Why Municipalities Should Look to San Jose, Not Detroit, For a Lesson in Pensions

Dennis Marton walks with protesters at a rally outside The Theodore Levin United States Courthouse in Detroit, Wednesday, Oct
Dennis Marton walks with protesters at a rally outside The Theodore Levin United States Courthouse in Detroit, Wednesday, Oct. 23, 2013. An unusual trial starts Wednesday, pitting Detroit?s emergency manager and his legal team against unions and pension funds that claim the city isn?t qualified to scrub its books clean under Chapter 9 bankruptcy. (AP Photo/Paul Sancya)

Judge Steven Rhodes's recent ruling in Detroit led many to believe that it is open season on worker pensions. The national media declared that local governments had new legal precedent to start cutting modest benefits for teachers, firefighters, police officers and thousands of other public employees.

This is exactly the wrong lesson to take away from Detroit. A better case study for municipalities looking to cut retirement benefits is the City of San Jose, where Judge Patricia Lucas recently ruled that modest retirement benefits are a contract with employees, and therefore protected by the state constitution.

Detroit faced unique circumstances that led to an extraordinarily rare outcome: a municipal bankruptcy. The city lost a staggering 1.25 million people since its peak in the 1950's, leading to a massive loss in revenue from income and property taxes. Bad actors on Wall Street exacerbated the problem. Not only did the crash of 2008 throw huge numbers of Detroit residents out of work, reduce the value of pension plan assets, and increase the number of retirees receiving pensions, but Wall Street aggressively engaged the city in dangerous swap deals that left Detroit further in debt.

Judge Rhodes ruled that pensions could be cut because, in this situation, federal bankruptcy law trumped the pension protections enshrined in Michigan's constitution. The consequences have been dire. While Wall Street reaped record profits in 2013, if the ruling stands, Detroit's retirees could be left with only 16 cents for every dollar they earned towards pensions.

Wall Street may consider pensions an "investment," but for workers, these pensions -- averaging a modest $19,000 a year -- are a form of compensation earned through hard work, promised through contracts, and deferred until retirement. It is a source of income they never imagined was at risk. It is precisely for this reason that the vast majority of states protect worker pensions.

These constitutional protections were on display in San Jose, a city that did not face a municipal bankruptcy -- but rather has maintained an impeccable bond rating despite a budget crunch caused by non-pension debt, corporate tax subsidies, antiquated revenue collection, and the Great Recession. Mayor Chuck Reed pushed a legally dubious "Measure B" which would have cut the pensions of city employees who couldn't contribute a whopping additional 16 percent of their salary toward retirement. Judge Patricia Lucas rejected the initiative, tentatively declaring that as part of employee contracts, retirement benefits are protected by the state constitution and therefore, the whims of politicians.

Since bankruptcy was not an issue in the San Jose case, the circumstances under which Judge Rhodes authorized gutting pensions in Detroit simply did not apply.

Despite the national attention surrounding Detroit, municipal bankruptcy is still very rare. According to a Governing analysis, only 13 local governments have filed for bankruptcy since 2008. Five of those filings have been dismissed. To put it in context, there are more than 20,000 local governments located in states that permit cities and counties to file for Chapter 9 Bankruptcy protection.

From Chicago, to Jacksonville, to Baltimore, workers in a myriad of cities are facing attacks on their retirement security, with city governments trying to force a switch from pension plans to unreliable retirement schemes. This shift has the effect of robbing teachers, police officers, firefighters, and city workers of their economic security, and puts entire communities at risk.

Legally questionable and heavy-handed "reforms" end up costing city residents dearly. They pay not only in legal fees, but in foreclosed homes when seniors can't afford their mortgages, in depressed spending at local businesses, in an inability to attract new and talented workers, and in growing economic inequality as the city's middle class falls further behind.

Protections in state constitutions prevent politicians from robbing public servants of the retirement benefits that they have worked for and contributed toward their entire lives. Mayor Reed now understands the consequences of skirting these requirements. Other municipalities should take note.


Teague Paterson is a partner with Beeson, Tayer & Bodine, and is involved in the San Jose litigation discussed here. He represents labor unions in the public and private sectors, and associated employee benefit and retirement plans.