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Chairman's Report
October 7, 2005 The Fiscal Affairs and Government Operations Committee convened on Sunday, July 31, and Monday, August 1. The following is a synopsis of the presentations made to the Committee on both days. An attendance list is attached.
Business Session I. Stresses in the System:
Bolstering Public Retirement Systems Background Dr. Bronner’s Presentation According to Dr. Bronner, RSA’s history was not starkly different from the histories of other state pension plans. When he assumed leadership of the RSA, it had about $500 million in assets and was owed about $1.5 billion, i.e., it was about 25 percent funded. Currently, Dr. Bronner indicated that the RSA had about $27 billion in assets and at its high point, about three years ago, it was 112 percent funded. Both the Alabama Legislature and various governors contributed toward this impressive growth rate. Dr. Bronner stressed that in all his dealings with the Alabama Legislature in the past three decades no games over actual retirement costs had been played. During this time, Dr. Bronner indicated that he never once advised the Legislature that simply because RSA had a great fiscal year, members should be given additional benefits, a practice quite common in many other states. Dr. Bronner noted that his philosophy regarding administering the RSA was a simple one but quite different from those followed in the other 49 states. When he assumed control, the RSA had 25 cents for every dollar it owed, in a very poor state. In order to overcome these obstacles, he decided that for the RSA to be financially stronger and approach the 100 percent funding level, the state of Alabama would have to become economically stronger and vibrant too. Consequently, investments in his portfolio are directed toward enhancing the economic capacity of the state of Alabama with the expectation that this would, in turn, lead to a strengthening of the RSA. As a result, his investment portfolio includes an array of different investment instruments and vehicles with approximately one-third of the entire portfolio invested in tangible assets, quite often in Alabama, ranging from hotels, golf courses, media outlets (television, radio and newspaper), office buildings, a cruise ship terminal along with the usual mix of stock and fixed income instruments. Investment earnings comprise the bulk of the RSA’s revenue (as high as 70 percent to 80 percent in recent years) and Dr. Bronner noted that it was imperative that this revenue flow was maintained regardless of the trajectory of the markets or interest rates. According to Dr. Bronner there were two major threats to the financial health of pension funds. The first threat concerned illegal activities by certain corporations, sometimes acting in collusion with Wall Street. Alabama has been fortunate in this regard because the Legislature enacted very strong securities legislation which enabled the RSA to swiftly pursue legal action in state court. As a result, Dr. Bronner noted, the RSA was the only entity in the country to secure 85 cents on every dollar that it was owed by Enron. No other government or corporate entity can claim this kind of return on the dollars they lost as a result of Enron’s collapse. The second threat, according to Dr. Bronner, involved simple politics. The time horizon for most legislators spanned four and at a stretch eight years; in contrast, pension fund administrators had to assess trends and make decisions that have an impact over 30 to 40 years. This incongruity sometimes led to unfortunate events like the ones being played out with several state pension plans across the country, where pension plans were not adequately and regularly funded by legislatures or where pension plans added exorbitant benefits to retiree pensions during healthy fiscal times. Dr. Bronner stressed that if you fund your pension plans adequately during tough economic times and do not allow your pension fund administrators to convince you to offer additional incentives to members when times are good the solvency of a pension plan is assured in the long term. He indicated that when additional benefits are added onto retiree pensions during a healthy economy, the costs of this benefit are not limited to a single budget cycle; it could extend for many decades. In closing, Dr. Bronner listed several features he regarded as very important in overseeing the RSA and encouraged legislators in other states to do the same in supervising their own pension plans.
Mr. Brainard’s Presentation In terms of the size and scope, Mr. Brainard noted that public pension plans included about 16 million workers employed full-time by state or local government entities, a number that encompassed more than 10 percent of the nation’s workforce. In fact, two-thirds of the state and local workers included in this number were employed in the education, police, firefighting or corrections professions. While about 90 percent (more than 14 million) of these state and local workers were in a defined benefit (DB) plan, he added, their state and local pension assets exceeded $2.3 trillion. (In a DB plan, retirees get a specific amount based on a formula using their salary at retirement and years of service). Among the SLC states, there were 6.3 million public pension plan working (active) participants with 2 million annuitants receiving a regular pension benefit. Assets in the SLC states exceeded $700 billion, noted Mr. Brainard. While DB plans were the predominant retirement format among public workers for many years, states and local governments increasingly are pursuing other options. Several states (including Florida, Ohio, Montana, Colorado and South Carolina), Mr. Brainard indicated, have offered their employees the choice of enrolling in defined contribution (DC) or 401-k type plans. (In a DC plan, while the amount of money going into the pension is guaranteed, the size of a retiree’s monthly check depends on how well the pension plan fares in the investment market). For employees hired after June 2006, Alaska will terminate its defined benefit plan and move toward a defined contribution plan. Hybrid plans, Mr. Brainard noted, plans that incorporate elements of both DB and DC types, are also prevalent among some states (Indiana, Texas, Washington, Florida, Nebraska, Ohio and Oregon). Mr. Brainard also noted that approximately one-fourth of our nation’s public employees do not participate in Social Security, including most public employees in Louisiana and many public employees, including school teachers, in Kentucky, Missouri and Texas. As he stated, employees who do not participate in Social Security are particularly vulnerable when a defined contribution plan is their primary retirement benefit. According to Mr. Brainard, alongside the trend emerging in some states to move future employees away from DB plans to DC plans, several other trends are surfacing too. For instance, there is growing concern about declining funding levels; increasing attention to medical benefits and costs (spurred by a ruling by the Governmental Accounting Standards Board); growing scrutiny of early retirement provisions, return-to-work rules, and deferred retirement option plans (DROPs). In terms of the aggregate funding level of the nation’s state and local pension plans, Mr. Brainard indicated that it currently stood at 88 percent, down from 101 percent in 2001. For the SLC states, the scenario was marginally better with SLC state pension funding level holding at 91.4 percent; the median for the SLC states was 89.4 percent. Mr. Brainard also indicated that the major source of public pension revenue involved investment earnings (about 62 percent) with employer contributions (26 percent) and employee contributions (12 percent) being the two additional sources. Mr. Brainard stressed the importance of policymakers preserving the DB pension option for public employees. He noted that the public has a compelling interest in ensuring that key positions such as law enforcement personnel, firefighters, teachers and school administrators, correctional officers, public health doctors and nurses, finance officers and health inspectors, remain filled with qualified and talented workers. He also indicated that many states considered switching to DC plans but that nearly all have remained with their DB plan because DB plans can be designed to accommodate objectives for all stakeholders: employers, taxpayers, public employees. Furthermore, Mr. Brainard stated, public pension plans are an important source of economic support and activity distributing $120 billion annually in benefits to more than six million annuitants; just in the SLC states, public pension plans distribute about $33 billion annually to some two million annuitants. Public pension assets are also are a key source of venture capital funding, Mr. Brainard indicated. The reach of public pension plans spans every city and town in every state across the nation in adding economic value is impressive: an estimated 2 percent of gross domestic product (GDP). In closing, Mr. Brainard noted that the decline of DB plan coverage in the private sector has diminished the nation’s retirement security and that in its role as both policymaker and employer, state and local governments are uniquely situated to model responsible employer behavior pertaining to retirement benefits.
Program Session I. State Efforts to Curb
Healthcare Expenditures: Lessons from OK and WV Background Representative Steele’s Presentation In responding to the high cost of prescription drugs, Representative Steele noted that Oklahoma set up the Rx for Oklahoma Act, a pilot project to lower the cost of prescription drugs. This pilot project, Representative Steele indicated, was administered by the Community Action Agency that was staffed primarily by volunteers. This agency connected qualified applicants with manufacture-sponsored prescription discount programs. The agency, Representative Steele noted, identified more than 80 prescription drug discount programs that covered more than 1,000 available medications available to Oklahoma residents. According to Representative Steele, the overwhelming success of the pilot project enabled 1,200 people to be served; for every $1 spent, an individual saved $133, generating total savings of $6 million. Given the success of the pilot project, Representative Steele indicated that Oklahoma now intended to expand the pilot program across the state utilizing various points of access. After initiating a competitive bid process, the agency will administer applications for more than 100 manufacture-sponsored discount programs. In addition, Representative Steele noted, the goal of the Rx for Oklahoma Act includes creating greater private/public partnerships and a public awareness campaign. Also included would be training for the volunteers. Representative Steele then mentioned the Oklahoma Smart Card Act, which allowed the state to negotiate prescription drug discounts with manufacturers and pharmacy networks. While these discounts were passed on to consumers, the legislation also established agreements with manufacturers to identify available discounts and drugs. The goal, Representative Steele indicated, was to implement a “one-stop” discount drug program. Oklahoma residents at or above 150 percent of the federal poverty level were eligible to enroll in this program for which they were charged a nominal enrollment fee. Representative Steele then described another piece of legislation designed to enhance healthcare in Oklahoma, the Health Savings Account Act. The essence of this legislation, Representative Steele indicated, was to establish a high deductible healthcare plan for qualified Oklahomans. After setting up a tax-exempt health savings account (HSA), individuals could use account funds to meet qualified medical expenses. According to Representative Steele, the minimum individual deductible was $1,000; the maximum $2,600. For a family, the minimum deductible was $2,000 while the maximum was $5,150. He noted that not only was the monthly premium more affordable, employers could make tax-free contributions to an employee’s HSA too. Oklahoma, Representative Steele indicated, like many other Southern states, was a rural one and faced a number of problems regarding providing healthcare in rural areas. In order to better provide healthcare in the more rural parts of the state, Representative Steele indicated that they established a physician assistant scholarship program and offered incentives to healthcare workers to relocate and/or remain in rural Oklahoma. Representative Steele then listed some of the provisions of the Long-Term Care Security Act designed to assist Oklahoma’s elderly population. As a result of this legislation, all employees at long-term care facilities have to complete a criminal background check; the state’s department of corrections must notify long-term care facilities and local law enforcement of any known sexual offender seeking residence; and long-term care providers must post notices listing any sexual offenders living in their facility. In closing, Representative Steele indicated that the Oklahoma Legislature is very interested in enhancing the efficiency and effectiveness of the state’s Medicaid program and that they had initiated a number of measures to achieve this goal. He also mentioned Oklahoma’s cancer caucus, bi-partisan in composition, and only one of three states in the country to officially establish such a caucus. According to Representative Steele, the caucus seeks to research, develop and propose legislation and initiatives to assist in the battle against cancer. Senator Prezioso’s Presentation About a year and a half ago, Senator Prezioso noted, West Virginia’s Speaker of the House of Delegates, Robert Kiss, stepped down from the podium in the House chamber on to the House floor and made a very impassioned speech about the rising cost of prescription drugs in the state and what needed to be done to deal with this issue. Soon after, the Senate received HB 4084 which spelled out the House’s strategy to deal with this growing crisis. According to Senator Prezioso, the essence of the House strategy involved emulating the model outlined in the federal supply schedule (FSS), where the federal government secured significant discounts in its prescription drug purchases for entities like the Veterans Administration and various federal correctional institutions. Given the previously mentioned high elderly population in the state along with a population that had a very high incidence of obesity, heart disease, cancer and other diseases, West Virginia had a population that was prescribed more prescription drugs than any other state in the country. Consequently, the House bill gathered a great deal of attention both in the Senate and in various other segments of the state, both public and private. In its deliberations, Senator Prezioso indicated, both the Senate Health Committee and the full Senate made it clear very early on that the state did not want to pay for the advertising and marketing costs that were included in pharmaceutical drugs. While research and development costs were reasonable and an activity that needed to be fostered, the Senate strongly felt that marketing and advertising costs were to be avoided. However, as Senator Prezioso noted, this was easy to say but hard to do. Another consideration mulled over by the Senate were the pleas from veterans in the state who cautioned legislators to ensure that their prescription drug costs would not increase as a result of the state applying the FSS format in its prescription drug purchases. Finally, another consideration, according to Senator Prezioso, was ensuring that the economic role of the retail pharmacy industry in the states was not diminished as a result of the state moving toward the FSS format. After several weeks of discussions and debate in which numerous stakeholders were invited to present their viewpoints, the West Virginia Legislature passed HB 4084 on March 13, 2004, creating the West Virginia Pharmaceutical Cost Management Council. In passing this legislation, the Legislature declared “[I]n an effort to promote healthy communities and to protect the public health and welfare of West Virginia residents, the Legislature finds that it is its responsibility to make every effort to provide affordable prescription drugs for all residents of West Virginia.” In selecting individuals to serve on the Council, Senator Prezioso noted that the legislation involved a broad range of individuals with expertise and responsibility over the issue of purchasing prescription drugs for the state. There were six public sector members and five private sector members, all from agencies and private entities that were deeply involved in this important issue. According to Senator Prezioso, this included the heads of the West Virginia Department of Administration, Department of Health and Human Resources, Bureau of Medical Services, Bureau for Senior Services, Worker’s Compensation Commission, a licensed pharmacist, a representative from the pharmaceutical industry operating in West Virginia, a primary care physician, a health insurer offering Rx coverage, among others; the entire Council was chaired by an individual holding the title of Pharmaceutical Advocate. This position is a cabinet-level one, a move that ensured its prominence in state government calculations. According to Senator Prezioso, based on the legislation, the Council had several mandatory duties, chief among which was setting up and continuing to evaluate the role of a clearinghouse. In the FSS model, the federal government had several clearinghouses set up in different parts of the country which stored and distributed the discounted prescription drugs. Veterans and other qualified individuals called at these clearinghouses to procure their prescription drugs. Another duty highlighted by Senator Prezioso involved developing a reference pricing schedule along the lines of the FSS that could be used by West Virginia residents to secure their low cost prescription drugs. Additionally, Senator Prezioso noted that the Council was mandated to assess the financial impact of the federal Medicare Prescription Drug Improvement and Modernization Act of 2003 on West Virginia, particularly as it related to the clawback clause. He noted that the state was extremely concerned that it would have to pay back funds to the federal government as a result of this legislation, a development that would be extremely onerous to a small, fiscally strapped state like West Virginia. Also, the Council was mandated to commence negotiations with other states to set up multi-state agreements in order to secure volume discounts on prescription drug purchases and, finally, report on a regular basis to the Legislature regularly on its range of activities. In closing, Senator Prezioso highlighted the fact that the state made a concerted effort to avoid legal action in court and sought instead to involve the industry along with the other stakeholders in the drafting of legislation as well as in the activities of the Pharmacy Council. He specifically cited the role of Mylan Pharmaceuticals, the nation’s largest generic prescription drug manufacturer that is located in West Virginia. Mylan Pharmaceuticals employs about 2,000 individuals in high-wage, high-tech jobs that are of crucial importance to the economic health of the state. II. Impact of Cuno v.
DaimlerChrysler on State Economic Development Efforts Background Presentation For instance, Ms. Posey stated, some observers have criticized the Cuno decision (and the Sixth Circuit) as interfering in the right of states to legislate and set up their own tax systems and for even prohibiting states from bringing businesses in and not only running the risk of losing business to other states but possibly to other countries. In contrast, other observers hailed the Cuno decision as a victory for states and as a decision that freed them from corporate games and pitting one state against another to secure the best deal possible. According to Ms. Posey, the Sixth Circuit struck down as unconstitutional an Ohio investment tax credit on the grounds that it discriminated against interstate commerce. However, she added, at the same time, the Court upheld a personal property tax exemption that was challenged on the same basis. Ms. Posey said that the investment tax credit that was struck down gave taxpayers like DaimlerChrysler credit against their existing Ohio franchise tax liability if they accomplished certain specific tasks: purchased new manufacturing equipment during a qualifying period and installed that equipment in Ohio. If these tasks were done, Ms. Posey noted, Ohio gave the corporation a 7.5 percent tax credit (13.5 percent if it was in an economically depressed county) and allowed the corporation to carry over the tax credit for three years. According to Ms. Posey, the Sixth Circuit held that this violated the Commerce Clause provision of the U.S. Constitution because it coerced a company already liable to Ohio taxes to locate and spend this money within the state of Ohio instead of giving the company the option of spending its money outside the state. Thus, the court was comparing two similarly situated businesses, both subject to Ohio’s franchise tax, where the one choosing to invest locally was going to have a lower tax burden and the other, by freedom of choice, choosing to invest out of state, would have a higher existing Ohio franchise tax burden. This development, in the perspective of the Sixth Circuit Ms. Posey stated, was unconstitutional and a violation of the U.S. Constitution’s Commerce Clause. Ms. Posey then posed the rhetorical question as to how this state tax law case ended up in federal court. While the issue was definitely generated by a state tax provision, both the state of Ohio and DaimlerChrysler made a strategic decision not to contest the hearing of this case in federal court. Initially, she noted, this decision appeared to be successful because it was dismissed by the federal District Court. However, a three-judge panel of the Sixth Circuit Court upheld it on appeal; then, the full Sixth Circuit Court declined to hear it, effectively agreeing with the decision rendered by the three-judge panel, a development that resulted in the case being forwarded to the United State Supreme Court for final adjudication. In terms of what states are doing to prepare for a possible Supreme Court hearing this fall, Ms. Posey noted that the National Association of Attorneys General (NAAG) had filed an amicus brief with the United States Supreme Court supporting the state of Ohio in this effort. Then, she indicated that there was federal legislation pending—given that Congress has the power to regulate the Commerce Clause—and Tennessee, like so many other states, has wholeheartedly thrown its support behind this Congressional legislative effort. A decision was made, she noted, that crafting a state-by-state remedy to the Cuno decision would have been very difficult and hence the effort to support uniform federal legislation. This legislation, entitled the Economic Development Act of 2005, has broad based support and it is expected that it will pass Congress in September or October this year. In terms of the U.S. Supreme Court’s reaction, Ms. Posey stated that the states would know by the end of October 2005 whether the Court would even hear the case; if the Supreme Court does hear the case, a decision is expected by June 2006. With regard to the federal legislation being drafted, Ms. Posey encouraged states to be extremely vigilant about the specific language in its provisions. While current drafts of the federal legislation indicate that states will be allowed to offer these economic incentive packages, they will also be restricted by the provisions of the Commerce Clause. She added that since the legislation entails the federal government drafting legislation that directly deals with state tax law, it is imperative that states pay close attention to it and ensure that the interests and rights of states are upheld. Mr. Lewis then returned to the podium to summarize the impact of Cuno and noted that issues related to the Commerce Clause were an area in which the United States Supreme Court had noted that it had created a quagmire. He added that constitutional precedence in this area created much confusion and did not leave precise guidelines as to how states should exercise their sovereign power of taxation. As a result, in the past 20 to 30 years, the Supreme Court had made an effort to clarify the law as it related to the Commerce Clause. In this regard, according to Mr. Lewis, there is some basis in existing United States Supreme Court precedence for the Cuno result. However, there are also statements in those decisions, he stated, which expressly proclaim that state tax credits are a legitimate means of recruiting domestic industry. Consequently, the Cuno result is a new application of Supreme Court doctrine and whether one views it as consistent with existing precedent or an expansion is in the eye of the beholder. In providing some background on the Commerce Clause, Mr. Lewis noted that one of the principal reasons for the adoption of the federal constitution was to ensure that the states were not warring economic principalities but a single, national economic union. This was, he indicated, one of the driving forces behind the constitutional convention in 1787 and Congress was given the power to regulate commerce among the states with the United States Supreme Court given the power to review the interaction. Given this Congressional power, the Supreme Court has ruled that states may not interfere with this regulation in a way that discriminates in commercial activity. In the event that Congress does not regulate this commercial activity, the Courts have struck down as unconstitutional various discriminatory practices initiated by specific states. For instance, Mr. Lewis stated, Courts have held that no state may discriminate against inter-state commerce by providing a direct commercial advantage to local businesses. Similarly, he added, a state could not impose a higher sales tax on a product simply because it came from another state. This is the essence of the Commerce Clause and there are numerous United States Supreme Court rulings involving cases in New York, Hawaii, Massachusetts, Louisiana, Ohio that struck down business practices that discriminated against out of state commerce. In Mr. Lewis’ opinion, it is crucial that the Supreme Court hear the Cuno case because if it does not, it would place the four states in the Sixth Circuit at an undue disadvantage vis-à-vis the rest of the country as it relates to economic incentives. If the Supreme Court did not hear the Cuno case, Kentucky, Michigan, Ohio and Tennessee would be the only states, at least in the short run, hampered in their economic development efforts by the restrictions of the Cuno decision. In the interest of national uniformity, Mr. Lewis noted, Tennessee is very interested in a decision from the U.S. Supreme Court. Nominating Committee Report SLC Staff Contact: Sujit CanagaRetna, phone: 404/633-1866; e-mail: scanagaretna@csg.org
Attendance List
Alabama
Arkansas
District of Columbia
Georgia
Kentucky
Maryland
Mississippi
North Carolina
Oklahoma
South Carolina
Tennessee
Texas
Virginia
West Virginia |
