The Budget Isn’t Balanced - Yet
Mayor Turner has proudly publicized the recent unanimous and “a-month-before-the-deadline” passage of the 2016-2017 City budget, saying “This was accomplished not by putting hundreds of hard-working City employees in the unemployment line or by cutting critical services that Houstonians rely on and deserve. Instead, it was done via shared sacrifice and laser fine attention to fiscal management.”
Good for Mayor Turner.
However, as was clearly communicated by the Mayor during the process, the budget was “balanced” by using approximately $100 million in “one time” items, such as sales of real estate. This $100 million gap presumably will have to be dealt with again next year.
What hasn’t been made clear is the fact that the City still has a huge pension obligation hole to fill. The budget was balanced only on a cash basis; done so by creating additional pension liabilities of as much as $1 billion. In 2015 the City had a pension expense of $702 million but contributed only half that amount. There has been no discussion about how big the gap will be this fiscal year that ends on June 30th.
The fact is that the City has not had a “balanced budget” in over a decade.
The graph below shows that ever since 2002 the City has been woefully out of balance due to its inability to make required pension payments.
The top of each bar represents the City’s annual pension expense. The blue portion represents the cash contribution from the City’s annual budget. The black portion represents contributions made from funds the City borrowed, without voter approval, from the issuance of Pension Obligation Bonds. The orange portion represents annual amounts that the City has (still to this day) failed to contribute.
A payment shortage each year is analogous to a house or car payment not fully paid. If you finance the purchase of a house, you get the whole house and take out a loan to pay for the whole cost of the house. You make monthly payments for 15 to 25 years to pay off the loan.
The City promised its employees retirement benefits in 2002 that cost a lot more than it could pay at one time. So it promised the employees it would make payments over the next 30 years to make up the difference. The City hasn’t even come close.
This is primarily the result of the bad pension “deal” that was replayed recently in a Houston Chronicle article (Morris, M. 2016, May 25. Ouster adds to city’s pension woes. The Houston Chronicle. Retrieved from http://www.chron.com).
According to Mike Morris’ article, the major reason why the City hasn’t been able to fully pay its pension costs each year is because the “deal” it made with the pension trusts in 2002 wasn’t fairly negotiated. The City relied on the trustees’ representations that the new payments would not exceed 15% of base pay. But the actual plans adopted require payments of more than twice that level, and the City simply can’t pay. The City cannot change these plans without the approval of the Texas Legislature.
Since 2002 the City has never been able to make its full annual payment and now the debt has grown to over $5.5 billion. From 2005 through 2010 the City borrowed money on the bond market, over $600 million, without taxpayer approval, to make its pension payments. That still wasn’t enough.
In fiscal year 2014 the City’s annual pension expense was $407 million. The City could only pay $297 million that year. The following year, FY 2015, the expense increased to $702 million, but the City paid only $351 million.
When the City fails to make its required payments it is the same as borrowing money from the pension fund. The interest expense on this borrowed money is computed at the same rate that the pension trustees set as their estimated long term earnings rate on the assets in the fund.
Houston’s pension trustees project this long term earnings rate on assets will be between 7% and 8.5% per year. Even if the plans achieve these investment earnings targets this year the annual pension expense is likely to increase to over $800 million.
If the investment returns mirror last year’s performance (0.81% to 2.98%) then annual pension expense could exceed $900 million. That’s because if the pension trusts don’t achieve their targeted earnings rates, then the City has to make up the difference.
Mayor Turner has made it abundantly clear that the pension issue is being addressed and that he intends to go to Austin early next year to get legislative approval for much needed pension changes.
But Mayor Turner has also been talking about “shared sacrifices” and the need to eliminate the revenue cap, along with his desire to fix our “broken property tax system.”
This points to the potential use of tax increases to help the City meet its existing contribution requirements. Unless the Mayor can negotiate reductions in benefits already earned, such as annual cost of living adjustments (COLAs) and deferred retirement option plans (DROP) abuses, then the annual payments will still remain very high and not even large increases in property tax increases will fix the problem.
How large of a City property tax increase would be necessary to “balance the budget?” I’ll talk about that next time.