Liabilities of $1.2 Billion Found in Pension Pool

Two 20-year-old “calculation errors” that only recently came to light have socked Los Angeles County’s mammoth pension system with $1.2 billion in unforeseen liabilities, and will probably force cash-strapped county officials to spend an additional $25 million a year to make up for insufficient contributions to the fund.

Officials of the Los Angeles County Employees Retirement Assn. were stunned when told of the mistakes, which were discovered when pension administrators recently decided for the first time to bring in an outside actuarial auditing firm to look at their books.

The calculation errors were not the auditors’ only disconcerting discovery: Based on what pension fund managers now agree are more accurate projections of county employee salaries, the age at which workers will retire or go on disability and other factors, the fund may confront an additional $260 million in unforeseen liabilities down the road, according to several memos from the retirement association’s chief executive officer, Marsha Richter, to its Board of Investments.

“It was definitely a surprise,” Richter said Tuesday of the disclosures. “Certainly it was not a good surprise.”

At first, officials of the retirement association insisted “that there must be a mistake,” Richter said. But subsequent review of the numbers by Towers Perrin, the firm that made the initial miscalculations, have sent pension administrators scrambling to contain the damage.

It is not clear what the underfunding will mean to the fiscal health of the nation’s largest county; some financial analysts said late Tuesday that they were awaiting details.

The county is still pulling itself back from being on the brink of bankruptcy several years ago. And although it is on more solid financial footing now, it is still contending with the fallout from that crisis and is forcing all its departments--particularly those dealing with health care--to cut their budgets. The county also provides children’s services and welfare, as well as police and fire protection in unincorporated areas.

As the supervisors gear up for budget battles this spring over what to continue to cut and what to try to restore, Chief Administrative Officer David Janssen has warned them that a huge structural deficit still threatens the county’s long-term financial stability.

As for the pension fund problems, officials say no retired county employees are in immediate danger of losing any pension benefits. The behemoth $24.6-billion fund is 100% funded, and even has a surplus that has been used in recent years to help the county avoid bankruptcy. That surplus comes from unexpectedly huge gains in the stock market in recent years, a moratorium on employee raises, which holds down retirement costs as well, and the $1.9 billion the county borrowed in 1994 to pump up the pension fund.

Soaring Stocks Limit Damage

But internal retirement association documents show that its financial advisors want the Board of Supervisors to dramatically and immediately increase the county’s annual contributions to the fund to make up for the years of underpayments. If the stock market had not done so well recently, the mistakes could have proved catastrophic, county officials concede.

The retirement association also wants the state and federal governments to annually kick in an additional $15 million or so combined, because of long-standing undercontributions by Sacramento- and Washington-based programs that are administered by the county and employ county workers.

Richter said the Board of Investments’ nine members will be asked to approve those recommendations at a meeting today, after they are given a detailed assessment of the $1.2-billion shortfall and its ramifications. She said that approval is expected and that the county supervisors will have no choice but to pay, based on state law giving the retirement association complete autonomy to ensure that the pension fund is 100% funded.

The retirement association’s board also is expected to approve several safeguards designed to ensure that such mistakes are not made again, including a similar audit every five years.

“These actions,” Richter said in a March 17 memo to Board of Investments members, “will hopefully restore confidence in [the retirement association’s] actuarial process.”

The two errors found by auditors both involve extremely complicated underestimations of how much the county and its employees needed to contribute to the fund. Both were written into computer codes that have been used since about 1977, according to Richter and retirement association Chief Counsel David L. Muir.

Supervisors May Balk at Bailout Plans

In the association’s defense, Richter said most public pension funds didn’t audit their books until several years ago. And, she tells investment board members in one memo, she knows of “five other public retirement systems in California” with similar problems.

Richter could not be reached to comment on which other systems are involved or whether the magnitude of their shortfalls matches that of Los Angeles County.

County supervisors here are still pinched for cash and trying to close the long-standing structural deficit in their annual spending practices. Therefore they may balk at paying the $25 million, which would become due after the start of the fiscal year July 1.

But county financial analysts said failure to pay would probably trigger lawsuits against the county and the retirement association, and certainly against Towers Perrin.

Retirement association documents indicate that the firm “has agreed” with the new calculations.

Richard Ostuw, chief actuary for Towers Perrin, acknowledged late Tuesday that there were some “computational discrepancies.”

The $1.2 billion “is, by itself, a large number,” Ostuw said. “But as a percentage of the entire [pension fund], it’s about 5%.”

But Ostuw said the additional liabilities will have little effect on the 100,000 or so current pension fund participants, given the fund’s surplus.

Richter said Towers Perrin is being replaced because of general performance problems that became apparent long before the audit was completed.

Overtime Ruling Poses Potential Crisis Too

The disclosures come on the heels of another potential crisis for the retirement fund: a recent state court ruling that employees’ overtime pay should have been included in the salary package upon which their pensions are based.

Counties across California may challenge that decision, and, if it stands, it is uncertain whether it will be applied retroactively.

If upheld, the ruling is sure to exact a significant financial toll on Los Angeles County, which has paid out massive amounts of overtime in recent years as a way of coping with hiring freezes.

Richter said a group of county retirees already is gearing up to sue for additional pension benefits based on the overtime. The retirement association has not tallied its potential liabilities, but she said they could be enormous, forcing the association to demand even more money from the county.

Tobacco Divestiture Could Add to Woes

On Tuesday, the supervisors moved to make things even more complicated for the normally invisible pension panel.

At the behest of Supervisor Mike Antonovich, the board voted to urge the retirement association to divest itself of $200 million in tobacco stocks, for financial and ethical reasons. It cannot order the association to do so, but Antonovich said “the risks associated with tobacco companies have resulted in New York and Florida ceasing to invest in tobacco stocks, due to their financial uncertainty.”

Antonovich also said an eventual settlement between the tobacco industry and the federal government could cause tobacco stock prices to plummet.

In addition, the board voted to support an Assembly bill that would require the California Public Employees’ Retirement and State Teachers’ Retirement systems to sell their tobacco stocks and bonds.

Already, CALPERS opposes such a divestiture on the grounds that the agency has a state-mandated fiduciary responsibility to earn the most money for its pension fund participants, regardless of social or political ramifications.

“Any form of divestiture could set a precedent,” said CALPERS spokesman Brad Pacheco. “It could be tobacco today and anything else tomorrow: Dow Corning and its breast implants or Revlon and its product testing on animals.”

Richter said the county retirement association won’t even schedule discussions on the matter for several weeks. But she and counsel Muir agreed that the association is also required to seek the best return on its investments. Muir added that some financial analysts think tobacco companies are diversified and globally positioned so well that they make for good investments.

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County Pension Liabilities

Here is an overview of the problems facing Los Angeles County’s pension system.

About the Fund: The Los Angeles County Employees Retirement Assn. administers the $24.6-billion pension fund for past and current county workers.

What Happened: Two calculation errors were written into computer codes that have been in use since about 1977, producing underestimations of how much the county and its employees need to contribute to the fund.

Impact: Over time the calculation errors produced a liability estimated at $1.2 billion, which will probably force county officials to spend an extra $25 million a year to make up the shortfall.

How the Deficit Was Discovered: An outside financial auditing firm found the mistakes during a first-ever review of the pension fund’s books.