Pension COLA Changes Cannot Be Applied To Prior Service

In 2013, Oregon’s Legislature, facing rapidly escalating costs for the Public Employees Retirement System, enacted two bills aimed at reducing those costs. The most important of the changes brought about by the legislation dealt with a cost of living increase to pensions. COLA adjustments first became law in Oregon in 1971, and required adjustments to pensions based on changes in the Portland Consumer Price Index. The 2013 bills converted the COLA benefit from one tied to the CPI to a fixed COLA, a change that significantly reduced the value of the COLA.

The Oregon Supreme Court declared the legislation unconstitutional, at least insofar as the bills applied to years of service prior to 2013. The Court’s decision turned on what is known as the “contracts clause” of the Oregon Constitution. Like Article I, Section 10 of the United States Constitution, the “contracts clause” prohibits the passage of legislation that “impairs the obligation of contract.”

The Court held that “in the employment context, an employer frequently offers a promise of compensation in exchange for an employee’s service. The compensation can take various forms, such as salary, bonuses, and fringe benefits. Pension benefits are another form of compensation. Whereas, for example, salary is compensation paid to the employee every two weeks or at the end of each month, a pension is compensation paid to the employee at retirement. Pension benefits therefore are part of the employee’s promised but delayed compensation for the performance of his or her job. As a result, the contracts at issue in this case are the employment contracts between petitioners and their participating public employers.

“Although the PERS contract results from an offer and acceptance, the PERS statutes are themselves not an offer that employees can accept. Instead, each participating employer offers a promise to its employees to provide compensation, including PERS benefits, in exchange for the employees’ services. A participating employer’s offer of PERS benefits becomes a contract only when an employee accepts the offer. Thus, an employee earns a contractual right to the offered PERS benefits at the time that the employee renders his or her services to the employer. But merely because the PERS contract has been formed does not mean that the contractual relationship between the employer and the PERS member becomes static. As long as the employer continues offering PERS benefits, PERS members can continue accepting that offer, and, thereby earn additional contractual rights to additional PERS benefits.”

After finding that the COLA provisions were “terms of the PERS contract” that were impaired by the 2013 legislation, the Court turned to the State’s main argument – that the changes in the COLA provisions were justified. The notion of a justifiable impairment of contract is a product of federal law, in particular a decision of the United States Supreme Court that “a sufficient public purpose may justify the impairment of a state contract in two circumstances. First, the state can impair a contract if adhering to it would require the state to surrender an essential attribute of its sovereignty. Second, laws that substantially impair contracts may nevertheless be valid if the impairment is reasonable and necessary to serve an important public purpose.”

The Oregon Supreme Court refused to rule on whether it would apply the federal rule to the Oregon Constitution, holding that even if it were to adopt the test, the COLA changes would still be unconstitutional. As the Court saw it, “the State cannot eliminate, and largely does not consider, any alternative means for achieving the very loosely defined policy goals put forward. Those goals broadly relate to providing public agencies with more money to provide better public services, focusing on public safety and education.

“The desire for additional funding for those services is not tied to any specifically identifiable deficiencies resulting from the current funding levels. Increasing the quality of public safety and education services is always desirable. Those are certainly appropriate targets of public concern and legislative action. The State points out that the COLA amendments will allow public employers to hire more teachers, police officers, and others needed to carry out those important functions. But the inquiry under the proposed public purpose defense is not what the agencies can do with additional funding; instead, the inquiry under the proposed public purpose defense is whether the current level of funding is so inadequate as to justify allowing the state to avoid its own financial obligations. The record that the State presented fails to establish that inadequacy.

“Moreover, even if the State had identified specific public service deficiencies resulting from the current level of funding, it has not demonstrated that those deficiencies could not be remedied through funding from other sources. The State asserts that Oregon’s ability to generate tax revenue is limited because it must keep taxes sufficiently low and services sufficiently high to avoid discouraging people and businesses from moving to other states – those people and businesses are the base that the state draws taxes from. But the State never compares Oregon’s tax burden to other states. The record establishes that, in Oregon, state taxes per capita are 11.8% below the national average. And as a percent of gross state product, Oregon’s taxes per capita are 14.8% below the national average. Assuming, without deciding, that we could recognize a public purpose defense in appropriate circumstances, the State has failed to demonstrate those circumstances here.”

Finally, the Court did conclude that the Legislature could change the COLA prospectively, for benefits earned by PERS members on or after the effective date of the 2013 amendments.

Moro v. State of Oregon, 2015 WL 1955591 (Or. 2015).