A badly underfunded pension system has blown a sizable hole in the Omaha Public Schools budget, forcing the district to divert tens of millions annually to shore up its retirement fund.
To blunt the impact of that cost-shifting on the classroom, leaders of the district charged with educating more of the state’s poor students than any other are hoping the Nebraska Legislature will advance a bill authorizing OPS to borrow $300 million and issue bonds to help pay down the pension debt.
So-called pension obligation bonds seek to infuse new dollars into struggling pension funds and over time take advantage of the margin between interest rates and the traditional returns on pension investments. OPS officials are hoping the bonds will reduce the extra money they are being forced to put into pensions, an escalating figure that is projected to rise from $18.7 million this year to nearly $27 million by 2022.
“Any cuts all filter down to the kids,” said State Sen. Brett Lindstrom of Omaha, who is helping the district push the bond plan. “We’re in a bad predicament here, and we’re trying to fix it.”
Some other states — including neighboring Kansas — have seen benefits from pension obligation bonds, though they aren’t foolproof and are no panacea for a badly underfunded pension system like OPS’s.
The bill that will most likely come up for debate in Lincoln over the next week also faces opposition from the chairman of the Legislature’s committee that oversees pension plans. Sen. Mark Kolterman of Seward said he thinks the bonds could be risky, especially should the stock market see another big shock.
“They do have a big problem,” he said of OPS. “But I don’t think this is the answer. There is no magic bullet here.”
The bonding debate relates to OSERS — the Omaha School Employees’ Retirement System — whose big financial problems have only recently begun to come into focus.
Omaha is the only school district in the state that has its own pension fund for teachers and other employees. All the others fall under a state-administered plan. As with most other pension funds, OSERS pensions are primarily funded by a combination of dollars taken from the paychecks of employees, payments by taxpayers and gains through investment of pension fund assets.
However, due to a combination of economic conditions, poorly performing investments, benefits for retirees that were more generous than those for other school employees in the state and the district’s failure for years to make extra payments into the fund, OSERS now faces a $713 million gap between its actuarial assets and its projected obligations over the next 30 years. It’s funded at only a 65 percent level.
OPS is now having to pay up. And since district leaders have pledged to make up for the shortfall without raising taxes, that means taking the money out of other parts of the schools budget.
A district task force is currently working to find $26 million in cuts to make up for a combination of this year’s expected $18.7 million pension payment and reductions in state school aid. It’s no small amount, representing more than 4 percent of the district’s general fund budget.
Among the potential areas for cuts being discussed are elementary school instrumental music, assistant principals at small elementary schools, high school busing and central office staff.
But the future demands for extra pension payments are projected to gradually escalate by about $2 million a year: to $21.3 million next year, $23.5 million in 2020, $25.3 million in 2021 and $26.9 million in 2022.
OPS Superintendent Mark Evans said he thinks the district will be able to manage this year’s pension payment without significant classroom impact. But he said it would be much more difficult to avoid cutting staff and increasing class sizes if those numbers ramp up in future years as scheduled.
“If that payment goes up and you see those more significant numbers, I don’t know how you stay away” from bigger classes, he said. “Eighty percent of the budget is personnel.”
If the district does resort to cutting staff, that only increases the pension problem, as it would mean fewer current employees paying into the system.
Evans said that if the Legislature authorizes OPS to borrow $300 million and have the state investment officer invest the proceeds, estimates show that the escalating pension payments for the foreseeable future would be replaced by a much more stable annual bond payment of $20 million to $22 million. The figure is still in flux, as an updated estimate is expected by the time the Legislature begins debate.
The bonding proposal comes at a time district voters are being asked to approve in May a $410 million bond issue to fix up and build new schools. Unlike those bonds, the bill in the Legislature would allow the district to issue the pension obligation bonds without going to a vote of district residents.
District officials defend that, saying there are important distinctions between the two types of bonds.
While the building bonds would raise taxes — amounting to a $105 annual tax increase on a $150,000 home — the pension obligation bonds would not. The bonds and their interest would be repaid within the district’s current general fund tax levy of $1.05 per $100 valuation. While both the Millard and Westside districts have asked their voters to raise their levy limits, OPS has not.
“I’m not asking the taxpayers for one more penny,” Evans said. Conversely, the bonds should save taxpayers millions, he said.
Supporters also argue that the bonds don’t represent new debt. The district is already carrying more than $700 million in pension debt. The bonds would allow the district to refinance that debt, much like a homeowner taking out a new mortgage.
“This is just restructuring of debt,” sad Lou Ann Goding, an OPS board member. “We already own it.”
Use of pension obligation bonds is relatively rare, typically resorted to by government entities that have the most serious pension funding problems, according to a 2014 study by the Center for Retirement Research at Boston College.
The Kansas Public Employees Retirement System is among pension funds that have used the bonds with apparent success. Kansas issued $500 million in pension obligation bonds in 2004 and another $1 billion in 2015.
KPERS reports that as of January, it had realized $290 million in benefits from the 2004 issue, with annual interest costs of 5.4 percent and investment returns of 7.5 percent — despite the big market downturn in the Great Recession. It’s early to evaluate the 2015 issue, but it has realized another $105 million in gains in less than two years.
The Boston College study looked at all pension bond issues over the past three decades and found that they had averaged an annual net positive return of 1.5 percent.
But the study also found that the strategy isn’t without risk, largely dependent on market timing. Pension funds that took out bonds just before the 2008 stock market crash had still seen negative returns as of 2014, despite the strong market recovery.
That’s what concerns Kolterman, the retirement committee chairman. He thinks the best option right now is to have OPS continue to make its annually required payments rather than locking itself in with bonds.
“We are in a pretty volatile market,” he said. “What if we have another big correction?”
Evans acknowledged that there could be short-term risk due to market timing. But he said since the bonds would be held for 25 years, he’s confident that the returns over that period would be positive. He noted how Warren Buffett has long talked up the gains available to investors who stay in the stock market over the long haul.
While time is running short on the legislative session — lawmakers have just eight days left — Lindstrom said he sees some urgency in getting the bill passed yet this year. Everyone knows interest rates are headed up, which will reduce the available margin on any pension bonds.
“This is the best, worst solution that we have,” Lindstrom said. “The clock is ticking on this.”