Legacy members of the County retirement systems in Alameda, Contra Costa and Merced counties obtained a tremendous victory from California’s First Appellate District on Monday in a closely watched case challenging certain provisions of the Public Employees’ Pension Reform Act of 2013 (“PEPRA”). Rains Lucia Stern St. Phalle & Silver Partner Timothy Talbot successfully argued the case before the Court of Appeal on behalf of labor associations and employee members of the three County pension systems. The Court of Appeal’s decision in Alameda County Deputy Sheriffs’ Association, et al. v. Alameda County Employees’ Retirement Association, et al. (2018) A141913 acknowledges the importance of promised pension benefits to legacy employees.

PEPRA imposed significant changes to public employee pension benefits. While most of the changes applied only to new employees hired on or after January 1, 2013, the three County retirement systems in the case claimed the changes also applied to legacy employees who were hired before PEPRA became operative. The PEPRA provisions at issue excluded certain items of compensation from being included in the calculation of a retiring employee’s pension benefit, including “on-call” or “standby” pay and “terminal pay.” “On call” or “standby” pay is compensation provided to employees who are required to remain ready to work at a moment’s notice. “Terminal pay” refers to the cash-out of an employee’s unused leave at the time of retirement.

Following the California Supreme Court’s 1997 decision in Ventura County Deputy Sheriffs Assn. v. Board of Retirement, a number of lawsuits were filed challenging the calculation of pension benefits. The parties, including the retirement systems, entered into court-approved settlement agreements that resolved the disputes as to what pay items were included or excluded from the calculation of pension benefits. Those settlement agreements generally included on-call pay, standby pay and terminal pay as items to be included in the calculation of pension benefits. The three pension systems determined the actuarial cost of including the pay items in the calculation of pension benefits and added the cost to the required employer and employee contributions. For more than a decade after entering into the settlement agreements, the retirement systems published information on how these pay items would enhance pension benefits and paid pension benefits to retirees based on the inclusion of the pay items.

When PEPRA was subsequently enacted, the three County retirement systems implemented PEPRA’s exclusion of these pay items for all members – including legacy employees who werepromised pension benefits based on the inclusion of the pay items identified in the settlement agreements. The Contra Costa Deputy Sheriffs’ Association (“CCCDSA”) filed a lawsuit seeking to prevent the exclusion of these pay items from the calculation of pension benefits for legacy employees. The CCCDSA argued that legacy employees acquired a constitutionally protected right to pension benefits calculated on the inclusion of the pay items that were subsequently excluded by PEPRA. While the exclusions could be applied to new employees, PEPRA could not impair the pension benefits promised to legacy employees under the “California Rule” unless the impairment related to the material operation of a pension system and was accompanied by a comparable new advantage. Other public employee associations later filed suit in other jurisdictions. Cases filed in Alameda and Merced counties were consolidated into Contra Costa County Superior Court under the lawsuit initiated by CCCDSA.

The trial court ruled that the County pension systems could not include the disputed pay items in the calculation of pension benefits prior to PEPRA and therefore legacy employees never had a “vested” right to the inclusion of those pay items in the calculation of their pension benefits prior to PEPRA. According to the trial court, PEPRA did not “change” the law in this regard and did not impair a constitutionally protected pension benefit. The trial court ruled that the disputed pay items were lawfully excluded by the various retirement systems. The trial court also ruled that the inclusion of these items by way of settlement agreements between the retirement systems and various public employee associations were invalid, in that these agreements were contrary to the law.

The Court of Appeal overruled the trial court on various points and remanded the case for further proceedings. The Court of Appeal found that “on call” and “stand by” pay were lawfully included in pension calculations prior to PEPRA and that legacy employees acquired a vested constitutional right to pension benefits based on those pay items. The Court of Appeal also determined that PEPRA’s exclusion of those pay items impaired the vested benefit. However, because the trial court did not undertake the required vested rights analysis to determine if the impairment was reasonable, the Court of Appeal directed the trial court to conduct a systematic vested rights analysis with respect to on-call and standby pay and provided specific guidance on how to do so. In discussing what it considers to be the proper constitutional analysis, the Court of Appeal declined to follow the controversial appellate decision in Marin Assn. of Public Employees v. Marin County Employees Retirement Assn., which is pending review by the California Supreme Court. The Alameda Court of Appeal was critical of the Marin court’s failure to weigh the justification for the impairment against the actual disadvantage to legacy employees. According to the Alameda Court of Appeal, because no corresponding new advantages were provided to legacy employees, “the detrimental changes can only be justified by compelling evidence establishing that the required changes ‘bear a material relation to the theory…of a pension system,’ and its successful operation.” (Original emphasis.) The Alameda Court also stated that the analysis must focus on the impacts of the identified disadvantages on the specific legacy members. Mere speculation is insufficient.

With respect to “terminal pay,” the Court of Appeal agreed with the trial court that County retirement systems could not include “terminal pay” in the calculation of pension benefits prior to PEPRA. However, recognizing the moral significance of the promises made to legacy employees, the Alameda Court of Appeal held that all existing legacy employees who were promised the inclusion of terminal pay in the calculation of their pension benefits pursuant to court-approved settlement agreements had a valid “estoppel” claim for their continued inclusion. As the Alameda Court of Appeal stated: “all legacy members should be entitled to include terminal pay in compensation earnable to the limited extent such pay was designated as pensionable by their relevant Post-Ventura Settlement Agreement.” “[T]he equities in this case tip decidedly in favor of allowing an estoppel claim to proceed.”

For the legacy employees in the three County retirement systems, the Alameda decision establishes that on-call and standby pay could be included in the calculation of pension benefits prior to PEPRA and that PEPRA’s elimination of those pay items for legacy employees may be constitutionally impermissible. The trial court will need to conduct a vested rights analysis and perhaps take additional evidence to resolve the question.

As for terminal pay, the Alameda decision indicates that all employees who were told by their County retirement systems that terminal pay would be included in the calculation of their pension benefits as a consequence of the court-approved settlement agreements are entitled to those benefits as promised.

Finally, with respect to the Marin decision, the Alameda decision rejects the assertion that the focus should be on whether the pension benefit, itself, is “reasonable” in the abstract. Rather, the Alameda holding places proper emphasis on whether the challenged modification to vested pension benefits is reasonable. While the Alameda Court of Appeal decision does not completely reject the Marin decision, the Alameda case affirms the requirement that the detrimental impact on employee pension benefits must be considered as part of the vested rights analysis. While the Alameda decision provides relief and peace of mind to the impacted employees, the California Supreme Court will have to decide the proper application of the California Rule as framed by the Marin decision. The outcome of Marin could have a dramatic impact on pension rights for ALL California public employees.