Attachment 2
PREPARED BY: STEVE CONWAY
FINANCE DIRECTOR
Reviewed by: Town Manager, Assistant Town Manager, and Town Attorney
110 E. Main Street Los Gatos, CA 95030 ● 408-354-6832
www.losgatosca.gov
TOWN OF LOS GATOS
FINANCE COMMITTEE REPORT
MEETING DATE: 4/9/2018
ITEM NO: 3
ITEM NO: 11
DATE: APRIL 3, 2018
TO: COUNCIL FINANCE COMMITTEE
FROM: LAUREL PREVETTI, TOWN MANAGER
SUBJECT: RECOMMEND TO THE TOWN COUNCIL A PROPOSED UNFUNDED
ACTUARIAL LIABILITY (UAL) FUNDING POLICY FOR ADDITIONAL ANNUAL
DISCRETIONARY PENSION PAYMENTS TOWARDS THE UAL TO OBTAIN
INTEREST SAVINGS AND LOWER THE TOWN’S LONG-TERM UNFUNDED
PENSION LIABILITY.
RECOMMENDATION:
Recommend to the Town Council a proposed unfunded actuarial liability (UAL) Funding Policy
for additional annual discretionary pension payments towards the UAL to obtain interest
savings and lower the Town’s long-term unfunded pension liability.
BACKGROUND:
On February 12, 2018, the Council Finance Committee discussed staff’s recommendation to
review alternative strategies to proactively address the Town’s pension unfunded actuarial
liability (UAL). During the discussion, the Finance Committee received information about two
potential approaches, the first being a “fresh start”. A fresh start is a California Public
Employees Retirement System (CalPERS) term for re-amortizing the current UAL over a shorter
period of time. The current CalPERS amortization period is approximately 30 years.
The second alternative was the use of additional discretionary payments (ADP) or “lump-sum”
payments made each year to effectively accomplish the same objective as the “fresh start .”
Staff recommended consideration of the voluntary ADP payoff strategy because of its flexibility
and the ability to control timing and amounts of additional contributions. Staff also proposed
that a UAL Funding Policy be adopted by Council to strengthen the implementation of the ADP
PAGE 2 OF 5
SUBJECT: RECOMMEND TO THE TOWN COUNCIL A FUNDING POLICY FOR UNFUNDED
PENSION AND OTHER POST RETIREMENT BENEFITS LIABILITIES
DATE: APRIL 3, 2018
N:\MGR\AdminWorkFiles\Council Committee - FINANCE\2018\4-9-2018\03 Item 3 Funding Policy-Staff Report FINAL.docx 4/5/2018 4:37 PM
BACKGROUND Continued)::
strategy. The Committee reviewed the fiscal impacts and potential interest savings of both
alternatives and directed staff to pursue the ADP strategy along with development of a UAL
Funding Policy.
Pursuing this direction, staff has prepared an analysis reviewing the potential fi scal impacts of
making additional discretionary payments and a recommended UAL Funding Policy
(Attachment 1).
DISCUSSION:
Staff performed analysis on the approximate $31.3 and $23.3 million in unfunded actuarial
liabilities related to the Town’s CalPERS Miscellaneous and Safety employees’ pension plans
respectively, projected as of July 1, 2018. CalPERS actuarial staff assisted in modeling the
amounts of additional annual discretionary payments required to achieve a reduction of the
outstanding unfunded actuarial liability from an approximate 30-year to a 20-year amortization
period. The analysis was designed to achieve consistent level ADPs over the 20-year period and
includes the impacts of the lower future discount rate (7%). It is important to note that the
analysis does not incorporate the potential of future assumption changes which could either
increase or decrease employer contributions and some positive returns yet to be realized which
will decrease employer contributions.
The current analysis indicates that ADPs in the amount of approximately $235,000 for
Miscellaneous and $155,000 for Safety plans (totaling approximately $390,000) would be
required to emulate a 20-year amortization. These payments would be in addition to the
existing annual required employer contributions under the current amortization schedule. The
charts below present the increased annual payments with fixed ADPs above those currently
scheduled to be made over an approximate 30-year period as scheduled in the latest CalPERS
actuarial valuation report.
The first chart depicts the scheduled payments for the miscellaneous plan as detailed in the
latest actuarial valuation alongside with the $235K of ADPs made each year to accelerate the
final payoff of the unfunded actuarial liability. In examining the total expenditures for the
Miscellaneous plan, the payment schedules provided by CalPERS indicate a total savings of
approximately $8.2 million dollars if the Town maintains this annual ADP commitment.
PAGE 3 OF 5
SUBJECT: RECOMMEND TO THE TOWN COUNCIL A FUNDING POLICY FOR UNFUNDED
PENSION AND OTHER POST RETIREMENT BENEFITS LIABILITIES
DATE: APRIL 3, 2018
N:\MGR\AdminWorkFiles\Council Committee - FINANCE\2018\4-9-2018\03 Item 3 Funding Policy-Staff Report FINAL.docx 4/5/2018 4:37 PM
DISCUSSION (Continued):
The following chart depicts the scheduled payments for the Safety plan as detailed in the latest
actuarial valuation prepared by actuaries at CalPERS alongside with the $155K of ADPs made
each year to accelerate the final payoff of the unfunded actuarial liability. In examining the
total cash outlays for the Miscellaneous plan, the schedules provided by CalPERS indicate a
total savings in cash outlays of approximately $5.6 million dollars if the Town maintains this
annual ADP commitment.
PAGE 4 OF 5
SUBJECT: RECOMMEND TO THE TOWN COUNCIL A FUNDING POLICY FOR UNFUNDED
PENSION AND OTHER POST RETIREMENT BENEFITS LIABILITIES
DATE: APRIL 3, 2018
N:\MGR\AdminWorkFiles\Council Committee - FINANCE\2018\4-9-2018\03 Item 3 Funding Policy-Staff Report FINAL.docx 4/5/2018 4:37 PM
DISCUSSION (Continued):
As currently calculated, the expected total savings would be approximately $13.8 million dollars
for both plans if these ADPs are adopted versus the payments made under the current
amortization schedule.
CONCLUSION:
The pension ADP analysis performed in conjunction with CalPERS indicates that 20 -year
amortization equivalence can be achieved through additional UAL payments of approximately
$400,000 per year. The total savings associated with the ADP methodology is approximately
$13.8 million versus the existing amortization schedules for both plan s. The proposed UAL
Funding Policy will ensure that the unfunded actuarial liability is reduced over a shorter time
period and significant interest savings achieved.
PAGE 5 OF 5
SUBJECT: RECOMMEND TO THE TOWN COUNCIL A FUNDING POLICY FOR UNFUNDED
PENSION AND OTHER POST RETIREMENT BENEFITS LIABILITIES
DATE: APRIL 3, 2018
N:\MGR\AdminWorkFiles\Council Committee - FINANCE\2018\4-9-2018\03 Item 3 Funding Policy-Staff Report FINAL.docx 4/5/2018 4:37 PM
COORDINATION:
This report was coordinated with the Town Manager’s Office, the Town Atto rney’s Office, and
the Finance Department.
Attachment:
1. Proposed UAL Funding Policy.
COUNCIL POLICY MANUAL
TITLE: Pension Unfunded Actuarial Liability (UAL)
Funding Policy
POLICY NUMBER:
EFFECTIVE DATE: April 17, 2018
PAGES: 3
ENABLING ACTIONS:
REVISED DATES:
APPROVED:
PURPOSE
The purpose of this Policy is to establish a an ongoing funding methodology to enable the Town
to make additional discretionary payments (ADPs) to the California Public Employees
Retirement System (CalPERS) to effectively reduce the Town’s current amortization period for
prior years unfunded liabilities from approximately 30 to 20 years. Adherence to this Policy will
result in the following benefits to the Town:
• Reduce interest costs associated with shorter amortization schedules;
• Accelerate the reduction of long-term pension unfunded actuarial liabilities; and
• Demonstrate continued prudent fiscal management and pension management best
practices.
BACKGROUND
The UAL is an annual actuarial estimate based on a series of complex economic and
demographic assumptions associated with the pension plan ’s membership. Demographic
assumptions include mortality rates, retirement rates, and employment termination rates
among others. Economic assumptions include future investment earnings, inflation, and salary
growth rates. The development of a UAL typically results from unfavorable investment returns,
changes in actuarial assumptions, unfavorable demographic shifts, and other experiences that
differ from those anticipated by the annual actuarial assumptions.
The Town’s plans over the past several decades, like all other CalPERS participants, have
experienced low investment returns, changes in actuarial assumptions, and unfavorable
demographic shifts which have outweighed any positive plan experiences. The Town prudently
recognized the potential impacts to future service delivery if unfunded pension liabilities were
not addressed and additional funding strategies not identified. To date, the Town has taken
Small Town Service Community Stewardship Future Focus
TITLE: Unfunded Pension Liability Funding Policy
PAGE:
2 of 3
POLICY NUMBER:
proactive steps totaling $22.8 million of additional discretionary spending to address the
current unfunded obligation.
GUIDING PRINCIPLES
Follow sound financial and pension best practices to proactively manage and control the
Town’s unfunded actuarial liabilities to improve the overall financial condition of the Town. The
Government Finance Officers of America (GFOA) recommend the following principles for sound
pension management:
• Advancement of Funded Status
• Management of employer contribution volatility
• Management of the average employer contribution rate
• Maintenance of benefit security while minimizing future employer rates
• Adherence to recommended actuarial practice standards regarding amortization periods
POLICY
This Policy requires the Town to make additional annual discretionary payments (ADPs) to
CalPERS to reduce the effective amortization period of the Town’s pension unfunded actuarial
liabilities from approximately 30 years to 20 years. To facilitate the implementation of this
Policy, staff shall update the estimated unfunded amortization schedules, as informed by
actuaries from CalPERS, as part of its annual proposed budget process to determine the
additional annual discretionary payment levels required to maintain the goal of lowering the
amortization period from a 30-yearto a 20-year amortization period for all prior year actuarial
bases through FY 18/19.
As part of the proposed budget for each forthcoming fiscal year, staff shall annually
appropriate, to the extent possible, the amount of annual discretionary payments necessary to
maintain the unfunded pension liability amortization shortening from 30 to 20 years.
In the event the annual amount required for additional discretionary payments is not available
from operating revenues, the ADP shall be funded by a first lien on any one-time excess
revenues above expenditures once other General Fund required reserve levels have been
established at the appropriate levels as per the Town’s General Fund Reserve Policy.
Additionally, if upon the close of the current fiscal year sufficient General Fund revenues are
available after funding the following year’s proposed budget ADP and the other required
reserve levels as determined under the Town’s General Fund Reserve Policy, a minimum of
$300,000 annually of excess revenues shall be deposited into the Town’s General Fund Reserve
for Pension/OPEB.
TITLE: Unfunded Pension Liability Funding Policy
PAGE:
3 of 3
POLICY NUMBER:
The General Fund Reserve for Pension/OPEB shall be available to make additional discretionary
payments directly to the California Public Employees Retirement System, or paid into the
Town’s pension trust administered by the Public Agency Risk Services (PARS), as recommended
annually through the Town’s annual mid-year budget review.
If sufficient revenues are unavailable from either the proposed operating budget, the estimated
General Fund year-end actual savings, or the General Fund Reserve for Pension/OPEB, the
cumulative shortfall in amounts needed to fund additional discretionary payments shall roll
forward to the following fiscal year to be incorporated into the subsequent fiscal year’s
proposed operating budget with a priority for funding from available year end savings once all
required reserve levels have been met for that year under the Town’s General Fund Reserve
Policy until the arrears from prior years have been liquidated.
APPROVED AS TO FORM:
Robert Schultz, Town Attorney