Fresno County refinanced pension bonds to cut payments. It could cost them dearly

Fifteen years ago, Fresno County supervisors refinanced a pension bond to snag a lower interest rate and cut its short-term payments, even though the deal extended the county’s obligation another 10 years and added to its ultimate cost.

What the county didn’t anticipate at the time was that the state and federal governments, which were also on the hook for the bill, might someday balk at the added costs. Now they want their money back – and the bill could approach $38 million.

Exactly how much the county will ultimately have to cough up remains at issue. Fresno County officials are challenging the bill, contending that federal officials are relying on a rule put in place the year after the county’s refinancing was completed. County officials argue that rules dating back to 1994 spelled out restrictions on such pension refinancing.

The pension expenses are for county workers whose costs are covered partly by state and federal dollars – such as social service department workers who handle public assistance programs. When the county refinanced its pension bonds in 2002, the 10 extra years of payments meant the ultimate expense would exceed the cost of the earlier bond by $77.6 million. The county expected that about half of that would be covered by state and federal agencies.

Last month, the county got a letter from the federal Department of Health and Human Services, detailing that it owes $6.2 million to the federal government’s portion for the first two years of cost overruns.

Fresno County supervisors voted to pay that amount the bill last month so it could appeal the federal government’s ruling. If the county wins, it could end up paying less, said Jean Rousseau, the county administrative officer. The case, though, could ultimately land in federal court, said Dan Cederborg, Fresno County counsel.

The county argues that the 2002 pension bonds were refinanced under a 1994 rule from the federal Office of Management and Budget. Cederborg said that rule didn’t contain a policy governing refinancing costs for pension bonds.

In 2003, the federal Department of Health & Human Services began using its own rule specifically targeting pension bonds and capping what the federal government would pay when bonds are refinanced.

Several years ago, the county realized it might have a problem – and they worried that the problem could be as big as $50 million or more. So the county began setting aside money over the past three years to cover the ultimate bill, a reserve now amounting to about $29 million. Last month’s letter from federal officials was not as dire as expected.

“It’s certainly better than the worst-case scenario, but we are still frustrated that they are applying the rule retroactively,” Rousseau said. “We made the case that we should pay substantially less.”

The Fresno County Employees Retirement Association has about 17,600 members. Association officials say retirees’ benefits are unaffected by the dispute surrounding the county’s pension obligation bonds.

For programs funded in part by state and federal dollars, the county picks up about half the retirement costs. The state picks up about 28 percent and the federal government about 21 percent. But federal officials say there’s a caveat.

If the total “cost of refinancing the pension obligation bonds is more costly than the pension obligation bonds it replaces, the excess costs would not be allowable,” Arif M. Karim, cost allocation services director for the Department of Health and Human Services in San Francisco, wrote in a February letter to Fresno County.

The county expects to owe the state money, too. The initial estimate based on the formula employed by the federal government indicates that the state is owed about $8.1 million for 2015 and 2016, Cederborg said.

The county will know soon precisely how much the state wants back. Taryn Kinney, a spokeswoman for the state Controller’s Office, confirmed that a letter to the county is in the works.

The costs started snowballing in June 2015, when the county first began exceeding the total cost of the 1998 pension bond. And there will likely be more. Additional amounts, estimated as $23.4 million, are “unallowable costs” for the 2017, 2018 and 2019 budget years, county officials say.

But California pension researcher, Marc Joffe, director of policy research at the California Policy Center, said the county should have to pay the full amount because the rule was in place when those cost overruns occurred.

“By issuing pension obligation refinancing bonds that stretched out its retirement costs, Fresno County violated one of those conditions,” Joffe said. “As a result, the county now has to repay millions of dollars in federal (and state) assistance.”

With complex bond issues, he said, “there are often unintended consequences and Fresno County just encountered one of these.”

This story was originally published March 13, 2017 at 10:54 AM with the headline "Fresno County refinanced pension bonds to cut payments. It could cost them dearly."