Item 23 - Pension Debt Refinancing Update and Underwriter Selection

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RFP No. 21-025 EXHIBIT B Consider Pension Debt Refinancing and Policy February 2, 2021 Page 5 The adopted budget for FY20-21 included an $18.6 million or 5.7% use of General Fund balance to preserve existing service levels. Considering the projected increasing costs for employee pension and the reduction of the Measure X sales tax rate from 1.5% to 1.0% in 2029, the City must find a way to generate additional revenue or reduce costs to rebalance the budget. Refinancing the pension debt is one potential way to reduce costs. The City has already taken the following steps to reduce its employee pension cost. 1. Employees pay the full employee contribution (some cities pay a portion of the employee contribution). 2. Statewide PEPRA established the lesser benefit for new employees. 3. The City pays the required annual contribution to the unfunded liability by July 31 of each year to obtain an approximate 3.3% discount. 4. In 2016, the City established an irrevocable Section 115 Trust with an initial deposit of $0.5 million, to set -aside money for future pension costs. The City has not made any additional deposits to the Trust. Development of Strategy UFI and staff worked together to narrow the field of potential strategies for reducing the City's pension debt. In general, the City can either make additional contributions to reduce the debt faster, or refinance the debt with better terms. In addition to the Memorandum (Exhibit 1), UFI has prepared a presentation (Exhibit 2) to summarize the most feasible strategies as follows. 1. Refinance the pension debt by issuing pension obligation bonds. The bonds are taxable and carry a higher interest cost than tax-exempt bonds. Although the pension debt is a legal debt of the City, a court validation is necessary to proceed without voter approval. The court validation process, as outlined below in "Next Steps", can take up to six months. We will also need to determine the portion of the pension debt to refinance. Refinancing less than 100% will help mitigate the risk of paying more over the long-term, as discussed below. 2. Use Water Enterprise cash to reduce its $13.5 million pension debt for water employees. The Water Enterprise has a plan to use the cash for water capital projects. If the City employs this strategy, then the Water Enterprise will need financing for these projects. The City can obtain separate tax-exempt financing for water capital projects at better terms than taxable pension obligation bonds. Risk of Paying More When the plan outperforms assumptions (e.g. investments earn 9% instead of the assumed 7%), the pension debt decreases. If the City were to refinance 100% of the pension debt (not recommended), the amount of the debt is set; and if CalPERS investments outperform the assumption, the City's pension debt will not decrease. This may be an unlikely scenario, as CalPERS own actuaries have stated they believe the investment portfolio will earn less than the 7% assumption over the long-term. However, the risk exists. With savings achieved from potential bond interest rates ranging from 3%-