A Promise You Shouldn't Rely On

A Promise You Shouldn't Rely On

Dallas is enjoying the fastest economic growth in the nation. Its low taxes have attracted hundreds of multinational corporations. New construction abounds. Signs of affluence are everywhere.

But Dallas is on the verge of bankruptcy.

The reason: Over a six-week period last summer, city retirees, including firefighters, police officers and other municipal workers, pulled more than $200 million from the city pension fund. As a result, the police and fire pension system asked the city for $1.1 billion to keep it afloat — an amount equal to the city’s entire budget. If the city is forced to pay, it could become bankrupt.

Several cities and states face this problem. Politicians promised state and municipal employees fat pension benefits, and based those promises on unrealistic estimates of investment returns. In Dallas’ case, the pension fund assumed earnings of 7.25 percent per year; the fund earned only 1.8 percent annually over the past 10 years.

Moody’s downgraded Dallas’ bond rating in December, saying the city has more pension debt relative to its resources than any other major city except Chicago.

At this writing, the city’s options were few: It could declare bankruptcy to escape the debt, raise property taxes, borrow more money or cancel public works projects — such as funding for schools and hospitals — to provide what the pension board says it needs. 

And there’s one other solution: Cut the pension benefits retirees have been promised.

The California Public Employees Retirement System (CalPERS) cut the benefits of four retired public employees in Loyalton, CA, by 60 percent — the first time it has taken such action in its 85-year history. And an ironworkers’ pension fund in Cleveland recently received permission from the U.S. Treasury Department to cut retiree pension benefits by an average of 20 percent (some as much as 50 percent) to keep its fund solvent — the first time federal approval has been granted in such a case. “We are concerned that [the Treasury’s action] will open the floodgates” for similar actions in pending cases, said Karen Ferguson, director of the Pension Rights Center.

There are two important lessons here for municipal and state employees everywhere, as well as for those who are retired from such jobs, their spouses and investors.

First, municipal and state employees and those who are retired from such jobs shouldn’t rely on promised pensions, because the governments that make such promises could renege on them, reducing the benefits, delaying them or even stopping them. Therefore, if you’re in line for a pension, you should save for retirement as if the pension doesn’t exist.

Second, be wary of buying municipal bonds, because states and municipalities might not be able to meet their obligations. Dallas isn’t alone. Similar situations exist in Chicago, Detroit, Illinois, Puerto Rico and elsewhere. And President Trump has promised to lower tax rates. The lower the tax rate, the less attractive municipal bonds become. If you have family or friends who have municipal bonds in their portfolios, share this information with them and have them give us a call to discuss their options.

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