Ernie Sherman has watched as his pension rode a path to disaster.
On Monday, the Dallas police lieutenant was in Austin for a hearing on a bill that could rescue the failing fund. But while Sherman was there, he took a detour to the public library to look at the 1993 bill that created what's known as DROP, or the Deferred Option Retirement Plan.
It's a big driver behind the fund's looming insolvency. It’s about a billion dollars of the fund’s $3.7 billion shortfall. The program lets police officers and firefighters retire from the fund, keep working and put their pension checks in a special retirement account.
“It was a decision made to stop the bleeding of veteran officers leaving the department,” he says. “It was a here-and-now decision.”
What Sherman found in the bill's actuarial impact statement made him furious. It stated that DROP would increase the fund’s “normal cost, the unfunded actuarial liability and the amortization period” of the fund. An amortization period refers to the period it takes to pay something off.
Further, it depended on a rate of return of 9 percent and annual salary increases of five percent. It says those assumptions are not supported over an extended period by “historical economic statistics.”
“Historically, it didn’t happen,” he said. “That was never going to happen.”
Not one city officials testified either in support or against the bill. However, the now-disgraced executive director Richard Tettament, along with the then chair of the board, did testify in support.
“I think the city was complicit,” Sherman said. “I think they had made promises that they would make up any short falls."
Steve Bartlett, who served as mayor at the time, says DROP just wasn’t on his radar screen. He cannot ever recall a discussion about DROP, much less a debate about it.
“The underlying cause of the problem was the failure to keep pay in line, and we put in a bad fix,” he said. “Instead of fixing the problem, we made it worse. We compounded it. It just makes me sick to my stomach.”
Dallas coming out of an economic downturn, city leaders felt too cash-strapped
At the time, the city was coming out of an economic downturn and city leaders felt too cash-strapped to fund police and fire raises.
“We were wrong,” said Bartlett, who now works for a Washington-based financial services consulting firm. “We weren’t hamstrung. We could have raised property taxes.”
He says not pushing for police and firefighter pay raises, along with the “ill-conceived” creation of DROP, now rank among his chief regrets.
Kelly Gottschalk, who has been the fund’s executive director for nearly two years, agrees that the creation of DROP set the fund on a path to fiscal disaster.
Nine percent returns clearly were not realistic, she said.
She says the council members who sat on the pension board were missing in action when DROP was conceived and when it was voted on by the board. Council members simply did not attend the meetings, which was the case during the tenures of several mayors.
“They didn’t attend a single meeting from the time they were talking about DROP to the time that the election was set by the board,” Gottschalk said.
Throw in a board controlled by the very people who benefited from DROP, and it’s a recipe for disaster, Gottschalk and Bartlett agree.
“It set up an environment, where members could enhance their benefits without a lot of effort,” she said.
A series of changes approved by members made it much worse.
“They kept enhancing it and enhancing it and let us to where we are today,” she said. “Creation kind of started the ball rolling, but it became a snowball very quickly.”
The worst modification was a 1998 change
She says the worst modification was a 1998 change setting a minimum return of 8 percent and a maximum return of 10 percent. The fund, fearing lawsuits, continued to pay those high-interest rates during the economic downturn even in the years when the fund lost money or barely broke even.
Changes in 1999 allowed people to go intro DROP sooner and retirees to leave their money in DROP accounts indefinitely. A 2005 change limited the board’s ability to restrict withdrawals from the DROP accounts – which became a huge problem during the recent run on the bank when worried retirees withdrew hundreds of millions of dollars worsening the fund’s financial problems.
“So not only were you paying high-interest rates at that point,” Gottschalk said. “People were keeping their money because why wouldn’t you? It was a risk-free rate, and it was going to beat the market.”
She agrees that DROP also played a role in the bad real estate investments that the fund made. Chasing ever greater returns, they made ever riskier investments that end up costing the fund about a $1 billion.
The new bill would make significant changes to DROP
The bill, authored by Rep. Dan Flynn, would make significant changes to DROP. It would lower the interest rate to zero, annuitize the money in DROP accounts, so that balances would be paid out over a person’s life expectancy. It also directs a newly restructured board to consider clawing back some of the interest paid on those accounts.
Sherman knows the bill isn’t perfect but he supports it.
Gottschalk also says she noticed that many of the retirees who attended Monday’s hearing came around to supporting it. She says many of them were impressed by the words of the bill’s author, Rep. Dan Flynn.
“I think he put the message out there that we’re going to fix your retirement,” she said.
For Sherman, the pension fund is his family's future. His wife is a veteran Dallas firefighter.
He believes that to set the pension fund on the right path you have to understand where it all began.
“We're in the position we are now because nobody thought about the unintended consequences,” he said.
A Texas House committee will vote on a bill meant to rescue Dallas' troubled police and fire pension fund.