Federal tax reform will further PERS pain across Oregon
"No man's life, liberty or property are safe while the Legislature is in session."
— Gideon Tucker
Congress is considering a long-overdue reform of the tax system. There are features that are attractive (those favoring increased growth) as the Senate and the House of Representatives do their work. But in their never-ending search for more revenue, federal lawmakers are considering a little-noted change that will have a negative impact on Oregon.
A proposal in the reform package limits the amount of interest most firms could deduct from taxes at 30 percent of earnings before various other expenses. The less we think we can earn through investments, the more we need to pony up in cash.
How would this impact Oregon? Simply put: PERS.
Oregon's Public Employees Retirement System is the program already consuming an increasing portion of state, county, city and school budgets, thereby impacting services we Oregonians want.
Here is the connection: The retirement system takes in contributions and invests them to provide for agreed-upon benefits. About 17.5 percent of those assets are invested in private equity funds. The expected return from those funds is about 9.5 percent. The returns from private equity investments made by the retirement system have been a significant mainstay in its ability to meet pension promises while allowing contributions by public employers to be less than what they otherwise might be.
The basic formula for PERS is "cost of Benefits equals Contributions from taxpayers plus investment Earnings" ( B = C + E). When a change is made to one of those three parts, the other two parts must change. The only question is how much.
The private-equity model is based on taking on prudently managed debt to generate better returns. If there is a limitation on the deductibility of interest, there are highly likely to be lower projected returns. With lower projected returns, the PERS equation (B = C + E) tilts more toward using existing tax revenue, which means impacts to either benefits or services such as K-12 education or road paving.
That would be on top of the already projected increases in retirement system contributions.
But one change can't be looked at in isolation. The likely comparison to the current tax system is a limitation on interest deductibility, coupled with immediate deductibility of capital expenditures and a lower statutory tax rate. Under these kinds of comparisons, private equity returns likely won't be as attractive as they once were.
There may be other offsetting factors to keep returns up, such as carrying operating losses forward or back, or how the private equity firms make other operating and financing adjustments. But the core story remains: Likely lower projected returns will require increased government contributions that will impact services or cause increased local taxes.
Oregon's public retirement system isn't a black-and-white issue. Our public employees deserve a retirement system they can count on. And contributions into that system are part of what we as taxpayers need to pay if we want quality services. But changes at the federal level can — and will — have an impact on Oregon's ability to fund pension obligations.
Perhaps Congress should consider an exemption for public retirement funds or make other changes to allow public investment funds to maximize their returns. But be careful what you wish for. Changing the current system will have unintended consequences, including a significant impact on the investment returns to Oregon's Public Employees Retirement System.
Jeff Gudman, a Lake Oswego city councilor, was the Republican candidate for state Treasurer in 2016. This Citizen's View is a reflection of his own views and not necessarily those of the Lake Oswego City Council.