Court Changes California’s Law On Pension Reductions

In an immediately controversial decision, the California Court of Appeals has upheld measures taken by the Marin County retirement board to reduce the pension benefits of existing employees. Because the Court’s decision appears to fundamentally alter constitutional protections given pensions, it seems likely that the impacted employees will petition the California Supreme Court to weigh in.

For years, the County’s pension board has included standby pay, administrative response pay, callback pay, cash payments for waiving health insurance, and other pay items in the calculation of the retirement benefits for employees. Pension contributions for both employees and the employer were made on these pay supplements.

In 2013, the California Legislature enacted what is known as the Public Employees’ Pension Reform Act, or PEPRA. PEPRA made any number of changes in state and local pension systems, including capping pension benefits for new hires and requiring substantial employee pension contributions. An accompanying bill granted local county pension boards the authority to exclude from the pension calculation compensation “determined by the board to have been paid to enhance a member’s retirement benefit” under the pension system. The target of the bill was pension “spiking,” where employees received forms of compensation in the final years of employment with the clear purpose of increasing pension benefits.

Almost immediately, Marin County Pension Board adopted a new policy excluding the pay supplements such as standby pay from pension calculations. The policy applied both to new hires and to existing employees. Not unexpectedly, a coalition of County unions sued, claiming the policy violated the constitutional protections given their pensions.

The Court of Appeals rejected the lawsuit, following a road that was a difficult one. The obstacle facing the Court was a 33-year-old California Supreme Court decision that clearly held that “a constitutional bar against the destruction of such vested contractual pension rights, however, does not absolutely prohibit their modification. With respect to active employees, we have held that any modification of vested pension rights must be reasonable, must bear a material relation to the theory and successful operation of a pension system, and, when resulting in disadvantage to employees, must be accompanied by comparable new advantages.” As the Marin County policy change reduced the pension benefits of active employees without “comparable new advantages,” the unions argued that the Court of Appeals was bound to follow the higher court’s dictates and declare the policy unconstitutional.

The Court resolved the issue by holding that the Supreme Court actually meant “should” where it wrote “must.” The Court reasoned that “there is legitimate reason to question whether that was what the Supreme Court intended in 1983. First, only the least authoritative of the three sources cited actually supports the word ‘must,’ while the two Supreme Court decisions employ ‘should.’ Second, barely a month later, the Supreme Court – speaking though the same justice – filed another decision which used the ‘should’ formulation. Most significantly, the ‘must’ formulation has never been reiterated by the Supreme Court, which has instead uniformly employed the ‘should’ language.

“It thus appears unlikely that the Supreme Court’s use of ‘must’ decision was intended to herald a fundamental doctrinal shift. ‘Should,’ not ‘must,’ remains the Court’s preferred expression. And ‘should’ does not convey imperative obligation, no more compulsion than ‘ought.’ In plain effect, ‘should’ is ‘a recommendation, not a mandate.’”

The Court then turned to the Union’s argument that the moment each individual plaintiff commenced working for a public agency in Marin County, that person acceded to a “vested right” to a pension. The Court conceded that “to a large extent, that premise is correct. But to call a pension right ‘vested’ is to state a truism. Until retirement, an employee’s entitlement to a pension is subject to change short of actual destruction.”

The Court then addressed the confines of what would be permissible in reducing pension benefits for active employees. The Court held that “modifications must be reasonable, and it is for the courts to determine upon the facts of each case what constitutes a permissible change. To be sustained as reasonable, alterations of employees’ pension rights must bear some material relation to the theory of a pension system and its successful operation, and changes in a pension plan which result in disadvantage to employees should be accompanied by comparable new advantages.’

“Implicit in the formula, however expressed, is that alterations, changes, and modifications do not invariably work to the employee’s benefit. ‘Reasonable’ modifications can encompass reductions in promised benefits. Thus, short of actual abolition, a radical reduction of benefits, or a fiscally unjustifiable increase in employee contributions, the guiding principle is still that the governing body may make reasonable modifications and changes before the pension becomes payable and that until that time the employee does not have a right to any fixed or definite benefits but only to a substantial or reasonable pension.”

With that framework, it was not difficult for the Court to uphold the Marin County policy changes. The Court noted that the unions “make no real effort to demonstrate why PEPRA’s modification of the definition of compensation earnable does not bear some material relation to the theory of a pension system and its successful operation or is not a reasonable modification of the pension system projected to plunge into a fiscal and actuarial abyss.”

Marin Association of Public Employees v. Marin County Employees’ Retirement Association, 2016 WL 4379316 (Cal. App. 2016).