What Detroit's Bankruptcy Means for Public Pensions Nationwide

×
Jeff Kowalsky, Bloomberg via Getty Images
When the city of Detroit sought bankruptcy protection this month, it marked the largest municipal bankruptcy filing in history, with huge implications for city taxpayers and creditors. As Detroit looks for ways to cut its outstanding debt from $11.5 billion down to $2 billion, current and former city employees could end up bearing much of the cost.

In his proposal to creditors, Detroit Emergency Manager Kevyn Orr (above, right) pointed to a shortfall of $3.5 billion in its pension funds. Arguing the need for "significant cuts in accrued, vested pension amounts for both active and currently retired persons," Orr will seek to reduce the amount Detroit has promised in pension payments for current employees as well as slashing pension-benefit checks for retirees.

A National Problem

Detroit is far from the only city facing severe pension problems. The biggest 61 cities in the U.S. had a combined employee-benefits shortfall of more than $217 billion, according to a report from the Pew Center on the States earlier this year. Of that amount, only $99 billion was attributable to pensions; the remaining $118 billion represented underfunded promises for health care benefits to retirees. Moreover, the most recent data available to the Pew Center was from 2009, with partial results from 2010 suggesting further widening of pension deficits. Although Washington, D.C., and New York City had fully funded pensions as of 2009, Chicago's funding level came in at only 52 percent, and Atlanta's pension was only funded at 60 percent.

For municipal employees and retirees around the country, there's a lot at stake in the Detroit bankruptcy proceedings. For decades, the idea that current and former workers have a contractual right to their benefits kept governments from making changes that affected past benefits, instead cutting benefits to new hires and dialing back the accrual of future benefits for existing employees.

But the successful restructuring of pension obligations in Central Falls, R.I., where municipal retirees agreed to substantial pension cuts during the town's bankruptcy, shifted the way governments think about their pension obligations. As a result, city and state governments have been more aggressive in bargaining with workers, trying to cut pensions even before bankruptcy filings, and the bargaining position of those workers has been weakened by the erosion of the legal precedent that used to protect them.

A Lack of Protection

Public workers have two main disadvantages compared to their private-sector counterparts. When private companies fail, the Pension Benefit Guaranty Corporation steps in to provide benefits for employees and retirees. Although certain high-income workers who fall above the PBGC's maximum benefit amounts won't be receive full compensation, most rank-and-file workers get paid in full for their pension benefits. Unfortunately, the PBGC doesn't cover public employees.

In addition, for many municipal workers, city pension plans actually take the place of Social Security. Rather than having Social Security taxes withheld from their paychecks, those employees make contributions directly into pension plans. As a result, if their pension benefits are reduced, these workers lack a qualifying work history under which they can claim Social Security benefits.

A Balancing Act

Of course, some government pension plans have deservedly earned criticism from the public because of their lavish payouts. Episodes like the scandal in the city of Bell, Calif., which centered on large salaries for public officials that created even larger pension obligations under the state's retirement system, turned public opinion against government workers. Especially as more private employers have phased out traditional pensions entirely, the right to any pension payment has increasingly become the exception rather than the rule.

If Detroit is successful in cutting pension benefits for its employees, though, it could lead to similar cuts in cities throughout the country. And for municipal workers who are in or near retirement, and who have planned their futures based on those promises, the impact of those cuts could be devastating.

You can follow Motley Fool contributor Dan Caplinger on Twitter @DanCaplinger or on Google+.


Increase your money and finance knowledge from home

Intro to different retirement accounts

What does it mean to have a 401(k)? IRA?

View Course »

Advice for Recent College Grads

Prepare yourself for the "real world".

View Course »

Add a Comment

*0 / 3000 Character Maximum

135 Comments

Filter by:
pdrake515

AND, government workers who have worked the required 40 Quarters into Social Security can not drawn their full Social Security benefits EVER becase it is called a \"Windfall Elimination\". I call it robbery, broken promises. Most people forget that government employees paid into their retirement funds (it is not cheap). The fund managers and the City/County/State/Feds or U.S. Postal service; borrow/take money from these funds when ever times get tight.

September 11 2013 at 4:09 PM Report abuse rate up rate down Reply
krazzicraig

The outcome of this may have a hugh impact on goverment pensions and health care coverage. There is no safity net for goverment pensions or healthcare . Based on the numbers being used ,it would appear the funds are under-funded by as much 50-60%. Anty that are retired and living on a goverment pension should be very concerned. They could find their income cut in half and their health care coverage co-pays go much higher.

July 26 2013 at 11:42 AM Report abuse +3 rate up rate down Reply
Tom

This is just the start. The American standard of living has for years been on the decline. Thinking the pension system can continue without wealth is ignorant thinking. The problem is not limited to government . Pensions will decline and are declining because the promise can not be kept.

July 26 2013 at 10:32 AM Report abuse +3 rate up rate down Reply
njenel

maybe the best bet is to dump the monetary system.

July 26 2013 at 10:13 AM Report abuse rate up rate down Reply
mmcdona484

The problem with government entities is that the employees have a guaranteed retirement. This provides that after a certain time they get the average of their 3 highest paid years as a pension. Work a lot of overtime a couple of years and this amount is artificially high. All government pensions need to go to 401K style retirement. The money is put in at the time you earn it, you can have matching funds, and you control how it is invested. When you retire the money is yours and the state, city or county does not have to worry about coming up with money it has not saved. Provide the ability to maintain your health insurance which would cost the municipality some money and you have eliminated this issue. Unions have fought to lock in a retirement value that has to be paid until death, then paid to spouse until she passes. This is why Detroit and other cities in California and others are going broke. Government gets bigger, legacy costs get higher. Reducing the size of government reduces these legacy costs.

July 26 2013 at 9:57 AM Report abuse -2 rate up rate down Reply
bhcarley

Some posters on here blame Republicans . However these posters fail to admit that Detroit and most of the other cities facing deep problems are run by Democrats and have been run by Democrats for generations . Chicago is one city that comes to mind .

July 26 2013 at 9:47 AM Report abuse -2 rate up rate down Reply
rich_paddlyrich

Re: Matt Moore’s July 14 letter: South Carolina GOP: A national model”

It seems that Matt Moore must be sharing the same ivory tower as Gov. Nikki Haley.

1) He boasts that South Carolina is “the envy of the nation.” Which nation?

2) He is also proud of the fact that, since Republicans control so many offices, we are essentially a “de facto single party state” which others also envy. Does one-party rule have a place in a democracy, Mr. Moore?

Far from being the “envy of the nation,” South Carolina ranks at the bottom of the barrel over and over again in so many areas. Are the Republicans proud of these state rankings? (50 = worst):

• 49th -- High school graduation annual rate: 61percent

• 45th - - Health

• 48th -- Children in extreme poverty 17 percent

• 45th -- Per capita income

• 50th -- Women elected to state government: 9 percent (I guess Haley is one of them!)

• 50th -- Highway maintenance/improvement

• Where do we rank No.2? In the number of women killed by men. Almost No.1 in the nation

The single-party system which Mr. Moore brags about is not democratic and not good for South Carolina. (Are we like China, N. Korea, Cuba?) Yes, we have elections; but when the balance of political power prevents the opposition -- namely Democrats -- from winning elections, we get secrecy, corruption, ethics violations -- just like what is occurring in today’s South Carolina under the poor leadership of Gov. Haley and the Republican party.

We, the people of South Carolina, are suffering and it is getting worse every year. Step down from your ivory tower, Mr. Moore, or better yet -- just step down -- period. Lets give the Democrats a chance again. Republican ideas and policies have failed us.

Read more here: http://www.myrtlebeachonline.com/2013/07/25/3606040/letter-single-party-gop-system.html#storylink=cpy

July 26 2013 at 9:11 AM Report abuse +4 rate up rate down Reply
1 reply to rich_paddlyrich's comment
h.hughjardon

Single part rule in tbe USA for obama's first two years was fine with you all..and we added more to the national debt in the first four years of hugobama than 8years of bush, and the worst economic recovery since the great depression.

July 26 2013 at 11:03 AM Report abuse -4 rate up rate down Reply
5 replies to h.hughjardon's comment
scottee

It would be nice if it canceled congressional pensions.

July 26 2013 at 8:45 AM Report abuse +4 rate up rate down Reply
rich_paddlyrich

aaflyboy1

Listen Up Working Americans that still have a pensions!!
Bankruptcy is the "NEW" GOP AND ITS ALLIES IN CORPORATE AMERICA, Way to STEAL YOUR HARD EARNED PENSIONS AWAY!
American airlines and all the other filed bankruptcy in order to take away pensions and healthcare benefits. THE EMPLOYEES WORK AND EARNED THESE BENEFITS!
STAND UP AND TAKE ACTION NOW IN ORDER TO STOP THIS MIS JUSTICE!
THE CEOS WORK 1 YEAR AND WALK AWAY WITH YOUR HARD EARNED MONEY!
THEY GET MILLION$
THIS HAS TO STOP!
IN 2014, VOTE ALL THE REPUBLICANS OUT OF OFFICE WHO ALLOW THIS MIS JUSTICE TO HAPPEN!
THANK YOU PRESIDENT OBAMA FOR BLOCKING AMERICAN AIRLINES MANAGEMENT FROM TAKING OUR PENSIONS! THEY ARE NOW FROZEN!
BUSH ALLOWED DELTA AND UNITED TO TAKE PENSIONS AWAY FROM WORKING AMERICANS!
BUSH IS A REPUBLICAN!
REPUBLICANS ARE FOR BIG BUSINESS!

July 26 2013 at 8:31 AM Report abuse +4 rate up rate down Reply
3 replies to rich_paddlyrich's comment
mike

good thing Obama bailed out Detroit ,

July 26 2013 at 8:20 AM Report abuse -2 rate up rate down Reply
1 reply to mike's comment
scottee

yes, and promised it would not go bankrupt. I wonder what culpability the auto workers union has in all this?

July 26 2013 at 8:48 AM Report abuse -2 rate up rate down Reply