What Are Other Funds Doing?”

I often hear this question at trustee board meetings. More often than not, it arises from a decision on funding or investment policy.  When asked, it is expected that “the professionals” (i.e.  attorney, actuary or consultant) will pull from a trove of information and divine “the answer”  The fact is, funding policy (dictated by the fund’s sponsor) and investment policy (as determined by the fund’s board) can be as varied as fingerprints. 

In fiduciary training sessions, we always start with the premise that a fiduciary’s principal role is that of “decision maker.” Actuaries, consultants and managers provide information, part factual, part opinion.  Counsel provides a legal framework, either statutory or under a developed body of case law.  The fiduciary then evaluates these facts within the framework to reach his or her decision.  When done correctly, the board demonstrates what is commonly referred to as “procedural prudence” i.e. reaching a decision after adherence to an established procedure designed to evaluate appropriate information within an established legal framework.  

Information is a tool.  Correct, objective information is an indispensible tool.  This Summary of the Census Bureau’s Annual Survey of Public-Employee Retirement Systems: State-Administered Pensions released January, 2012 provides some answers our inital question.  It is the 2010 report of 222 state government pension systems with defined benefit plans. As noted in the Summary, for the purpose of Census Bureau statistics, the term “state government” refers not only to the executive, legislative, and judicial branches of a given state, but it also includes agencies, institutions, commissions, and public authorities that operate separately or somewhat autonomously from the central state government, but where the state government maintains administrative or fiscal control over their activities, as defined by the Census Bureau.  The Census Bureau collects this data by law under Title 13, U.S. Code, Sections 161 and 182.  While the practices of other funds are not dispositive to the prudence of a given decision, the information in this report can be a useful resource to the fiduciary decision-maker. 

A recent article in the Wall Street Journal notes the apparent conflict of public pension fund investments in private equity.  The article points to the fact that certain labor unions, including the Service Employees International Union (SEIU), have criticized private equity funds while their members sit on boards which authorize investments in such funds.  A specific example citied is the Ohio Public Employees Retirement System, which includes a representative of SEIU among its Board members, having increased its targeted private equity holdings.  The article goes on to point out TV spots funded by the American Federation of State, County and Municipal Employees (AFSCME) which criticize Republican presidential candidate Mitt Romney regarding his tenure at Bain Consulting.

The piece touches on two issues of particular interest.  First, public funds were clearly late to the private equity party.  The article states that public funds missed the 1980s private equity boon “fearing the unknown.” While this may have been true in some cases, it ignores the fact that many state and local funds operated under enabling legislation that did not authorize private equity investment and, in some cases, actually prohibited such investments.  (By contrast, while there are some limitations on private equity investment under ERISA, it has never been prohibited for private pension funds.) 

A second, more pressing issue is the nature of a “representative” trustee’s duty.  The article suggests that if a trustee is the representative of a specific group, e.g. bargaining unit, police officers, retirees, etc., then that trustee should adhere to the positions of that group in the exercise of his or her fiduciary duties.  This is a plainly incorrect.  In our fiduciary training sessions, we stress that each trustee, regardless of the origins of appointment, has an overriding duty to act "solely in the interests of participants and beneficiaries,"  commonly known as the "duty of loyalty."  While a representative trustee may consider the impact of a decision on his or her "constituents," such consideration must be subordinate to the prudent exercise of fiduciary duty to the fund membership as a whole. In both the public fund and ERISA context, this duty is clear.  See Sec. 7 of the Model Rules for Public Employee Retirement Systems Act and Sec. 404(a)(1) of ERISA.  Viewed from this perspective, this apparent  “conflict” can, and in fact does, go away. 

Public fund boards are increasingly under media pressure to disclose the identity and pension benefits of retirees.  Historically, disclosure requests were confined to elected officials or other government employees with public profiles (e.g. university presidents, Division I-A football and basketball coaches.)  Now, disclosure efforts are focused on “high end” pensioners - typically those with annual pensions above $100,000 per year - regardless of position or notoriety.

The main tools in this battle are state “right to know” or similar public disclosure laws that purportedly require the disclosure of compensation paid by governmental entities.  The counter argument to disclosure focuses on the confidentiality and privacy rights of the retirees.  At least three such cases have been decided in favor of disclosure in California, and others are working through various court systems.  See Sacramento County Employees’ Retirement System v. the Sacramento Bee, 195 Cal. App. 3rd 440  (2011); California Foundation for Fiscal Responsibility v. San Diego County Employees Retirement Association, (D058962) Cal. App. 4th (2011); and  Sonoma County Employees’ Retirement Association v. Superior Court (The Press Democrat), (A130659) Cal  App. 1st (2011).

There are two interesting developments in this area.  First, it has been reported that Oregon legislators plan to introduce a bill which strengthens that state's privacy laws and clearly prohibit the release of member-specific information, such as names and pension benefit amounts. 

Second, there is considerable momentum for a “middle ground” in the disclosure battle.  Specifically, both sides would agree that the vast majority of high end pensioners worked in relative anonymity during their careers and their pension benefits are functions of long service at compensation rates commensurate with their profession (e.g., physicians, computer information officers, attorneys).  Conversely, certain public employees, such as coaches and elected officials, are public figures and would have a lessened expectation of “privacy” regarding the publicly funded pension benefit.

We have recommended to boards, in both fiduciary training and policy formation, the development and implementation of such disclosure guidelines.  This is, in certain respects, analogous to the legal principles under defamation law which provide reduced protections to “public figures” as compared to private individuals.  As disclosure cases proceed throughout the country, and state legislatures consider possible modifications to member confidentiality laws, it will be interesting to see whether this approach gains traction. 

IRS Announces Hearings on Governmental Plan Rules

The IRS has announced that the public hearing on its proposed regulations relating to the determination of governmental plan status will be held on June 5, 2012 at 10 a.m. in the Internal Revenue Building in Washington D.C.  The advance notice of proposed rulemaking on governmental plans was published on November 8, 2011. (See entry below)  The public hearing is an opportunity for members of the governmental plans community to comment on the substance of the proposed regulation.  Proposed speakers must submit an outline of topics by February 6, 2012.   

 http://www.gpo.gov/fdsys/pkg/FR-2012-01-23/pdf/2012-1253.pdf 

For years, governmental entities have struggled with the criteria for identification of a “governmental plan” for purposes of the tax-qualification rules of the Internal Revenue Code (“IRC”).  On November 8, 2011, the IRS issued an advance notice of proposed rulemaking (ANPRM) defining "governmental plan" under Section 414(d) of the IRC.  The ANPRM sets forth an extensive discussion of the IRS's view on the characteristics of a governmental plan. It can be anticipated that through the initial comment period -- ending on February 6, 2012 -- and as proposed regulations work their way into final regulations, input from governmental sponsors and advisors may significantly impact the criteria for determining governmental plan status.

Link to full text of Duane Morris Alert:

http://www.duanemorris.com/alerts/IRS_advanced_notice_of_rulemaking_for_governmental_plans_4303.html.

Link to full text of ANPRM:

http://www.gpo.gov/fdsys/pkg/FR-2011-11-08/pdf/2011-28853.pdf

On October 20, 2011, the Internal Revenue Service published news release IR-2011-103, which details the cost-of-living adjustments for dollar limitations for pension plans and other retirement-related benefits for the 2012 tax year.

Of particular note for plan sponsors is the fact that the elective deferral limit has been increased from $16,500 to $17,000 and the annual limitation for contributions to defined contribution plans increased from $49,000 to $50,000.  In addition, the annual compensation limit increased from $245,000 to $250,000.  This is the first increase in those areas since the current limits went into effect for 2009.

If you have any questions regarding the IRS announcement or its impact on your plan, please contact an Employee Benefits and Executive Compensation attorney in the Employment, Labor, Benefits & Immigration practice group.

Timing is everything.  In deciding to launch a blog specifically geared to the public fund fiduciary, we knew there was a broad landscape of legal issues that are now gaining wide scale attention.  We intend to touch on many of these issues in subsequent installments.  Hopefully, we will have the opportunity to drill down on major issues that are of importance to our clients and readers.  Of the many issues that could serve as the first entry, we prepared discussions on two that seemed equally urgent:  the fiduciary duty to protect pension records requested under “right to know” laws and the potential impact of bankruptcy filings of local governmental plans.  With yesterday's bankruptcy filing by the city of Harrisburg, Pennsylvania, the decision has been made for us.  We value your time and hope you find this discussion, and those that follow, to be worthwhile. 

The bankruptcy filing of Harrisburg, Pennsylvania and the recent filing of Central Falls, Rhode Island will raise interesting issues regarding the treatment of public pension funds following a filing under Chapter 9 of the Federal Bankruptcy Code.  In general, Chapter 9 of the Bankruptcy Code, 11 U.S.C. § 901 et seq. allows Federal bankruptcy relief for municipalities (defined as “political subdivision or political agency or instrumentality of a state”).  As structured, access to Chapter 9 must be expressly authorized by the state in deference to the powers afforded the states under the Tenth Amendment of the U.S. Constitution. 

The key tools in a Chapter 9 filing are the rejection of collective bargaining agreements and the imposition of a "plan of adjustment."  In the highly publicized bankruptcy filing involving the city of Pritchard, Alabama in 1999, the Bankruptcy Court approved the plan of adjustment which required a $16.5 million cash infusion to be paid to the city’s pension plan in 2009.  In 2005, the city authorized a study of the plan and determined that if contributions were not made as required, the pension plan would become depleted and default on payments to its annuitants.  In 2009, the contributions were not made and in September of 2009 the pension checks to retirees were suspended. 

What is unclear from Chapter 9, and particularly acute after Pritchard, is what right or recourse exists for retirees if pension checks are, in fact, suspended.  Given the increasing reports of distress in local municipalities (and states), it will be interesting to follow the developments in Pritchard, Central Falls and now Harrisburg.  It should be noted that the Rhode Island legislature, perhaps in anticipation of the Central Falls filing, enacted legislation to grant municipal bondholders priority over other creditors, including retiree medical and pension annuitants. 

Harrisburg’s police plan is under local control; however, its fire and non-uniformed pension plans have been assumed by the Pennsylvania Municipal Retirement System.  Nonetheless, the filing of Harrisburg represents a watershed event in the evolving discussion on the impact of the economic downturn of governmental pension plans.  The Harrisburg filing may be viewed at: http://online.wsj.com/public/resources/documents/harrisburgbankruptcyfiling10122011.pdf.