COLA Cuts in State/Local Pensions
Public pension systems faced significantly unfunded liabilities after the financial crisis. In response, a number states reduced the cost-of-living adjustments (COLA) for public employees. In this Center for Retirement Research brief, the authors examine the changes and response to COLA reductions in the years after the economic crisis.
States provide COLAs as a way to safeguard public employee benefits from inflation. There are four main types of COLAs: increases at a fixed percentage, increases based on the Consumer Price Index (CPI), ad-hoc increases set and revised by the state legislature, and investment-based increases tied to the plan’s overall funded level or level of assets. In 2009, three-quarters of public plans had a fixed rate or CPI-linked COLA. From 2010 to 2013 after the financial crisis, 17 states (30 public plans) passed legislation that reduced, suspended, or eliminated COLAs.
Pension benefits are often protected as contractual obligations under state and federal law. However, courts have treated COLAs differently. After the passage of COLA cuts, 12 states faced legal challenges regarding the reduction of benefits. Of the 12 states that faced court challenges, the courts in eight states ruled that COLAs were not a contractual right. Unlike pension benefits, COLAs were not viewed as a core benefit and could be modified.
The authors conclude that the COLA cuts are surprising and that public sector pensions are not as secure as many have thought.