Watchdog could have muted Dallas pension drama

Dallas risks becoming the new Detroit or Puerto Rico from its exposure to unfunded pension liabilities.

The Dallas Police & Fire Pension System has asked the city of Dallas for $1.1 billion to be contributed in 2018 to help bail out the system by reducing the underfunding. For the city, that amount nearly equals the current fiscal year's estimated $1.2 billion in general fund revenues to finance the operating budget.

But even that contribution would barely close the funded gap, leaving a substantial shortfall in the funded status of the system, now with $2 billion in assets and $6 billion in liabilities. The system is projected to run out of funds in 2027 without adoption of proposed reforms that would push back a reckoning to 2030, but those reforms were rejected in December. Neither scenario creates much reason for optimism for the system's sustainability.

The Dallas system is no outlier among public plans. It takes a strong economy to underpin pension benefits. Detroit and Puerto Rico have weak economies, unable to afford contributions to their systems. But the Dallas crisis shows even vibrant, economically fast-growing cities can risk financial unraveling from exposure to massive pension underfunding.

States must step up their oversight of municipal plans to prevent the collapse of systems and prevent economic damage to sponsoring entities and protect participants.

The Dallas system falls under the Texas Pension Review Board. The board oversees all Texas public retirement systems “in regard to their actuarial soundness and compliance with state law,” according to its website. Its mission includes “recommendations to ensure that our public retirement systems ... are actuarially sound, benefits are equitable, the systems are properly managed, tax expenditures for employee benefits are kept to a minimum.”

But its mission falls short of resolving the financial crisis in Dallas and other deeply underfunded systems in Texas, such as the Houston Municipal Employees Pensions System. This pension underfunding is not a black swan, unexpectedly occurring — it has been growing for a long time.

Even in Dallas, where a run on the system by participants to collect lump-sum benefits under a deferred retirement option plan before they were cut created a sudden deeper underfunding this year, the financial challenges should have been anticipated.

The Dallas plan was designed to be actuarially neutral but turned out to have costs that threaten the system's sustainability. It overpromised on benefits and overreached on return assumptions. For the 10 years ended June 30, the system returned an annualized 2.7%, referred to as a “lost decade of investment returns” by Kelly Gottschalk, the system's executive director, in a presentation May 5 to the pension review board. In 2016, the system reduced the alternatives target allocation to 25%.

Public systems need guardrails to avoid any long-term underfunding. State legislatures must address governance of plans and establish an oversight that has enforcement powers†

This article originally appeared in the January 9, 2017 print issue as, "Watchdog could have muted Dallas pension drama".