A right to future (reasonable) pension benefits

In a decision issued earlier this month, Marin Association of Public Employees v. Marin County Employees' Retirement Association, 2016 DJDAR 8592 (Aug. 17, 2016), a California appellate court has ruled that future pension benefits of current public employees are subject to reasonable modifications so long as employees retain the right to a reasonable pension. The court emphasizes the importance of taking into account unsustainable unfunded pension liabilities on the determination of whether a modification to pension benefits of public employees constitutes a substantial impairment of a contractual right. If this ruling is upheld, it will signify a monumental shift in the way that pension reform measures are crafted, implemented and evaluated.

The case arises from one of the few pension reform measures in Assembly Bill 340, the bill that enacted the California Public Employees' Pension Reform Act of 2013, which applies to employees that established membership in a retirement system before Jan. 1, 2013. AB 340, as amended by AB 197 (collectively, AB 340), amended Section 31461 of the Government Code, a provision of the County Employees' Retirement Law of 1937 that applies only to county retirement systems. As amended, Section 31461 excludes numerous items of compensation from "compensation earnable" - compensation used to determine pension benefits - which had been deemed includable under the holding in Ventura County Deputy Sheriffs' Association v. Board of Retirement, 16 Cal. 4th 483 (1997). Most notably, it excludes any compensation deemed by the retirement board to have been paid to enhance a member's pension benefit.

Shortly after AB 340 became law, the retirement board for the Marin County Employees' Retirement Association adopted a policy to implement PEPRA and the amended provisions of Section 31461. These changes were to become effective on Jan. 1, 2013, and did not impact benefits that had accrued prior to that date. The reaction by groups representing MCERA members was swift. They filed suit against MCERA alleging that its implementation of Section 31461, as amended by AB 340, was unconstitutional. However, the trial court agreed with MCERA ruling that plaintiffs had failed to state a cause of action because AB 340 was constitutional and MCERA was obligated by law to implement AB 340.

On appeal, employees argued that they had a vested right to the continued inclusion of payments formerly included under Section 31461 in the calculation of pension benefits. In support of this assertion they cited to their reliance on documented representations by MCERA and its participating employers that items of compensation now excluded by Section 31461 were to be included for purposes of calculating pension benefits. They also pointed to the fact that employer and member contributions were made on the expectation that such items of compensation were to be included and that they had agreed to take lesser wage and benefit packages on account of a more generous pension benefit. Finally, they argued that the implementation of Section 31461 with no comparable benefits to offset the loss in anticipated pension benefits constituted an impermissible infringement on their vested rights.

These same arguments had proven effective in earlier decisions. However, the court was not persuaded. Instead, it affirmed the trial court's holding. The court found that, while public employees have a vested right to a pension, a right that is secured at the time of employment, such a right is not to a fixed or definite pension but to a reasonable pension. As such, a legislative body may make modifications to a pension system up until an employee's retirement in consideration of changing conditions that impact the viability of the system, such as those brought on by the Great Recession.

Although the holding is surprising on its own, what is more stunning is how the court arrives at its conclusion. It takes a surprising position not in the nature of the precedent that it cites in support of its holding but in the elements in relies on from those earlier cases that have been largely overlooked in decisions preceding Marin County. Generally, California courts have held that vested pension benefits can be changed before an employee retires if all of the following criteria are met: (i) the change is made for the purpose of keeping a pension system flexible to permit adjustments in accord with changing conditions and to maintain the integrity of the system; (ii) the change must be reasonable; (iii) the change must bear a reasonable relation to the theory of a pension system; and (iv) changes which result in a disadvantage to employees should be accompanied by comparable new advantages. See Kern v. City of Long Beach, 29 Cal. 2d 848 (1947), Allen v. City of Long Beach, 45 Cal. 2d 128 (1955), and Miller v. State of California, 18 Cal. 3d 808 (1977).

However, until Marin County no modern court had applied these elements to reject a claim that a change in future pension benefits of current employees constituted an impairment of a vested right. More significantly, the court found that a modification in pension benefits was not required to be replaced by a comparable benefit. This last piece is critical as the court emphasized that the fourth criterion is permissive rather than mandatory. The court noted that employees were incorrect in concluding that it was sufficient to establish that they had a vested right and that any modification thereto amounted to an unconstitutional infringement of a vested right. This position, the court noted, ignored the government's continuing power to make reasonable modifications in pension benefits to account for changing conditions to maintain the integrity of the pension system. In fact, it noted that the Legislature did just that in adopting the amendments to Section 31461 and in doing so, overturned the holding in Ventura County.

Rather, the focus was one of degree - whether the modification constituted a substantial impairment of a vested right. In this respect, the Court noted that the changes to Section 31461 amounted to modest change and, therefore, MCERA's implementation of the amendments of Section 31461 did not qualify as a substantial impairment of employees' vested right to a reasonable pension. As such, there was no constitutional infringement.

While on its face the decision in Marin County is limited to the actions taken by MCERA in its implementation of the amendments to Section 31461, the implications of the decision are enormous as it provides proponents of pension reform aimed at the future benefits of current employees important insight on the types of modifications to pension benefits that are likely to survive a constitutional challenge. However, whether the ruling in Marin County will stand depends on the success of the subsequent appeal, which is certain to follow.