Fixing the OPEB problem — legally

This Tuesday, Council will get its first briefing on the “Other Post-Employment Benefits” problem – i.e., how much the City is paying, and how much it will pay in the future, for retiree health benefits.

The former Council got a similar briefing two years ago – and, presented by staff with a list of possible actions, it decided to take only the one that would have the least impact.

In the meantime, the amount the City owes for retiree health benefits has increased – but the membership of Council has changed.  Gone are Mayor Marie Gilmore, Councilwoman Lena Tam, and Councilman Stewart Chen, D.C., all of whom were darlings of the Alameda firefighters’ union.

If the new Council headed by Mayor Trish Spencer and Vice Mayor Frank Matarrese is more willing than its predecessor to take effective steps to tackle the OPEB problem, staff has given them another list of possible actions.  But today the Merry-Go-Round offers for Council’s consideration an even more radical approach than staff has outlined:

Why not stop paying health insurance premiums for retired City employees and instead agree to give current and future retirees a fixed amount – based on how much Council determines the City can afford – to use toward the cost of health coverage?  Or even go whole hog and eliminate retiree health benefits altogether for employees now on the job or coming on board in the future?

Suggestions like these would have set the former Council on fire.  Indeed, the majority rejected out-of-hand staff’s far narrower proposal for limiting the amount the City would pay for increases in retiree health insurance premiums.  Changing retiree health benefits, Mayor Gilmore assured her colleagues, with Councilwoman Tam nodding agreement, would be illegal.

The new Council isn’t bound by the ex-Mayor’s legal opinion.  So maybe a few of them can ask City Attorney Janet Kern, or even their own independent legal advisers, whether California law actually bars a city like Alameda from revising, or even eliminating, retiree health benefits provided to future, current, and past future employees.

We think the answer they’ll get from a lawyer who has reviewed the case law is:  No – unless the unions can come up with “convincing evidence” that the City somehow promised to provide the same retiree health benefits it does now in perpetuity.

(We would have put this question to the City Attorney ourselves, but the last time we asked Ms. Kern for comment about a legal issue, she declined, adding for our edification that, “let me clarify that the City Attorney provides legal advice to the City of Alameda not the public at large.”)

We’ll explain the basis for our conclusion in a moment.  First, let’s set the stage by looking at the data in the latest staff report.

At present, the City pays the full cost of health insurance for retired “miscellaneous” employees (at a rate set by CalPERS) and for retired police and firefighters (at the Kaiser or Blue Shield rate).  The following chart, taken from the staff report, shows the total annual costs for each group:

OPEB costs

These payments cover the actual (or estimated) cost of insurance each year, but they do not reflect the City’s liability for future retiree health benefits.  And since the City does not set aside any money to pay these future costs, what the accountants call an “unfunded actuarial accrued liability” arises.  Simply put, this is the total amount, discounted to present value, that the City will have to pony up in the future to provide the same retiree health benefits it does now to all past, current, and future employees.

According to the latest actuarial report, this unfunded liability was $91.2 million as of January 1, 2013.  (By way of comparison, the total General Fund budget last year was $74.6 million).

So you – and Council – get the picture:  the City now is paying millions every year, and will be paying many more millions in the future, for retiree health benefits.  Confronted with these facts, 11 of the 13 members of the OPEB task force set up by City Manager John Russo soon after his appointment agreed that the City “had an OPEB problem.”  (According to the staff report, two members “did not answer the question.” The staff report did not identify them, but it should be noted that the heads of both the police and firefighters’ unions were on the task force).

When it comes to solutions, the politicians have focused on finding ways to “fund” the City’s liability – i.e., to reserve money to pay for future retiree health benefits.  That’s why the only step taken by the former Council two years ago was to establish a “trust fund” (which, according to the latest staff report, now has a balance of all of $300,000).

Less attention has been given to finding a way to reduce the costs themselves.  If the City capped the amounts paid for retiree health benefits, its current and future liability would go down significantly.  Eliminating these benefits entirely for current and future employees would produce an even more dramatic impact.

But could the City legally take these steps?  It is to that issue that we now turn.

MGR warning 2

Let’s start with employees hired in the future.

The City already has acknowledged its right to treat future hires differently from current employees and retirees.  Indeed, the City and the police and firefighters’ unions agreed in June 2011 to MOUs providing less generous retiree health benefits to employees hired after June 7, 2011, than those provided to employees hired before that date.  For the pre-June 7, 2011, hires, the City pays for Kaiser or Blue Cross coverage for the employee and her spouse when the employee retires; for post-June 7, 2011, hires, it pays only for coverage for the employee.  According to the latest staff report, the differential is $1,858 versus $712 per month.

Could the City go further and stop offering any retiree health benefits to new hires?  The courts say, Yes.

Council members should ask their legal advisers to look at the 2012 case of City of San Diego v. Haas.  There, the city entered into MOUs with its unions that eliminated four retiree benefits, including health insurance, for employees hired after a certain date.  Two employees hired after that date – but before the city council adopted an ordinance amending the municipal code to reflect the change – sued, alleging that the city had “unconstitutionally” deprived them of “vested retirement benefits.”

The plaintiffs lost.  “Prospective employees have no right to any pension or other employment benefits prior to accepting employment,” the appellate court stated.  Accordingly, the ordinance “does not impair any vested rights . . . because it only implements the benefit changes that were agreed to before defendants began their employment with the City.”

(We should note that, in the latest staff report, staff appears amenable to the idea of moving to a fixed-amount retiree health benefit for new hires.  But it does not go so far as to endorse eliminating retiree health benefits for future employees altogether).

Now let’s turn to current employees.

The MOUs between the City and the police and firefighters’ unions in effect through June 24, 2017, retain the distinction between pre- and post-June 7, 2011, hires.  Unless those agreements are amended, the City will pick up the tab for health insurance premiums for life for any current public safety employee who retires before June 24, 2017 (and for her spouse if the employee was hired before June 7, 2011).

But what about the next round of MOUs?  Could the City change to a fixed-amount retiree health benefit for current employees who retire after the current MOUs expire – or even eliminate retiree health benefits for those employees entirely?  Again, the answer is:  Yes – with an asterick.

Council members’ legal advisers should look at the very recent case of South Pasadena Police Officers Association v. City of South Pasadena.  There, the MOU in effect through June 30, 2011, required the city to pay 100% of retirees’ insurance premiums.  After the city and the police union couldn’t agree on a new contract, the city – presumably, the council – passed a resolution unilaterally reducing the amount it would pay for health insurance for current employees who retired after July 1, 2012.

The police officers’ union sued, alleging that its members had a “vested contractual right” to 100% payment by the City of their retiree insurance premiums whenever they retired.  The union lost.  “[C]ontractual obligations will cease, in the ordinary course, upon termination of the bargaining agreement,” the appellate court stated.  Accordingly, “When the MOUs expired and were not replaced by new agreements, the City was entitled to unilaterally reduce its medical insurance contribution for retirees from 100 per cent to the amount it was paying for active employees.”

(In support of its holding, the appellate court cited, among others, a case from the United States Supreme Court, M&G Polymers USA, LLC v. Tackett, which was decided this January.  Although that case involved private rather than public union contracts, the Court likewise rejected the argument that an employer’s obligation to pay the entire cost of health benefits for its retirees outlasted the collective bargaining agreement in which those obligations were contained.  “[W]hen a contract is silent as to the duration of retiree benefits,” the Court said, “a court may not infer that the parties intended those benefits to vest for life.”)

This rule doesn’t apply if the MOU itself contains language suggesting that its terms regarding retiree health benefits will last beyond its expiration date.  That’s what happened in another 2012 case, International Brotherhood [of Electrical Workers] v. City of Redding.  There, the MOU stated that the city would pay 50% of the health insurance premiums “for each retiree and dependents, if any, presently enrolled and for each retiree in the future. . . .”  (Emphasis supplied.)   Based on the italicized language, the appellate court held that the complaint “adequately alleged a mutual intention to extend future retirement benefits to active employees.”  So it declined to dismiss a suit by the union challenging the city’s unilateral decision to cut the subsidy.

The MOUs for the Alameda police and firefighters’ unions in effect through June 24, 2017 contain no language similar to the MOUs in the Redding case.  Moreover, when the City and the unions adopted a new MOU in June 2011, they made significant changes to the retiree health benefit provisions in the prior contracts.  This suggests that the parties regarded those provisions as contract terms that, as one court put it, “continued only insofar as they were renegotiated as part of a new agreement and were not protectable contract rights.”

The case law thus supports the conclusion that the obligation to pay health insurance premiums for current employees when they retire goes away once the present MOUs with the police and firefighters’ unions expire.  If so, the City will be free to offer different retiree health benefits than it does now – or none at all.  (So why the asterick?  Keep reading).

Finally, consider the employees who are already retired.  Interim City Manager Liz Warmerdam told us that 515 people, including surviving spouses, now are receiving City-paid retiree health benefits.  As the chart above shows, the City shelled out $2.651 million in retiree health insurance premiums in the last fiscal year.

Would it be legal for the City to attempt to reduce these costs by capping the amounts paid to current retirees for health insurance?

The politically appropriate answer is the one given by former Mayor Gilmore:  Of course not; retiree health benefits are untouchable.  But that has never been the law.  In fact, the courts have recognized for a long time that, even if an employee is legally entitled to a pension, she has no “absolute right to fixed or specific benefits.”  Instead, pension terms “may be modified prior to retirement for the purpose of keeping a pension system flexible to permit adjustments in accord with changing conditions and at the same time maintain the integrity of the system.”  What’s true for pensions surely is true for retiree health benefits.

The political view is even more questionable as a result of a series of recent cases involving health benefits for retired Orange County employees.

From 1985 through 2007, Orange County combined active and retired employees into a single “pool” for purposes of calculating insurance premiums.  Then, in 2007, for budgetary reasons, the County ended the pooling and computed premiums for each group separately.  The effect was to raise insurance premiums for retirees, who sued, alleging that they had a “vested contractual right” to have the pooling continue.  During the ensuing litigation, the appellate courts laid down a set of rules for determining when an employee acquires a “vested right” to a retiree health benefit.

The federal trial court had ruled against the retirees because there was no contract (or Board of Supervisors resolution) expressly requiring the County to continue pooling insurance premiums forever.  But the retirees argued that the County had made an “implied” promise to that effect.  The California Supreme Court bought the argument – to an extent.  It held that a “vested right” to retiree health benefits could be established by implication.  But it cautioned that “implied rights to vested benefits should not be inferred without a clear basis in the contract or convincing extrinsic evidence.” And it emphasized that the “extrinsic evidence” must “clearly evince” the parties’ intent to create a vested right.

After the California Supreme Court’s ruling, litigation has focused on what the plaintiff must plead and prove to satisfy the standard laid down by the Court.  The Orange County case was sent back to the trial court, and the retirees ended up losing again, this time because they failed to prove that the County had made an “implied” promise to continue pooling for all time.

A review of other recent cases shows that, while appellate courts have been lenient at the pleading stage about the sufficiency of allegations of an “implied contract,” that leniency evaporates when the court reaches the merits of the dispute.  For example, retired employees in Sacramento County survived a motion to dismiss their claim that the County had impliedly promised to subsidize retiree health insurance premiums forever – only to have summary judgment granted against them when they failed to offer adequate proof of facts from which such a promise could be inferred.

Could one or more of the 515 retirees now getting free health insurance sue on an “implied contract” theory if the City decided instead to give them a fixed amount they could use for that purpose?  Sure.  (The “implied contact” theory also is available to current employees who want to claim they’re entitled to free health insurance when they retire.  Hence our prior asterick).  But they would have to meet a pretty tough test to prevail.

It won’t be enough for the plaintiffs, whether retirees or current employees, to testify that they believed the City always would pick up the tab for retiree health insurance for their lifetimes.  As one court put it, “plaintiffs’ belief that they were entitled to receive the benefit for life is insufficient.”

Nor would it be enough for plaintiffs to claim that it was the prospect of getting free lifetime health insurance that induced them to go to work for the City.  (As an aside, we became skeptical of such claims ever since we asked a friend who’s a retired cop whether he’d joined the force because of the retiree benefits.  “Are you kidding?” he said.  “I became a cop because I wanted to wear a badge and carry a gun.”)  As another court put it, “Were the recognition of constitutional contract rights to be based on the importance of benefits to individuals rather than on the legislative intent to create such rights, the scope of rights protected by the Contracts Clause would be expanded well beyond the sphere dictated by traditional constitutional jurisprudence.”

On the other hand, we would be the last to underestimate the ingenuity of IAFF Local 689 president Jeff DelBono and his legal team.

As the firefighters’ union’s chief negotiator for the last three MOUs, Captain DelBono was privy to statements made by the City’s representatives during the bargaining.  We wouldn’t be surprised if he recalled them expressing the City’s intent to provide free lifetime retiree health insurance to every past, present, or future firefighter, her spouse, her children, and her grandchildren.  (Indeed, he already has publicly related admissions against interest purportedly made by the otherwise circumspect former Interim City Manager Ann Marie Gallant about the “me-too” clause).  Nor would we be surprised if certain former Alameda elected officials queued up to corroborate Captain DelBono’s testimony.  That may be good enough to sway a judge.

If the current Council decided to attack the OPEB problem by eliminating retiree health benefits, those who want to preserve the current system undoubtedly would bring an “implied contract” claim.   It is also possible that a decision simply capping the amounts the City will pay for retiree health benefits would prompt a similar suit.  And, as in any litigation, there is a risk that the City will lose.

To some of our politicians, that would end the matter.  But we hope the current Council takes a more thoughtful approach.  There’s no law prohibiting them from taking an action that might save millions of dollars for the City.  So they should get the best legal advice they can about the City’s chances of defeating any potential lawsuit challenging such an action.  And then they should make a decision.  After all, as Councilman Jim Oddie recently reminded us, that’s what we elected them to do.


City of San Diego v. Haas, 207 Cal. App.4th 472 (2012): City of San Diego, 207 Cal.App.4th 472

S. Pasadena Police Officers Ass’n v. City of S. Pasadena, 2015 Cal. App. Unpub. LEXIS 1664 (March 9, 2015): S. Pasadena Police Officers_ Ass_n v. City of S. Pasadena_ 2015 Cal. App. Unpub. LEXIS 1664

M&G Polymers USA, LLC v. Tackett, __ U.S. __, 135 S.Ct. 926 (2015): M_G Polymers USA_ LLC v. Tackett_ 135 S. Ct. 926

International Brotherhood v. City of Redding, 210 Cal.App.4th 1114 (2012): International Brotherhood v. City of Redding, 210 Cal.App.4th 1114 (2012)

Retired Emples. Ass’n of Orange County v. County of Orange, 632 F.Supp. 2d 983 (C. D. Cal. 2009): REAOC (C.D.Cal.), 632 F.Supp.2d 983; 52 Cal.4th 1171 (2011): REAOC, 52 Cal.4th 1171 (CA S. Ct. 2011); 2012 U.S. Dist. LEXIS 146637 (C. D. Cal. 146637): Retired Emples. Ass_n of Orange County_ Inc. v. County of Orange_ 2012 U.S. Dist. LEXIS 146637; 742 F.3d 1137 (9th Cir. 2014): Retired Emples. Ass_n of Orange County v. County of Orange_ 742 F.3d 1137

Sacramento County Retired Emples. Ass’n v. County of Sacramento, 975 F. Supp. 1150 (E. D. Cal. 2013): Sacramento County Retired Emples. Ass_n v. County of Sacramento_ 975 F. Supp. 2d 1150

Staff reports:

July 23, 2013: 2013-07-23 staff report re OPEB

April 7, 2015: 2015-04-07 staff report re OPEB



About Robert Sullwold

Partner, Sullwold & Hughes Specializes in investment litigation
This entry was posted in Budget, City Hall, Firefighters, Pensions and tagged , , , , , , , , , , , . Bookmark the permalink.

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