Not long after Robert Daddow came to work for Oakland County 20 years ago, a couple of elected officials suggested the county should stop setting aside money for its retirees’ health insurance. No law required Michigan’s local governments to prefund the health care plans promised to retirees, so why pay for something now that you can put off until tomorrow – or even years from now?
No way, said Daddow, Oakland County’s deputy executive. In fact, he could see that the county needed to set aside more money, not less, to pay for its retirees’ medical insurance.
“By the time I came to the county in 1993, it was apparent to me this was a major problem we were going to have to solve,” he said. “We said, ‘No, we’re not going to accept the idea. We’re going to fully fund the health care.’”
Most local government leaders back then chose a different course, negotiating contracts with their municipal unions that included a promise to pay workers’ pensions and health-care expenses when they retired, without setting aside enough money to cover those so-called legacy costs. They figured the money would be there when the bill came due. If they saw warning signs, most ignored them.
“I can tell you that even if these people did recognize it as a problem, they didn’t have the will to solve it,” Daddow said. “It was a benefit that people believed at the time wasn’t going to be terribly costly.”
That turned out to be wrong. In fact, Michigan’s cities, villages and townships that provide coverage for their retirees have underfunded pensions and retiree health care programs by a staggering $15.7 billion, a recent Michigan State University study found.
With Oakland County’s pension and retiree health care plans fully funded, Daddow has proposed an idea that he said could help many Michigan communities head off a financial crisis. On Oct. 3, Daddow presented a plan to the state House Financial Liability Reform Committee to create a statewide authority that would do for many of Michigan’s municipalities essentially what Oakland County has done for itself.
In 2007, Oakland County borrowed $557 million by issuing certificates of participation, a type of loan instrument, at a 6.2 percent interest rate, and then reinvested the money at a higher rate, using the proceeds to pay down its legacy costs.
In September, the county refinanced the remaining balance on that debt by borrowing $350 million at a lower rate of 3.62 percent. In so doing, Oakland County became the first local government in Michigan to use a new law, Public Act 329, signed by Gov. Rick Snyder last year, allowing local governments to sell bonds to pay off their legacy costs.
Several other local governments have considered borrowing money under Public Act 329, but Oakland County is among the few so far to complete a deal, possibly because the law sets several conditions, making it difficult for some units to qualify. Saginaw County considered a similar bond sale, but put it on hold in August when rising interest rates made it impractical. A handful of other municipal governments, including Farmington, Traverse City and Grand Rapids, are considering borrowing money under the new law; they face a deadline of Dec. 21, 2014.
Daddow’s proposal would allow local governments, generally smaller ones, to join a proposed authority, which would allow them to pool their resources and, in theory, get better interest rates. The authority would issue bonds at a rate of between 3.7 percent and 4.7 percent, investing the proceeds at a higher rate of 7 to 8 percent and using the interest earned to pay down the unfunded pensions and retiree health care plans, Daddow said.
Periodically, those local governments would make payments on the bonds. If one was unable to make its payments, the state treasury would take state revenue sharing the municipality would have received and pass it on to the authority.
Michigan’s most distressed cities, such as Detroit and Flint, would be ineligible to join the authority, because they are under emergency management and unlikely to receive favorable interest rates. But the plan could help others avoid being taken over by emergency managers, Daddow said. The new law also could help these communities maintain high credit ratings, while providing adequate services to their residents and ensuring retirees that their pensions and health benefits would not be cut.
State Rep. Earl Poleski, R-Spring Arbor Township, who chairs the House committee, said Daddow’s plan could help many communities avoid Detroit’s fate.
“I think we’re starting to see what local governments are going to look like if something isn’t done,” he said.
Although he has not yet introduced legislation to create the proposed authority, “we are thinking very hard about it,” said Poleski, a certified public accountant. “I don’t see any downside to it, frankly.”
Such an authority would only help local governments fund agreements made with past workers who are now retired, Daddow said. Each government still would have to begin setting aside money to keep its promises to current employees. Daddow echoed others in calling on government employers to stop promising fully covered medical care to current workers and instead have them enroll in health savings accounts, under which a community’s financial obligation ends the day an employee retires.
“Somehow, the cycle of deferring costs into the future, particularly as costs are increasing, has to be stopped or, at a minimum, mitigated,” Daddow told the House committee.
He later added that “a lot of people ignored the warnings, and look at what happened. You wind up having to pay the retirees’ costs before you put a single police officer on the street.”