There really aren’t that many options,” Peterson said. “And what options there are we’ve been using up step by step over the last couple of years. They enacted the COIT in the first place to pay pensions. It’s possible at some point in the future there might be a need for an entirely new tax.” Many agree that sooner or later, the burden for the shortfall will fall on the state — assuming the state has the money, assuming the state is willing to contribute even more than it is now. Schedule K was scheduled to end in 2007, but action from the Legislature this year extended that out to 2008. Since it was a short session, the benefits were only extended out another year, but during the long budget session next year, Peterson and IACT intend to hammer out details for a long-term agreement. The state pension matters are handled by the Legislature’s Pension Management Oversight Commission, co-chaired by Sen. Joseph Harrison and Rep. Tom Kromkowski. Kromkowski said he expects the state will ultimately take up the burden, if only because there may be no other choice. “The biggest brunt of the pension falls directly on the backs of local units of government, and I think we need to be doing more in helping them,” Kromkowski said. “It’s getting to the point where they can’t afford it, other than raising property taxes, and that falls mostly on the backs of people in the inner city, who can’t afford to pay the property taxes. The state has to step up for it. Plain and simple.” The real danger zone is from 2013 to 2023, when the benefits are at their highest (more than $66 million yearly) and in which a gray area exists which neither the state nor cities have yet stepped up to claim. During that period one or the other will need to develop a new revenue stream. “The worst case scenario is if the state doesn’t pick up the gray area,” Clifford said. “In that case, in 2013 we’re paying $46 million a year and they’re paying $16 million. In what I would consider the likely situation, we’re paying $27 million and they’re paying $35 million. Actuarially, it looks like they’re going to run out of money in those years to pick up their portion of the obligations. They have to look for other revenue streams.” Kromkowski envisioned a combination of state surplus funds and re-evaluation of current spending. “The governor is bragging about the surplus he’s building up,” Kromkowski said. “And maybe we ought to take a look at some of the give-aways we’re giving to industry. Is it necessary to give huge, huge property tax breaks to utility companies? The money could be there. All you have to do is take a look at where you’re spending the money.” But even in the best-case scenario, the city has to come up with another $7 million that it currently doesn’t have. And the options decrease as the years go on and the numbers increase by larger margins, up to that $54 million in the late 2020s. Every currently available city/county tax could be raised to its maximum limit and still fall short. “At some point, the increased expenditures are going to exceed the city/county abilities to even raise taxes to cover it,” Peterson said. “We couldn’t fix the problem if we wanted to. There really aren’t that many options. And what options there are, we’ve been using up step by step over the last couple of years.” No silver bullet The only other option, besides tax hikes, is to scramble to cut at every possible point. There may well be no silver bullet to solve the problem; it will most likely come down to relentless effort and financial diligence for decades to come, chipping away one stroke at a time. “The elected officials are very concerned about the tax burden on the residents of Marion County,” said Steele, who continues to work as a financial consultant to the council and the Auditor’s Office. “They’ve been doing everything imaginable and legal to delay increases in those taxes. There’s been a lot of innovative Band-Aid approaches to get by each year.” One thing that’s definitely off the table: making any changes to the pensions themselves. “Those are all locked in,” Clifford said. “I haven’t yet met the person bold enough to repeal a pension benefit promised to a police or firefighter, and I hope I never do!” But the issue has resulted in very real cuts elsewhere. City/county civilian employees have gone four years without a raise. In 2003 the mayor’s senior staff took pay cuts across the board. And in the wake of the failure of much of Indy Works to pass in 2005, the city budget was cut even farther, particularly in the realm of parks and maintenance — stopgap measures at best, that will need to be reinstated at some point. Numerous proposals have been put forward in recent years: a regional sales tax, redistricting of fire services and closing of fire stations, a downtown entertainment tax, but none of them have gained any ground as of yet. Gov. Mitch Daniels’ proposed Hometown Matters legislation would have given municipalities considerable tools to manage their own finances and tax bases, but that never received a legislative hearing. Marendt said that the exclusive focus on Indianapolis Works as the sole way to solve the city’s fiscal problems shut out numerous other possibilities, such as the MCTTA’s suggestion for a downtown user fee. “Surely it would make sense to fund public safety in the same way they do entertainment,” Marendt said. “When people are downtown, it’s almost like a user fee. In five years it would be a non-issue. In five years it would go away. They’re willing to do that for the Colts, for the convention center, but not for public safety … When we’ve been with the mayor, we’ve never had an opportunity to talk about it, because every time we’ve talked to the mayor, it’s always been Indy Works. It hasn’t been about other options out there to relieve the terrible pension liabilities that he has. It’s almost as if there’s no other proposals out there that are worth the time talking about.” Keeping the city running Last year, the City-County Council voted an increase in the COIT over numerous years reaching the full 1 percent maximum. The proposal that Jim Steele made more than a decade ago has finally gone through. Ironically, had it taken place in 1996 and Steele’s estimated yearly $45 million materialized, the pension problem might conceivably be a non-issue by now. As it stands, the COIT increase is being dedicated to other public funding issues, which will ease up the burden but not directly address the pension issue. Additionally, the last-ditch Plan B has been removed from the table. Over the course of 15 years, the city never used its full property tax levy, reasoning that if the pension situation became unmanageable, property taxes could be raised to the cap, with a potential $50 million yearly base. But in 2003, during the controversy over property tax reassessment, the state removed the unused levy, preventing any further property-tax hike. Ultimately, Peterson says, it’s not within his power to create long-term solutions for the problem. It might not be within anybody’s power. The best that can be done at the moment is keep the city running on as tight a budget as possible and whittle around the edges of the budget in order to give the next person sitting in the corner office of the 25th floor a fighting chance. “There are a lot of gremlins in our budget, in our fiscal picture, and trying to deal with the other ones and then trying to at least maintain the pension relief we have from the state is my current strategy,” Peterson said. “In the next few years either I or whoever’s sitting here has to look the next five to 10 years down the road.” In particular Peterson is aiming at jail overcrowding, juvenile incarceration and child welfare costs — three major portions of the city budget that have faced their own problems in recent years. “With each of those steps we take, we make the future projections a little bit better,” Peterson said. “And Indy Works would make it a lot better. You just have to take it one or two steps at a time. My strategy has been that this is too big a problem to deal with at once. It’s too large, too all-encompassing.” Chipping away The hope of the Peterson Administration is that sometime in the next decade or so, the state will be in a better financial position to dole out more funds — possibly during a surplus period, or by restructuring the pension fund. There’s still some hope that Hometown Matters will receive a hearing next year, but given the lukewarm reception this legislative session, it seems unlikely. Considering the many people and politics involved in the process, everything about the issue is difficult to predict. Indy Works remains a crucial element of the entire discussion. Though it failed to pass again in 2006, there’s still police/sheriff consolidation, upon which hinge Peterson’s political fortunes. If the $8.8 million in expected savings does materialize, it further eases the financial burden and provides a powerful argument for future consolidation of the townships and fire departments. Only time will tell if that actually can happen; critics of consolidation warn that the projections are too optimistic, and that it could well lose money in the end. Vince Huber noted the report prepared by the accounting firm of Reedy & Peters for the state-sponsored 2005 consolidation study commission estimated the total savings from Indy Works would be only $4.4 million. In the meantime, Peterson reiterated his dedication to seeing all of Indy Works pass. “We’re going to fight right to the bitter end, and then we’re going to keep going,” Peterson said. “We’re going to bring it back next year, and the year after.” The biggest savings in Indianapolis Works were always envisioned in the consolidation of city and township fire departments. The mayor’s estimates are around $20 million, and Hanify, president of the state firefighter’s union, expects it could be more than that. “Consolidation is going to happen,” Hanify said. “When we started this, I said, ‘It’s going to take some time here.’ I felt we had a 30 percent chance of passing it the first year, 60 percent the second year, and 90 percent the third year. And that third year’s coming up.” Hanify noted that the various firefighter’s unions and the Fraternal Order of Police have been working closely to push for state aid. “When we lobby and we work on these problems, we recognize we’re going to do these together,” Hanify said. “We’re in lockstep that we’ve got to get this problem dealt with. We’ve been chipping away at the stone. We’re hopeful that in this next budget year, the Legislature, who’s been very good about it, will help us chip away a little more.” The future of the unfunded pension mandate remains a minefield fraught with danger. Two years ago the city took out a $100 million, five-year bond to cover current costs, and the bill for that is already starting to come due. COIT income dropped significantly from 2002 to 2004, though the base is going back up and the hike to 1 percent will bring in even more. And at the end of 2006, the inventory tax ceases to exist, resulting in a $20 million loss to the budget. Some of the service cuts in 2005, after the initial failure of Indy Works to pass, will need to be reinstated, such as sewer and greenways maintenance. “Something needs to be done very soon,” Steele said. “It’s been put off long enough. It’s a very, very difficult situation.” No matter what happens, the pension obligation remains at the forefront of Indianapolis budgetary politics, and most likely will continue to do so for the next several decades. “Every time someone starts talking about what we’re going to do with this money or that money, I remind them that we need to pay for pensions,” Clifford said. “Any time someone says, we ought to give money to the library or IndyGo, I say, no, we ought to pay for pensions first. That’s kind of my job, I think.”

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