Credit: Governor's Office/Tim Larsen Credit: Governor's Office/Tim Larsen Facing another year of fiscal problems, Gov. Chris Christie changed the funding formula for the state’s pension contribution so that he could cancel $93.7 million in previously budgeted pension payments due in June, cut next year’s pension bill by $150 million, and put $900 million less into the underfunded pension system by the end of his term.

Christie’s decision to change the pension calculation formula will further add to New Jersey’s $51 billion unfunded pension liability — which was one of the main reasons Fitch’s Ratings cited last Friday when it followed Moody’s and Standard & Poor’s in downgrading the state’s credit outlook from “stable” to “negative.” Over a 30-year period, Christie’s formula change would swell the state’s unfunded pension liability by 10 percent, actuaries for the state’s pension funds reported.

Christie complained during his annual Budget Message on February 25 that the rising costs of pensions, retiree health benefits, and debt service were crowding out other budget priorities. The governor threatened to take unilateral action unless the Democratic-controlled Legislature took further steps to reduce the state’s retiree liabilities, presumably by requiring public employees to pay more toward their pensions.

What Christie didn’t tell the Legislature or the public that day was that his Treasury Department had already instructed the actuaries responsible for calculating the state’s required pension payment to change the formula not only to cut the state’s pension payment for the upcoming year, but to do so retroactively for the current year.

Christie’s decision to change the pension calculation formulas came as a surprise to Democratic legislative analysts, who wondered why Christie was putting only $2.25 billion — instead of the expected $2.4 billion into the pension system in the Fiscal Year 2015 budget. The change in the funding formula was buried in the actuarial reports on the state’s pension systems that were issued on February 27 — two days after Christie’s speech.

Retroactive Cuts

But it wasn’t until Treasurer Andrew Sidamon-Eristoff provided a list last week of the $694 million in current-year spending cuts used to plug the hole in this year’s budget that the nonpartisan Office of Legislative Services and Democratic experts knew for sure that Christie was retroactively cutting the size of the pension payment that had been approved in the Fiscal Year 2014 budget he had signed into law last June.

Ironically, the current-year pension cuts were listed on Sidamon-Eristoff’s spreadsheet as a $62.823 million “Teachers’ Pension and Annuity Fund Surplus,” a $29.349 million “State and Higher Education Pension Surplus,” and a $1.569 million “Local Employee Pension Surplus” — even though New Jersey’s unfunded pension liability is $51 billion and growing because the state is contributing just 43 percent of its true actuarial obligation to the pension system this year.

If Christie did not change the formula, he would have had to find another $93.7 million in cuts to balance this year’s budget and $150 million in reductions in next year’s budget. That would have required cuts to existing programs because pensions, retiree health benefits, and debt service are already eating up 94 percent of the increase in state spending, as Christie pointed out in his budget speech.

Kevin Roberts, Christie’s press spokesman, said in response to an emailed question Sunday that pension “assumptions are set by the actuaries not by the administration,” and that “the state’s payment is 4/7 of what is recommended by the actuaries. So your entire premise is flawed to begin with.” Roberts and Treasury Department spokesman Christopher Santarelli failed to respond to detailed followup questions on Monday.

After this article appeared, Roberts pointed out that the Christie administration does not have the unilateral authority to make changes in the pension calculation methodology, and that the changes in methodology in the actuarial reports went to the employer-employee governing boards for the various pension funds for approval.

However, those meetings took place in early March — after the governor had already included the cuts in the pension contribution both in his budget for FY2015 and in the list of $694 million in budget-balancing cuts for FY2014.

PBA President Anthony Wieners complained vociferously that the changes in pension methodology, which also enabled local governments to lower their pension contributions by a total of $135 million, would further weaken a pension system that Christie had already categorized as “unsustainable” and that the cost would ultimately be borne by public employees. Roberts noted that Wieners nevertheless voted for the methodology change,

Questioned about the methodology changes, David Rosen, the OLS’s budget and finance officer, confirmed that the Christie administration had changed the pension contribution formula, and that the lower contributions “will have a downward effect” on the pension system’s balance sheet in future years. So did Democratic analysts, and the state’s actuarial reports indicate clearly that the methodological change was made at the direction of the Treasury Department’s Division of Pensions and Benefits.

Christie’s decision needs to be understood in the context of the negotiations between Christie and Democratic legislative leaders, notably Senate President Stephen Sweeney (D-Gloucester), over the controversial 2011 pension and health benefits overhaul, which was needed because the pension system was in danger of collapse after 15 years of Democratic and Republican governors and legislatures skipping tens of billions of dollars in annual pension payments.

The law, which passed over the opposition of the New Jersey AFL-CIO and the state’s public employee unions, eliminated cost-of-living increases for pension recipients, raised the retirement age from 62 to 65, and required teachers, police, firefighters, and state and local government employees to contribute more toward their pensions.

Seven-Year Ramp-up

The law gave the state seven years to ramp up to the full actuarially required pension contribution needed to make the pension system solvent — a decision that meant that New Jersey’s unfunded pension liability would continue to grow over that period. In the first year after passage of the new pension law, for example, New Jersey’s unfunded pension liability for state and local governments grew almost $5 billion to $47.2 billion, and Christie projected it would hit $54 billion by FY2018, the year the phase-in to full actuarial funding is complete.

Therefore, Christie and Democratic legislative leaders agreed that the state’s actuarial payment would be determined as if public employees were still contributing to their pensions at the old rate of 5.5 percent for teachers and state and local government workers and 8.5 percent for uniformed public safety personnel — rather than the new contribution rates of 6.5 percent that would increase to 7.5 percent by FY2018 for most government workers and the 10 percent contribution rate that kicked in for uniformed personnel in FY2011.

“The effect was to make the system a little healthier,” Rosen said.

It was that agreement on how to calculate the “actuarially appropriate” phase-in of pension contributions that Christie broke.

“When the governor said on 101.5, ‘I will make the actuarially appropriate contribution’ to the pension system, he did not say he was going to change the assumptions so he could contribute less,” one state fiscal expert said, explaining why OLS and Democratic pension experts were surprised “He wouldn’t be changing the formula after three years of making pension contributions at the higher rate if he wasn’t hundreds of millions of dollars short on his revenue forecasts.”

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Christie’s decision to change the actuarial formula that determines pension payments enables him to lower the record $1.676 billion pension payment that was included in the Fiscal Year 2014 budget he signed into law last June to $1.582 billion. It also let Christie cut the expected FY15 payment from $2.4 billion to $2.25 billion.

By FY18, Christie’s final budget and the last year of the seven-year phase-in, the pension formula change is expected to cut the state’s required contribution from about $4.2 billion to about $3.9 billion — which is the payment the state would actually be making this year if Christie and Democratic leaders had not agreed to a seven-year phase-in to actuarially appropriate funding levels.

Sidamon-Eristoff will have to address the changes in the pension-funding formula when he and the OLS’s Rosen deliver their annual budget review and revenue forecasts to the Senate Budget Committee on April 1 and the Assembly Budget Committee on April 2.

Roberts noted that the new method of calculating pension obligations — not the system that was in effect for FY2012, FY2013, and until it was changed, for FY14 – is the industry standard.

The change in the state’s pension-funding formula can be seen in an NJ Spotlight review of the various 2012 actuarial reports that determine the state’s required pension contributions for FY2014 for the Teachers’ Pension and Annuity Fund, Public Employees’ Retirement System, Police and Firemen’s Retirement System and four other pension funds, along with five 2013 actuarial reports that calculate FY2015 state pension contributions.

Actuaries Richard L. Gordon and Scott F. Porter of Milliman, a Wayne, PA, firm, clearly laid out the changes in the pension formula and their implication for the future health of the pension system in their February 27, 2014 report on the Teachers’ Pension and Annuity Fund (TPAF), the state’s largest pension plan.

The 2011 pension law sponsored by Sweeney and signed into law by Christie “increased the employee contribution rate from 5.5 percent to 6.5 percent effective October 1, 2011 and by 1/7 of 1 percent each following July 1 over the next 7 years until 7.5 percent is attained effective July 1, 2018. Typically, all member contributions are used as an offset in developing an employer’s normal cost,” Gordon and Porter wrote.

However, the Division of Pension and Benefits told Milliman in 2011 that the Christie administration and the Legislature had agreed to calculate the state’s pension contribution as if employees were still making the old 5.5 percent contribution.

As the actuaries explained, “When Chapter 78 was passed, it was our understanding that the additional member contributions in excess of 5.5 percent would serve to reduce the unfunded actuarial accrued liability rather than serve as a direct offset to the State’s Normal Contribution.” In other words, as Rosen explained, the state agreed to make higher contributions in order to partially offset the fact that the decision to take seven years to ramp up to actuarially appropriate funding was deepening the state’s unfunded pension liability.

This year, however, Milliman was instructed by the Division of Pension and Benefits to change the formula. “This valuation reflects a change in the treatment of the contributions in excess of 5.5 percent to now serve as a direct offset to the State’s Normal Contribution for the fiscal year ending June 30, 2015,” the actuaries wrote.

Furthermore, “this change was also applied retroactive to the 2012 valuation for determining the State’s Normal Contribution for the fiscal year ending June 30, 2014,” they explained.

It is that retroactive cut that accounted for $49.5 million of the $62.823 million that Sidamon-Eristoff sliced from the state’s contribution to the Teachers’ Pension and Annuity Fund to fill a $694 million hole in this year’s budget; changes in salary assumptions accounted for the other $13.3 million retroactive cut. A similar mathematical formula applied to the $29.343 million cut in state payments to pensions for higher education and state government employees.

“The long-term impact of this change in treatment of member contributions in excess of 5.5 percent of pay is that fewer contributions will be made to TPAF each year in the future, resulting in an estimated decrease in the projected funded ratio in 30 years of approximately 10 percent, based on the current investment-return assumption and other assumptions and methods,” the actuaries warned.

Further, the Christie administration’s decision to put more than $900 million less into the pension system through FY18 — which will be Christie’s last budget — will result in higher contributions being required in future years, because the pension system not only loses the $900 million in contributions, but an expected annual return of 7.9 percent on that $900 million in additional pension investments — the expected rate of return certified by Sidamon-Eristoff.

Christie warned during his February budget speech and more recently in town meetings that he would take “extreme measures” to cut the state’s long-term pension and retiree healthcare obligations unless the Democratic Legislature found other cost savings.

Presumably, he was referring to more extreme measures than the pension formula changes he had already enacted, but the OLS has already stated that the governor’s powers would not allow him to declare a fiscal state of emergency over the pension issue, and states are precluded from filing for bankruptcy to get out from under pension contracts, as the city of Detroit did.

Sweeney and Assembly Speaker Vincent Prieto (D-Hudson) already have called Christie’s bluff, stating that they would not ask public employees to contribute more when it was the state government — not government workers — that had skipped billions of dollars in pension payments and was not yet paying its full pension obligation.

Editor’s note: This article is different from the version originally published. It includes comments and additions made by the Christie administration.