Featured Post

Was it constitutional for Proposition 124 to replace PSPRS' permanent benefit increases with a capped 2% COLA?

In this blog I and multiple commenters have broached the subject of the suspect constitutionality of PSPRS' replacement of the old perma...

Tuesday, March 14, 2017

The end is near (or is it?): More speculation on the Hall v. EORP case

The legal issues in Hall v. EORP have now all been settled.  All that is left is the implementation of the decision.  Today, we can look a little closer into what PSPRS has told us last week, which by the way, is essentially nothing different than what we were told back in November 2016 when the Arizona Supreme Court issued its decision.  Unfortunately, we are left to speculate on what comes next, so let's discuss some of what we may expect to happen.

1. Contribution rates for active Tier 1 employees:  This is probably the easiest thing to predict.  Active Tier 1 employees should see their paychecks increase very shortly.  I would not expect that any Tier 1 employee would still be paying 11.65% to PSPRS after March 2017.  There is no justifiable reason for PSPRS to take the excess 4% from members any longer, and they should be telling employers today to stop remitting the extra 4% to them.  Hopefully, all our employers are ready to make this change in their payroll systems.

2. Employer contributions should remain unchanged: The extra 4% that was being paid by Tier 1 employees did not cover any share of the employers' contributions.  The 4% was in addition to the full annual required contribution (ARC) from employees and employers.  For example, if PSPRS calculated a 50% ARC for a public safety agency, employees would be responsible for 7.65%, and the employer would be responsible for the other 42.35% of the ARC.  Employees were not paying 11.65%, while the employer's share dropped to 38.35%.  Employers always paid their full share, while employees were contributing the extra 4% to help pay down the unfunded liability.  There should be no short-term effect for employers, though long-term, it will take longer to pay down the unfunded liability, which will likely cause employer shares of the ARC to increase.

3. How the Hall case relates to Parker: As it stands right now, PSPRS members have not actually "won" their case because the Hall decision only affects EORP members.  Parker v. PSPRS is the case relevant to PSPRS members.  PSPRS gives the impression in its press release that there is some potential problem here.  There isn't because Parker was over the exact same issues as Hall, only the parties were changed.  We had a similar situation in the Fields v. EORP and Rappleyea v. PSPRS cases where the plaintiffs in Rappleyea stayed their case pending the outcome of the Fields case.  There was no reason to have concurrent cases, duplicating costs and work, over the same legal issues.

Parker is being heard by a different judge, the Honorable John Rea, and the case had been granted a stay pending the appeals in Fields and Hall since February 26, 2013, which was agreed to by both parties to the case, and the stay was continued by Judge Rea on April 8, 2015.  In the Fields case, there appeared to be an issue with the attorney's fees, which were denied by Arizona Supreme Court.  The question of attorneys' fees was resolved as follows:
. . . the members of the class are responsible for a pro-rated share of the fees. Pro-rated is defined as their respective share of the payments that each member received made over the common fund amount. That percentage will be used to calculate the fee that each member of the class owes to Plaintiffs’ counsel.
This was necessary for Mr. Fields, otherwise he would have been responsible for the full cost of his attorneys' fees.  I assume that these fees were withheld from the retroactive COLA's owed to members of the class.  Fortunately for all of us, the Supreme Court awarded attorneys' fees to the plaintiffs in Hall, so this should not cause any delays.  The Supreme Court decided for Mr. Fields on February 20, 2014.  After the legal wrangling over attorneys' fees, a final judgment was reached July 18, 2014.  A final judgment was rendered in Rappleyea on August 6, 2014.  The final judgment in Rappleyea was only 17 days after the final judgment in Fields, so there should be a minimal delay between the final judgment in Hall and the final judgment in Parker.

* There will be more to say about Mr. Fields a little later.

4. Pre-judgment interest: To me pre-judgment interest seems to be the issue that could be most problematic.  Refunding excess contributions should be not challenge since its calculation is simple and straightforward, and even now, any of us can determine our own excess contribution amount.  However, calculating the interest owed will be more difficult.  The A.R.S statute says that prejudgment interest will be at a rate of 1% over the prime rate.  The prime rate is currently 3.75%, which is 0.25% higher than when Hall was decided in November 2016.  It is nearly certain that the prime rate will increase again tomorrow after the next Federal Open Market Committee meeting.

I don't know if there is a standard procedure for calculating pre-judgment interest.  Will they use the actual rate at the time, and raise or lower it according to how it changed between 2011 and now? Could they use the current rate retroactively to 2011?  Or could the judge order PSPRS to pay the actual earnings rate for each fiscal year, as this is what PSPRS actually earned on the excess contributions?  This could be a wide range as, in just the past three years alone, PSPRS' rate of return was as high as 13% in FY 2014 and as low as 0.60% in FY 2016.

PSPRS will likely ask for the lowest percentage rate it can calculate, while the plaintiffs will try to get the highest rate.  Of course, the prime rate plus 1% formula may be locked in order to prelude this type of legal back-and-forth and get the case settled as quickly as possible.  Regardless, there is no reason to delay the refund of excess contributions as there is no question as to those amounts.

5. The form of refunds: The easiest thing for PSPRS to do would be to simply cut checks to everyone owed a refund and interest.  The important thing to remember here is that the refund of excess contributions is refunded wages, which makes them subject to federal income tax withholding.  How much you are taxed will depend on your own personal tax rate.  I am not sure how any interest will be taxed since it is not wages.  If PSPRS were simply to refund the whole amount, there would likely be a uniform withholding rate.  I believe that 25% is the standard income tax withheld from lump sum payments, though what provisions are made in the tax codes for this particular situation, where wages were unconstitutionally withheld, are unknown to me.  We should also keep in mind that we are only talking about withholding, not the actual tax amount.  Whatever is withheld will have to be reconciled with your 2017 taxes in early 2018 to determine your actual personal tax rate for 2017 and whether you will get a tax refund or have to pay additional taxes.  One of the justifications for the 25% withholding rate on lump sums is to preclude large tax bills hitting unsuspecting taxpayers, who may not have the funds available to pay an unexpected tax bill. 

Simply writing a check is likely the only option for refunds to those who are already retired.  For those who are still active members, the payment could come back through their regular paychecks. My personal preferred option would be to allow the entire refund of excess contributions to go straight into a 457 account so that there is no tax issue, as the funds will be going from one tax-deferred vehicle to another tax-deferred vehicle.  Any transfer to a 457 will have to keep your total annual contributions, which includes any amount you have already contributed via payroll deduction, under the 457 maximum for 2017 ($18,000 or $24,000 for those 50 or over), in order to stay tax-deferred.  In the end, all that matters is what you get to keep, not how you get paid.

Of course, there will be numerous "what if" questions from members with different situations.   If I did not maximize my 457 contributions in past years but are maximizing them now, will I be able to go over the tax-deferred limit and count it for previous years?  Similarly, if I am retired, can I put some of the excess contribution refund in a 457 if I did not maximize my contributions when I was working?  Can I take the refund in smaller payments over a year to break it up over two or more tax years to avoid such a large tax bite on a lump sum payout?  Can I use the payment to buy service time since it is permitted to use funds from a tax-deferred account like a 457 to buy service time?  These are all questions only PSPRS can answer, likely in consultation with the Arizona Legislature, the IRS, and Arizona Department of Revenue.

I did want to make one point about service time.  I have heard different rumors about service time purchases.  While I cannot speak for PSPRS or the Legislature or know what they are planning, as it stands now PSPRS members are not permitted to purchase "phantom time," which is time that is not included in any of the categories already designated by PSPRS, such as military time.  I think that this policy is extremely unlikely to change.  If you do not have time from these designated categories, I think it is a safe bet that you will not be able to buy any time.

The unknown timeline: This is the most frustrating part of it all.  The PSPRS administration's and its Board of Trustees' has always treated its members indifferently, but now their attitude seems to border on contempt.   How else do you characterize last year' service time buyback fiasco where members who had planned for years to buy back time at a certain cost were blindsided by new calculations that were double what they had been previously told?  This was explained away as an oversight when a change in laws went unnoticed by PSPRS' administration.  Oops, we're sorry if you aren't able to retire like you planned or have to pay thousand more than you expected.  If that is there level of concern about their members over a matter like that, I guess we shouldn't expect PSPRS to keep us informed about the timeline of Hall's resolution.

The disregard of PSPRS members by the likes of PSPRS Administrator Jared Smout or Chief Investment Officer Ryan Parham could be explained away by the fact that all of us law enforcement and firefighting personnel, active and retired, are an abstraction to them.  Any particular person's retirement or financial situation means nothing to them; they will still get paid and not have to suffer the uncertainty that their retirements may be reduced one day.  But what should we make of the public safety personnel representatives on the Board of Trustees like Chairman Brian Tobin?  They seem to have gone native, defending the PSPRS administration rather than looking out for their own public safety constituents.  For just the latest example of Mr. Tobin's excuses for PSPRS, you need to look no further than his March 10, 2017 editorial in the Prescott Daily Courier.  Based on his past behavior, we should probably not rely on Mr. Tobin to hold PSPRS' feet to the fire when it comes to keeping us up-to-date on the progress of the Hall case. 

* I started this post saying that all the legal issues were resolved, but in researching this post, I found this new Maricopa County Superior Court case, CV2017-001200, filed by Kenneth Fields against EORP on January 31, 2017.  I have not seen the actual court filings, but I think it is safe to assume that this is the same Mr. Fields who was the lead plaintiff in Fields v. EORP.

I will have to go back through some of PSPRS' Board of Trustees meeting materials to see if they mention this case.  Regardless, this lawsuit by Mr. Fields indicates that things are not quite resolved yet.  I am pretty certain that he is suing to overturn Proposition 124, which passed 70% to 30% in May 2016.  Proposition 124 eliminated the old, unsustainable permanent benefit increase (PBI) formulation that required half of any earnings over 9% to be placed in a Fund for Future Benefit Increases from which PBI's were paid.  COLA's are now funded annually through ARC's and limited to the lesser of 2% or the CPI.

Mr. Fields is likely suing over a violation of contracts clause of the Arizona Constitution, the issue that EORP wanted the Supreme Court to reconsider in Hall.  As discussed in a recent post, the motion to reconsider was not to overturn Hall, but to get some guidance and clarification as to the relevancy of the contracts clause as it pertains to the EORP pension.  This explains some of what has gone on recently.  A PSPRS member would have to also sue (like Rapplyea or Parker) to make it relevant for PSPRS members, but this is likely to happen if Mr. Fields wins his case.  A more involved discussion will be for a later post, but it is important to note that if Mr. Fields wins this case, it will have enormous implications for PSPRS and all of the state's pensions.  This might be something that PSPRS might want to keep members informed about, but you know, it is PSPRS were talking bout here, so don't hold your breath.


  1. Great update Drop Zone. Without a doubt the most on point person on this topic. I attended a meeting last week and an individual was there who seemed very dialed in. He said that in April the rates are going back down to where they were. Refunds may come sometime in July. He did say that PSPRS knew and does currently know that they have to pay but are using the money to invest, albeit poorly. Hearing him speak gave me a bad impression of PSPRS and left me scared that these people are in charge of our pensions and our futures.

    1. Thank you for the comment. I appreciate any input that anyone else can provide, especially if they have heard it from a credible source. The part about using our money to invest is particularly great. It is nice to know that PSPRS is trying to make additional income off the spread between the pre-interest amounts and PSPRS' current rate of return, which has likely been quite high since the election. This is why I would like to see the trial court judge award post-judgment interest at 10% going back to the date of the Supreme Court decision, so that PSPRS does not drag their feet while they can still make so much in the markets. If PSPRS is deliberately holding back members' money, it is just another outrage against its own members. Thanks again for your input.

  2. The new fields case revolves around the funding of the old EORP plan which was closed a few years ago not properly 124. The nuts and bolts are that when the plan was closed the legislatures artificially capped the max employer rate at around 27% even though the real rate needed is much higher. He is suing to force the state to pay the real costs and not allow the plan to go insolvent.

    1. Prop 124 will be litigated as soon as Hall/Parker is resolved. The issues will be the diminishments of benefits that the Reason Foundation and others are attempted to sell as an enhancement of benefits. Specifically the 1.5 to 2 percent cap (depending on funding and not very likely) as well as the issue of the elimination of shared and equal COLA payouts to all PSPRS retired. The retirees that the Prop 124 supporters (to include union leader sell-outs) continuously referred to and intimidated as "possibly" losing their pensions and becoming another "Detroit" because their cities would go bankrupt, are the exact people that will suffer from lower PBI payments. These retirees who are the majority of the state that don't work in the major metro areas will be the ones to suffer the diminishment.

    2. Thank you (first commenter) for the update on the new Fields lawsuit. I will correct it in an upcoming post. My error was even more unforgivable when you consider that EORP was not even affected by Proposition 124. Any challenge to it will have to be filed by a PSPRS member.

    3. Thank you (second commenter) for the insight. I don't know if you are speaking from personal knowledge or not about any future litigation regarding the constitutionality of Proposition 124, but I know not every employee organization was on board with Proposition 124 and the other reforms. Please keep us posted if you hear anything that you think might be of interest.

  3. Thanks Drop! With respect to the actual mechanics of the refund, PSPRS is going to expect employers to refund the excess contributions once we have a calculation on the interest component. As you said, the excess contributions themselves are easy enough to calculate. Then the employers will get a 'credit' to use against remittance of current payroll. So the employers will put the funds on the employee paychecks. This means that they will be treated as a 'bonus' and taxed at a much higher tax rate. It will be up to the employer to facilitate employee's wishes to roll the money into another qualified plan. As a finance manager for a large fire district, I am currently in a holding pattern. There will be a ton of communication I need to get out to our employees about their options and I am anxious to get started. The waiting game never seems to end on this issue.

    1. Thank you for the comment, Mr. Christian. It is nice to get information from someone who is actually dealing with PSPRS. I hope you will keep us updated on anything else you find out. I would like to let others know this information since it could really be helpful to plan ahead. Is it okay if I post it with attribution to you? Thanks again.

  4. Seriously speaking, PSPRS has done the correct thing. The Fed has blown the biggest bubble ever seen in the stock market to avoid a Great Depression. The reality is that any sane financial manager would have approach the situation in a similar manner: diversified and conservative. There is a ton of insider trading on Wall Street and in other funds. The fund has been labelled as under performing, but what has occurred in the stock market is artificial and unnatural. Just wait until this bubble bursts! It will, and it will be HUGE!


Relevant comments are welcome, but please adhere to the following rules:

1. No profanity or vulgarity.
2. No spam or advertising.
3. No copyrighted material may be posted unless you are the copyright owner.
4. Stay on topic.
5. Disagreement is fine, but please avoid ad hominem attacks.

Comments reflect the views of the authors alone, and do not reflect the opinion of this website.