On November 8, 2021, a more than ten-year legal battle over whether a public pension system and its pension board violated their fiduciary obligations when making certain actuarial and reserve decisions after the Great Recession appears to have ended. . The Fifth District Court of Appeal (“DCA”) upheld the decision of the Stanislaus County Superior Court in favor of the defendants Stanislaus County Employees’ Retirement Association (“StanCERA”) and Stanislaus County (“County”) in O’Neal v. Stanislaus County Employees’ Retirement Association, et al. (File n ° F079201) (“O’Neal III “).

O’Neal III is the third decision of the fifth DCA in this litigation. Earlier appeal decisions, both of which are published, overturned trial court rulings after summary and cross-judgment motions. This third decision is unprecedented and therefore not cited as a legal precedent. However, the 50-page notice does provide some important guidance for Trustees nonetheless.

In short, O’Neal III upheld the trial court’s ruling, after a two-week trial (without a jury), that StanCERA’s board of directors had not breached its fiduciary duties of loyalty and prudence in the late 2000s. During this time, the Board made five separate actuarial and provisioning decisions in response to StanCERA’s substantial investment losses resulting from the Great Recession and the county-related financial difficulties that threatened significant layoffs of its employees. The “five contested decisions” resulted in the exhaustion of a non-valuation reserve that StanCERA had previously established for the provision of unearned benefits to retirees.

While most O’Neal III The ruling focuses on and dismisses the plaintiffs’ allegations of procedural errors by the trial court, several points reflected in the opinion are of note for trustees of public pension funds and those who advise them.

First of all, the Court confirmed without reservation and relied on its earlier opinion published in O’Neal v. StanCERA (2017) 8 Cal.App.5th 1184 (“O’Neal II“). This included the court’s finding that the Board’s consideration of the county’s dismissal potential resulting from large and immediate increases in its pension contributions provided a reasonable basis for making the five contested decisions. Each of these decisions lessened the immediate impact of the pension contribution increases on the county and was not a violation of the board’s fiduciary duty of loyalty to the members of StanCERA.

Second, the Court noted “several relevant opinions” that Nossaman’s attorney, Peter Mixon, as an expert witness to StanCERA and the county, provided with respect to the fiduciary duties of the Commission, as follows:

The first was that the board’s transfer of $ 50 million in April 2009 met its fiduciary obligations. Mixon felt that the board “followed a prudent process” in hiring well-qualified and appropriate experts, including a firm of actuaries and external fiduciary advisers, holding public meetings and ultimately relying on the advice and opinions of their experts.

He further considered that the decision satisfied the duty of loyalty of the Board. On this point, Mixon focused on the nature of the non-valuation reserves and on the fact that the money did not finance the vested benefits and was therefore spent at the discretion of the board of directors. Mixon was of the view that the transfer of these funds to support vested benefits fulfilled the objectives of the StanCERA Trust in part by improving the security of vested benefits, was in the best interests of members and beneficiaries and thus satisfied the duty of loyalty. . Mixon acknowledged that the transfer had the collateral benefit of reducing employer contributions, but considered that such collateral effects did not constitute breaches of the duty of loyalty. He compared the effect to regularly accepted practices like asset smoothing, where losses are averaged over several years to facilitate employer planning, and investments in limited partnerships, where returns can be spread. between the plan and a general partner.

Mixon then estimated that the $ 10 million, approximately $ 21 million and approximately $ 15 million in employee payment set-offs made between 2009 and 2011 were also in line with the board’s fiduciary obligations. Mixon provided the same basis for his opinion, that the use of non-appraisal funds to support earned benefits, rather than unearned benefits, is very much in line with the goal of the StanCERA trust.

Turning briefly to the question of whether StanCERA could, in accordance with its duty of loyalty, take into account members’ jobs when making a decision, Mixon considered that such considerations were appropriate. Mixon noted that he was aware of the county’s statements that he had budget problems and should resort to layoffs. Mixon stressed that all full-time employees are members of the pension system and therefore their interests should be taken into account. At the same time, Mixon felt that taking into account the potential solvency of the county if no action was taken would also be appropriate. If the actions of the council resulted in the county’s refusal or inability to pay its employer contributions, the interests of the members would be harmed.

Finally, Mixon considered that adopting a 30-year payroll percentage amortization schedule was also consistent with the board’s fiduciary obligations. For this opinion, Mixon mainly focused on the fact that the board of directors retained and followed the advice of an expert actuarial firm to make its decision.

Third, the Court also discussed at some length the testimony of StanCERA’s consulting actuary, Graham Schmidt, who testified both as an insightful witness and as an expert. The court focused primarily on the plaintiffs’ objections to actuary Schmidt’s testimony on the “undisclosed” expert opinions and dismissed these objections, concluding that the trial court was correct that the “position de Schmidt as actuarial advisor to a party to the case enables him to render opinions regarding the actuarial soundness of the plan we are dealing with. The Court also noted that on the basis of that ruling, Schmidt then testified at trial “about the types of factors an actuary considers when certifying results, including the potential planning capabilities of entities whose budgets are affected by actuarial calculations ”. The Court explained that Schmidt had been asked to discuss “the meaning of the actuarial certifications” he made after providing actuarial valuations to StanCERA. Importantly, the Court observed with respect to the testimony of actuary Schmidt:

When asked if he could certify a report that required non-actuarially unfounded employer contributions, Schmidt said he could, but would have to disclose that the plan would not be able to fund. benefits as promised. Schmidt confirmed that none of his reports ever made such a disclosure and, when asked if that meant the plans were actuarially sound, said his signing meant that if the assumptions made were met, “the contributions designated for the employer and employees will be able to fund benefits as promised.” For Schmidt, this was what actuarial soundness meant.

Therefore, Schmidt replied in the affirmative when asked if the scheme was actuarially sound and confirmed that there was no actuarial rule against the implementation of negative amortization plans.

Schmidt also provided explanations on the meaning of plan funding ratios, actuarial soundness and the effect of non-payment of their contributions by employers. Ultimately, Schmidt felt that the actions of the board were actuarially sound and that he would have disclosed any actuarial concerns he had regarding the actions of the board, if any.

Three takeaways from O’Neal III seems worthy of mention to us.

First of all, the “prudent process” in which pension boards consider the comments of their qualified expert advisers, deliberate and ultimately rely on that advice subject to substantial judicial review.

Second, both the court of first instance and the court of appeal have focused heavily on the goal of StanCERA’s board of directors having taken the five contested decisions and determined that because these decisions were aimed, in large part, at “improving the security of accrued benefits”, they did not violate the duties of loyalty or prudence of the board of directors. ‘administration.

Third, both courts considered that the testimony of StanCERA’s consulting actuary regarding the mechanics and consequences of the five contested decisions for StanCERA and its members had significant probative value in determining whether they were admissible under fiduciary law.

As pension system administrators and staff grapple with the challenge of maintaining actuarially sound public pension systems given uncertainties in the markets, and the equally difficult challenge of balancing the competing interests of serving members, Retirees and retirees from the pension system who may all have different interests in their interactions with the pension system, these three takeaways may come in handy.

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