Politics & Government

As state agencies privatize jobs, ‘orphaned’ pension debts threaten Kentucky taxpayers

Western Kentucky Hilltoppers fans watch during a game against the Navy Midshipmen at Houchens-Smith Stadium, Saturday, Sept. 28, 2013, in Bowling Green, Ky. (Alex Slitz/Daily News)
Western Kentucky Hilltoppers fans watch during a game against the Navy Midshipmen at Houchens-Smith Stadium, Saturday, Sept. 28, 2013, in Bowling Green, Ky. (Alex Slitz/Daily News) Daily News

To cut its contributions to the beleaguered state pension system, Western Kentucky University eliminated 202 hourly wage positions in 2016 and then welcomed its former workers back to the exact same jobs the next day as employees of Sodexo, a private contractor, with 401(k) defined-contribution accounts instead of pensions.

Now a Frankfort judge has been asked to decide if that was legitimate or too clever by half. And the impact could be felt far beyond WKU’s Bowling Green campus.

The $2 billion Kentucky Employees Retirement System has only 13 percent of the assets it needs to meet future liabilities, making it arguably the nation’s worst-off public pension fund. Although that deficit is largely due to inadequate funding by state leaders over many years, it’s being aggravated by employers in the pension system who are privatizing once-public jobs to reduce the sum they owe to KERS, which is based on a percentage of their payroll.

Just this week, Murray State University announced that it is outsourcing 81 dining services positions to Sodexo, making it the last of Kentucky’s regional universities to privatize its dining halls. Last year, Eastern Kentucky University cut 180 jobs across its campus and replaced them with a contract with Aramark, which invited the fired employees to apply for their old positions.

And Kentucky Retirement Systems, the agency that manages the state pension fund, has battled in court for years with the regional mental health nonprofits as they have tried to transfer their employees into newly created subsidiaries with 401(k) accounts instead of pensions, claiming that allows them to legally slash their future state pension payments.

The problem is that someone will be on the hook for the pensions owed to several hundred thousand current and future public retirees in Kentucky, and that someone will be the taxpayers if individual employers can shed their obligations, said Chris Tobe, a Louisville financial consultant who sat on the KRS board of trustees from 2008 to 2012.

“Privatization is just another sneaky game they play that gives us more ‘pension orphans,’ which is what I call the employees whose liabilities are left in the system without any cash flow to contribute to them,” said Tobe, whose 2013 book, Kentucky Fried Pensions, criticized how the state’s pension fund is operated.

“The funding ratio can never really catch up at KERS if nobody is paying what they used to,” Tobe said. “You go into a death spiral.”

In the last few years, the number of retirees collecting state pensions from KRS — about $1 billion a year overall, with an average annual benefit of $21,246 — has exceeded the number of active state workers contributing to the system.

This unsustainable trend is likely to worsen. Between attrition and outsourcing, Kentucky’s state government is about one-fourth smaller than it was a decade ago, with roughly 34,000 remaining employees. And retirements surged by 18 percent in the fiscal year that ended June 30, spurred by controversial changes proposed to state pensions by Gov. Matt Bevin and legislative leaders.

One result of these lopsided numbers is that employers still in the state pension system must contribute up to 83 percent of their payroll this fiscal year to KRS to help clear the more than $13 billion unfunded liability.

“That’s hard to fathom,” said state Sen. Jimmy Higdon, R-Lebanon, a member of the Public Pension Oversight Board. “At 83 percent, really, when you hire an employee, you’re basically hiring that person and their shadow in terms of what it costs you.”

In the case at hand, Franklin Circuit Judge Phillip Shepherd was asked last month to give summary judgment in a lawsuit between WKU and KRS over the school’s privatization of most of its custodians, groundskeepers and maintenance workers.

On July 31, 2016, these people worked for WKU and were enrolled in the state pension system. On Aug. 1, 2016, those who chose to make the move — 148 of them — were employed by Sodexo and lost any additional state pension benefits, although they were given access to 401(k) accounts.

The switch reduced WKU’s enrollment in the state pension system by nearly 20 percent. It was meant to save the school an estimated $800,000 a year in the face of state budget cuts and rising pension costs, according to court records. Attorneys for WKU did not return calls this week seeking comment. A spokesman for WKU referred requests for comment to the attorneys.

Days before the switch, KRS sent a warning letter to WKU. Having reviewed the terms of the Sodexo contract, KRS said, it seemed clear that WKU still would supervise the newly private employees, set the terms of their pay and benefits, provide them with WKU uniforms, shoes, campus offices, phone numbers, email addresses, equipment and vehicles.

All of these factors contributed to make the workers “common law employees” of the school, regardless of who actually signed their paychecks, KRS advised. So WKU had better keep their pension contributions coming, KRS warned.

“Well, this is a mess for sure, then,” WKU General Counsel Deborah Wilkins wrote to her bosses the next day in an internal email that is included in court records.

WKU ended up suing KRS after the pension agency cut off access to retirement accounts for some of the affected workers. The case has dragged on for two years.

The direct impact on the state pension fund if WKU wins is unclear. In court filings, KRS describes the loss of contributions as “huge.”

“WKU’s withdrawal of 202 positions removed approximately 18 percent of its workforce from KERS,” lawyers for KRS wrote in a motion to Shepherd in May.

“This represents a significant loss to KERS and to its other agency members because of the unfunded pension liability for the outsourced employees,” the lawyers wrote. “Even without such a massive financial blow to KERS, the transfer of even one employee under the guise of privatization is a failure to fully fund the future pension obligations of that one employee. As mentioned above, the unfunded liability for even one employee can be in the hundreds of thousands of dollars.”

In an interview Wednesday, KRS Executive Director David Eager said financial losses from privatization are gradually adding up.

“We’re talking about 200 jobs here and 100 jobs there and 300 jobs here. It’s detrimental each time it happens,” Eager said. “We’re not at a tipping point yet. I don’t know where the tipping point would be, but it’s somewhere down the road.”

State Rep. James Kay, D-Versailles, said this week that he proposed a possible solution during the 2018 General Assembly last winter, but Republican House leaders ignored it. Kay’s House Bill 338 would have slapped a 5 percent charge on state contracts for personnel when public workers were being replaced with private workers, with the money going to the state pension fund.

In an actuarial analysis accompanying Kay’s bill, KRS officials said “we anticipate that the surcharge would be beneficial.”

“I called it the ‘pension premium,’” said Kay, who is also a member of the legislature’s Public Pension Oversight Board.

“Unfortunately, the bill didn’t go anywhere,” Kay said. “Real attention being paid to this issue in the legislature has been all but zero. The current administration and legislature prefers privatization over supporting a public workforce, ideologically. And for a lot of public agencies, this looks like the only way to salvage their budgets in the face of appropriations cuts and huge increases in retirement contributions.”

Rallying educators and state employees used moving trucks on Frankfort's Capital Avenue Saturday to symbolize their desire to use the November elections to kick out those state lawmakers who supported controversial pension changes.