Cherry, Jr. et al v. Mayor and City Council of Baltimore City et al

Filing 167

THIRD TRIAL DECISION RE: REASONABLE AND NECESSARY. Signed by Judge Marvin J. Garbis on 9/20/2012. (aos, Deputy Clerk)

IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF MARYLAND
ROBERT F. CHERRY, JR., et al.
Plaintiffs
vs.
MAYOR AND CITY COUNCIL OF
BALTIMORE CITY, et al.

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CIVIL ACTION NO. MJG-10-1447

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Defendants
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THIRD TRIAL DECISION RE: REASONABLE AND NECESSARY
The instant case presents claims by, and on behalf of,
members and beneficiaries of the Fire and Police Employees’
Retirement System of the City of Baltimore (the "Plan").
Plaintiffs contend that when the City of Baltimore (the "City")
enacted Ordinance 10-306, effective June 30, 20101 (sometimes
referred to herein as the "Ordinance"), it violated rights of
the Plan members guaranteed by the Contract Clause of the United
States Constitution.2

1

There may be a question as to whether the effective date of
the Ordinance is June 30 or July 1, 2010. Herein, the Court is
referring to June 30, 2010, as the effective date without
prejudice to the right of any party to contend that the
effective date is July 1, 2010, in a context in which the matter
may be material.
2
Plaintiffs have also asserted claims based upon state law
against the City and other Defendants. The Court is initially
resolving the federal law claims against the City. The Court
will proceed regarding the state law claims as appropriate in
light of the resolution of the federal law claims.

I.

PROCEDURAL SETTING
The Court has proceeded to resolve Plaintiffs’ federal

Contract Clause claims in stages, conducting three bench trials.
Following the first trial, the Court issued the First Trial
Decision Re: Constitutional Claims [Document 68] ("First
Decision").

In the First Decision, the Court:

•

Found that the Ordinance did not create vested
contractual rights for Plaintiffs, cognizable for
Contract Clause purposes ("Vested Constitutional
Rights") upon the commencement of their employment.

•

Found that Plaintiffs' Contract Clause Claim was based
upon the elimination of the Variable Benefit by the
Ordinance.

The Court then proceeded to the second trial to determine:
•

Whether elimination of the Variable Benefit
constituted a retroactive impairment of Vested
Constitutional Rights of some, or all, of the
Plaintiff Class.

•

If so, whether such impairment substantially impaired
Vested Constitutional Rights of Plaintiffs in the
context of the Contract Clause.

Following the second trial, the Court issued the Second
Trial Decision Re: Substantial Impairment [Document 115]
("Second Decision").

In the Second Decision, the Court found

that the elimination of the Variable Benefit feature constituted
a substantial retroactive impairment of Vested Constitutional
Rights for some, but not all, members of the Plaintiff Class.
Specifically, the Court found the Plaintiff Class divisible into
2

three groups and found that:
•

The Entitled Group – consisting of those members of
the Plan who, as of the Ordinance effective date, were
fully entitled to (and receiving) benefits under the
Plan - had sustained a substantial retroactive
impairment in the Contract Clause context of their
right to the Variable Benefit feature.

•

The Eligible Group - consisting of those members of
the Plan who, as of the Ordinance effective date, were
eligible to retire but were not entitled to receive
benefits because they were continuing to work - had
sustained a substantial retroactive impairment in the
Contract Clause context of their right to the Variable
Benefit feature with respect to benefits based upon
service prior to the effective date of the Ordinance.

•

The Pre-Eligible Group – consisting of those members
of the Plan who, as of the Ordinance effective date,
were working and not yet eligible to receive benefits
- had not sustained a substantial retroactive
impairment in the Contract Clause context of any right
to the Variable Benefit feature.

The Court has conducted the third trial to determine
whether the City's substantial impairment of the contractual
rights of the Entitled and Eligible Groups was permissible
because it was reasonable and necessary to serve an important
public purpose.
The Court has heard evidence, reviewed the exhibits,
considered the materials submitted by the parties, and has had
the benefit of the arguments of counsel.

The Court has made its

factual findings based upon its evaluation of the evidence and
the reasonable inferences drawn therefrom.

The Court now issues

this Third Trial Decision as its findings of fact and
3

conclusions of law in compliance with Rule 52(a) of the Federal
Rules of Civil Procedure.3

II.

BACKGROUND
A.

The Plan and the Ordinance

In 1962, Baltimore City enacted the Fire and Police
Employees’ Retirement System of the City of Baltimore (the
"Plan") to provide defined benefits to its members and
beneficiaries.
In 1983, the City amended the Plan to include a postretirement benefit enhancement feature, the Variable Benefit.4
The Variable Benefit provided an increase to the basic benefit
received by an eligible member or beneficiary5 if "excess"
investment earnings were generated from Plan funds during a
fiscal year.

3

As noted previously by this Court in its May 25, 2011 order
[Document 101], because it did not participate in this trial,
the Board of Trustees of the Fire and Police Employees’
Retirement System (the "Board") is not bound by any finding of
fact or conclusion of law in this decision, should there be a
claim pursued against the Board. [See also Document 165.]
4
The Variable Benefit was adopted largely because Plan
members were not enrolled in the federal Social Security system
and, therefore, did not receive cost of living increases to
offset inflation. See GBC Report at 23.
5
A member who retired under the normal requirements set
forth in Article 22 was not immediately eligible for the
Variable Benefit. Rather, a retired member only became eligible
for a Variable Benefit increase after two years of retirement.
Art. 22, § 36A(a)(1)(i) (Dec. 31, 2009).
4

In essence,6 if the returns on investment of Plan funds
attributable to the retirees for a fiscal year exceeded 7.5%,
there were deemed to be "excess" investment earnings.7

The

excess investment earnings were set aside for payment of
Variable Benefit increases and were invested more conservatively
than the general Plan funds.8

The amount of the Variable Benefit

increase for a fiscal year was determined by a complex actuarial
computation based on the prior year's excess investment
earnings.

Stephan Fugate, Chairman of the Board of Trustees of

the City’s Fire & Police Employees’ Retirement System (the
"Board"), explained how the Variable Benefit worked:

The Variable Benefit, the funds of the
system, the assets in the Plan are
essentially segregated into six separate
accounts. This is under the previous
Variable Annuity structure. . . . The
primary purpose of that was to be able to
identify those assets attributable to the
retired members and beneficiaries, and those
assets attributable to the active members.
The significance of that is that in the
Variable Benefit calculation, it’s only the
excess interest return on the attributable
to the retirees' side that’s used in the
calculation for the increase in benefit.
Trial Tr. Jan. 31, 2012 at 79.

6

A more precise explanation is presented in the Second
Decision at pages 4–6.
7
The "excess" was 100% of earnings between 7.5 and 10% and
one-half of any earnings above 10%.
8
The set-aside funds were the only source for the payment of
Variable Benefit increases.
5

Over the years 1983 through 2010, the Variable Benefit
feature yielded approximately the same increase to Plan members’
pension benefits as an annual 3% increase would have produced.
The Ordinance, effective June 30, 2010, eliminated the Variable
Benefit feature from the Plan for future years.

The Ordinance

"substituted" an age-dependent post-retirement benefit Cost of
Living Adjustment (the "Tiered COLA").

Therefore, after June

30, 2010, in lieu of the Variable Benefit feature applicable
equally to all beneficiaries, the Ordinance differentiated
between beneficiaries, essentially based upon their age as
reflected in the following chart:

Type
Of Beneficiary
Under 40 years
40 – 54
55 – 64
65 +
100% Disability10

Number9
In Category
138
1,017
1,707
3,145
5

Annual
Increase
0%
0%
1%
2%
2%

The Ordinance provided for a minimum $16,000 per year
pension for widows or widowers of Plan members who, before
August 1, 1996, retired or died while in service with at least
20 years of service.
The Ordinance also took the funds - some $500 million dedicated for the payment of Variable Benefit increases - and

9

As of the year ended June 30, 2010.
This category refers to beneficiaries who became completely
disabled in the line of duty.
10

6

placed these in the general pension fund to reduce the City's
pension contributions.

In return, however, the City guaranteed

the payment of the accrued Variable Benefit increases for which
the funds had been set aside.

B.

The Variable Benefit Contribution Increase

Each year since 2008, the City faced budget deficits that
it was required to close for the next fiscal year.
Feb. 2, 2012 at 5-9.

Trial Tr.

The City adopted measures to close the

deficits, including a hiring freeze, a pay freeze, unpaid
furloughs, layoffs, deferral of infrastructure projects,
rotating firehouse closures, reducing trash pickup, and cutting
library hours.

Id.

However, unanticipated revenue shortfalls

and extraordinary snow-removal costs required additional budget
cuts.

Id. at 9-13.

All told, to balance the budget for fiscal

year 2010, the City made $120 million in spending cuts.

Id. at

10.
As the City prepared to enter fiscal year 2011, which was
to begin on July 1, 2010, the projected deficit exceeded $100
million based on the then-anticipated pension contribution of
some $101 million.

Id. at 15.

The City passed tax increases to

raise revenues and to mitigate the need for additional cuts to
core services.

Id. at 16-18.

As fiscal year 2011 approached, the Plan’s actuary and its
7

Board recommended that the statutory post-retirement investment
return assumption of the Plan be reduced from 6.8% to 5%.

See

Memo from Edward Gallagher to City Council, June 8, 2010, at 7
(Legislative File).

Essentially, it had become clear that

assuming 6.8% annual growth of the funds from which the Plan’s
Variable Benefit was calculated was unrealistic, whereas a 5%
assumption would be more appropriate.

Making this change to the

statutory assumption would require the City to make a greater
annual contribution to the Plan to avoid underfunding it.
Instead of the anticipated $101 million contribution to the Plan
in fiscal year 2011, lowering the investment return assumption
to 5% for the funds from which the Plan’s Variable Benefit was
calculated would require the City to contribute an additional
$64 million to the Plan, for a total contribution of $164.9
million.

See id. at 2.

Put another way, the City would need to fund the basic
pension plan in a way that accounted for the fact that the
Variable Benefit structure would skim off most earnings above
7.5% in any good year.

Mr. Lowman explained why the City would

be required to contribute an additional $64 million if it
accepted that the 6.8% assumption should be lowered to 5%: "I
think of the $64 million more as the average expected future
cost every year that will be skimmed off the earnings for the
Variable Benefit increases, but it’s only an average."
8

Trial

Tr. Jan. 30, 2012 at 83.
Confronted by the need to find, by July 1, 2010, an
additional $64 million to contribute to the Plan funds in an
already challenging budget environment, the City determined that
the Plan, particularly the Variable Benefit feature of the Plan,
was unsustainably costly.

C.

Trial Tr. Feb. 2, 2012 at 48.

The Path to the Ordinance
1.

The GBC Report

In May, 2010, the Greater Baltimore Committee ("GBC"),11 in
response to a 2009 request from Mayor Stephanie Rawlings-Blake
(then President of the City Council), issued a report proposing
changes to the Plan.12

The GBC recommended, among other things,13

11

The GBC is a membership organization of more than 500
businesses, nonprofit organizations, and educational and civic
institutions. See http://www.gbc.org/.
12
The GBC had been called upon by the City to engage
financial experts to evaluate the pension system and make
recommendations. Trial Tr. Feb. 2, 2012 at 21.
13
The GBC recommended: 1) combining the six pension plan
funds into a single fund; 2) eliminating the Variable Benefit
and introduction of a COLA benefit not to exceed 3% per year; 3)
increasing employee contributions from the current rate of 6%;
4) requiring the City to commit to making the Annual Recommended
Contribution calculated by the Plan’s actuary each year (rather
than sometimes satisfying its obligation to fund the Plan by
using Plan excess earnings); 5) revising age and service
requirements, setting the minimum age for full retirement at 55
years or 25 years of service; 6) eliminating the generous "DROP2" deferred option retirement plan; 7) increasing the span of
months in calculating the average final compensation of members;
8) enrolling new hires in a defined contribution plan and
federal Social Security; and 9) restructuring Plan system
9

replacing the Variable Benefit feature with a cost of living
benefit, not to exceed 3%.
The GBC report included a summary of changes recommended by
the fire and police unions (the "Unions").
18.

See GBC Report at

The Unions had engaged an actuary, Tom Lowman of Bolton

Partners, Inc., to evaluate the Plan.

The Unions’ proposed

reforms, as presented to the GBC, also included replacing the
Variable Benefit with an annual cost of living benefit of 2% per
year for all members, with provisions to increase it to 2.5% in
future years based on the adequacy of Plan funds.

Id.

The GBC

reviewed the Unions’ proposal and concluded that, "although the
proposals offered some changes to the system that most of the
recommendations would likely increase costs to the City without
addressing the driving costs of the plan."

2.

Id.

The PFM Report

In April 2010, the City engaged Public Financial
Management, Inc. ("PFM"), to evaluate "what changes, if any, are
reasonable and necessary to safeguard the public welfare and the
long-term sustainability of the system."

See PFM Report at 5.

The PFM report built, in part, on the GBC report.

PFM produced

a report on June 7, 2010, to accompany proposed legislation to
the City Council - City Council Bill 10-0519.
governance.

See GBC Report.
10

The PFM report recommended and the proposed legislation
provided that the City:
•

Replace the current "variable benefit" for
retired members of the plan with an annual
increase based upon a cost of living
adjustment with an annual cap;

•

Increase employee contributions supporting
the F&P system;

•

Lengthen the age and service requirements
for determining eligibility for pension
benefits;

•

Revise the calculation method for average
final compensation . . . by increasing the
service period used in the calculation.

PFM Report at 51 (emphasis in original).
By eliminating the Variable Benefit and consolidating the
Plan funds, the proposal in the PFM report eliminated the need
to reduce the statutory post-retirement investment return
assumption on the funds from which the Plan’s Variable Benefit
was calculated from 6.8% to 5%.

The proposal also included

reductions to other Plan interest rate assumptions.
The PFM report stated that it recommended eliminating the
Variable Benefit feature because the feature had an illogical
structure that allowed for "short-term windfalls to member
benefits with no real connection to inflation."
52.

PFM Report at

The PFM report illustrated this "illogic" by pointing out

that a partial market rebound in 2010 after the disastrous
market losses of 2008-2009 could lead to a Variable Benefit
11

payout at a rate "well above consumer price growth based on
‘excess investment earnings’ – even though the underfunded
system overall will not have come close to regaining its losses
of the two prior years."

Id.

The PFM report proposed a Tiered COLA to replace the
Variable Benefit, rather than a uniform COLA: "This COLA would
be applicable only to retirees age 55 and older, and be set at
1% for retirees age 55-64, and at 2% for retirees age 65 and
older."

PFM Report at 52.

The PFM report noted that "this type

of approach would provide greater budget predictability, reduce
the volatility of increases for retirees, and conserve a greater
portion of pension assets in years of high earnings growth to
help ensure longer-term system sustainability."

Id.

The report

noted that many similar police and fire pension plans provide
post-retirement benefit increases by way of capped COLAs tied to
the consumer price index ("CPI"), calculated and published by
the United States Department of Labor Bureau of Labor
Statistics, which measures the inflation of consumer goods and
services.

See id.

However, the PFM report did not provide any

examples of other pension systems implementing a Tiered COLA as
was proposed for Baltimore.

12

3.

The Legislation

The proposed legislation was largely consistent with the
recommendations in the PFM report.

The proposed legislation

included a Tiered COLA as was recommended in the PFM report.
According to the Mayor, the City "could not afford to do two
percent for everyone."

Trial Tr. Feb. 2, 2012 at 48.

"[T]he

drafters of the legislation set out to provide the greatest
benefit for the retirees and beneficiaries who were likely to
need it the most – the large number of retirees and
beneficiaries who were 65 years of age and older and who were
likely to depend principally on their pension for their income."
City Post-Trial Br. [Document 155] at 5.

The Mayor testified:

So the individuals up to age 55, many of
them worked full-time and more than fulltime, many of them. And because of that,
zero was chosen, because they are less
vulnerable, most of them, they were made
less vulnerable because of the, you know,
inflation, because the pension is not their
only source of income.
And from there to 65 and over, it was a
tiered approach to try to approximate when
individuals would be more dependent on the
pension for income.
Trial Tr. Feb. 2, 2012 at 110-11.
After the proposed legislation was introduced, the Unions
submitted a counter proposal to the City Council, similar to the
proposal that it had presented to the GBC.

This proposal

included a 2% COLA for all retired beneficiaries.
13

See Union

Proposal at 6.

In addition, on June 8, the Plan’s Board voted

to oppose the proposed legislation.

See Pls.’ Ex. 66 at 2.

On June 9, the City Department of Law provided its opinion
that no contractual obligation existed with respect to the
Variable Benefit feature, and that the proposed legislation was
constitutional.

See DiPietro Letter June 9, 2010.

On June 10, three days after the proposed legislation was
introduced, the City Council’s Taxation, Finance and Economic
Development Committee held a hearing on it.

The City’s Director

of Finance, Edward Gallagher, introduced the City’s panel that
testified in support of the bill, including representatives from
the PFM Group; Doug Rowe, the Plan’s actuary; and William
Fornia, an actuary retained by the City from AON Consulting.
The Unions presented testimony from their leadership, members,
counsel, and actuary, Tom Lowman.

Consistently, the Unions’

witnesses stated that, under the circumstances, they were
willing to have the Variable Benefit eliminated but they wanted
a replacement COLA "that they can live with and their widows can
live with."

Tr. City Council June 10, 2010 at 61.

On June 21, 2010, the City Council voted on Bill 10-0519.
Councilwoman Clarke proposed a slate of amendments that were
drafted by the Unions.

On the subject of post-retirement

benefit increases in the proposed bill amendments, Clarke noted:

14

[T]he retirees were getting an average of 3
percent increase a year through variable
benefits. Some years they got none. Some
years they got more than three. It averaged
out to about 3 percent a year increase in
their pensions.
They gave up that variable benefit and asked
for a 2 percent increase a year, which is in
[Bill 10-0]519, but only for retirees 65 and
older, and 1 percent for retirees 55 and
older, and nothing, as much as our committee
chairs tried, for a disabled firefighter,
for example, who goes out young, on a 66 and
two-third disability, he wouldn’t or she
wouldn’t be eligible for any increase in the
pension they get for disability serving us
until they were 55 years old. And so to
overcome that, the Fire and Police Unions,
the FOP and the unions have said 2 percent .
. . everybody gets 2 percent all the way up
the line of retirees.
Tr. City Council June 21, 2010 at 6-7.

Clarke’s proposed

amendments failed to gain a majority of votes.

See id. at 12.

Thereafter, a majority of the City Council voted in favor of the
proposed legislation.

The Mayor signed the bill June 22, 2010,

thus enacting it into law as Ordinance 10-306.

III. LEGAL FRAMEWORK
The Contract Clause, Article I, § 10 of the United States
Constitution provides: "No State shall . . . pass any . . . Law
impairing the Obligation of Contracts."
The Contract Clause is not applied literally to prohibit
any legislative action that impairs government or private

15

contracts.
(1977).

U.S. Trust Co. of N.Y. v. New Jersey, 431 U.S. 1, 21

Rather, there exists a well-established analysis for

determining whether a legislative action implicates and violates
the Contract Clause.

See Fraternal Order of Police Lodge No. 89

v. Prince George's Cnty., 608 F.3d 183, 188 (4th Cir. 2010).
This analysis balances and harmonizes the protections of the
Contract Clause with the states’ reserved police powers "to
provide for the welfare of their citizens."

Balt. Teachers

Union v. Mayor & City Council, 6 F.3d 1012, 1015 (4th Cir. 1993)
(citing U.S. Trust Co., 431 U.S. at 21).
Accordingly, in order to implicate the protection of the
Contract Clause, one must establish that (1) a contractual
obligation exists, (2) the legislative action retroactively
impairs the contractual obligation, and (3) such impairment is
substantial.

Id.

Even if there has been substantial

retroactive impairment of a contractual obligation, the
legislative action will, nevertheless, be permissible if it is
reasonable and necessary to serve an important public purpose.
Fraternal Order of Police, 608 F.3d at 188.

16

IV.

DISCUSSION
The Supreme Court has stated:
As with laws impairing the obligations of
private contracts, an impairment may be
constitutional if it is reasonable and
necessary to serve an important public
purpose.

U.S. Trust Co., 431 U.S. at 25.
Thus, the issue presented for decision is whether the
City's impairment of Plaintiffs' contract rights by the
Ordinance was "reasonable and necessary to serve an important
public purpose."

A.

Burden of Proof

The parties debate whether the Plaintiffs or the City must
bear the burden of proof with regard to the "reasonable and
necessary" issue.
The United States Court of Appeals for the Fourth Circuit,
while not definitively resolving the question, stated in 2007:
In short, then, a claimant must show (1)
contractual impairment, (2) that is
substantial, and (3) not a legitimate
exercise of state power. See City of
Charleston v. Pub. Serv. Comm's of W. Va.,
57 F.3d 385, 391 (4th Cir. 1995) ("Only if
there is a contract, which has been
substantially impaired, and there is no
legitimate public purpose justifying the
impairment, is there a violation of the
Contract Clause."). (Emphasis added)

17

Catawba Indian Tribe v. City of Rock Hill, 501 F.3d 368, 371
(4th Cir. 2007).
However, in 2009, this Court, by Judge Williams, stated:
As a preliminary matter, it is undisputed
that despite the Contract Clause, States
retain a certain amount of power to
safeguard the welfare of their citizens. To
pass constitutional muster, however, a
State, or as in the present case, a County,
when exercising this power, by enacting
legislation that constitutes a substantial
impairment of its own contracts, must
demonstrate that the legislation is
"reasonable and necessary to serve an
important public purpose." Id. at 25, 97 S.
Ct. 1505. (Emphasis added)
Fraternal Order of Police, 645 F. Supp. 2d at 508 (citing U.S.
Trust Co., 431 U.S. at 25).
Last year, the United States Court of Appeals for the First
Circuit14 placed the burden of proof on the party claiming that
the impairment was not "reasonable and necessary to serve an
important public purpose."

United Auto., Aerospace, Agric.

Implement Workers of America Int’l Union v. Fortuno, 633 F.3d
37, 45-47 (1st Cir. 2011).

However, the Fortuno court addressed

the matter in the initial pleading context, holding that
generalized allegations of illegitimate purpose and the
existence of other alternatives are insufficient to allege a
plausible claim that challenged legislation was not reasonable

14

Stating that it was the first court to analyze the issue in
detail.
18

and necessary to serve an important public purpose.

In sum, the

Court finds the burden of proof issue unresolved, at least for
courts outside the First Circuit.
In any event, the Court will assume that Plaintiffs have
the burden of proving that the impairment of their contract
rights by the Ordinance was not "reasonable and necessary to
serve an important public purpose."

As discussed herein,

Plaintiffs have carried that burden, if they had it.15

B.

Important Public Purpose

In determining whether a contractual impairment is aimed at
an important public purpose, courts look to see whether there is
a "significant and legitimate public purpose behind the
regulation, such as the remedying of a broad and general social

15

If required to predict the burden of proof allocation that
would be adopted by the appellate courts, the Court would find a
useful analogy in the McDonnell Douglas burden of proof scheme.
McDonnell Douglas Corp. v. Green, 411 U.S. 792 (1973).
Therefore, consistent with the First Circuit decision in
Fortuno, the Court would impose a threshold burden on a
plaintiff to plead (and ultimately to prove) facts sufficient to
create a prima facie case that an impairment was not reasonable
and necessary to serve an important public purpose. If the
plaintiff met this threshold burden, the burden would shift to
the governmental unit to plead (and ultimately, to provide
evidence to support) the position that the impairment was
"reasonable and necessary to serve an important public purpose."
Then, the ultimate burden would be on the plaintiff to disprove
the government unit's asserted basis for contending that the
impairment was "reasonable and necessary to serve an important
public purpose."
19

or economic problem."

Energy Reserves Grp., Inc. v. Kan. Power

& Light Co., 459 U.S. 400, 411-12 (1983) (citations omitted).
"[T]he public purpose need not be addressed to an emergency or
temporary situation. . . . The requirement of a legitimate
public purpose guarantees that the State is exercising its
police power, rather than providing a benefit to special
interests."

Id. at 412.

Ensuring the financial integrity of a

city is a significant public purpose.
F.3d at 1019.

Balt. Teachers Union, 6

Increasing "the actuarial soundness of a pension

system" is also an important public purpose.

Md. State Teachers

Ass’n v. Hughes, 594 F. Supp. 1353, 1368 (D. Md. 1984).
In the instant case, the restoration of actuarial soundness
and sustainability to the Plan served an important public
purpose, see Hughes, 594 F. Supp. at 1368, while ensuring the
financial integrity of the City, see Balt. Teachers Union, 6
F.3d at 1019.

At the time of the Ordinance’s passage, it had

become clear that the Plan’s statutory post-retirement
investment return assumption, which applied to the funds from
which the Variable Benefit was calculated, was not a realistic
reflection of the investment environment, in light of the fact
the Variable Benefit skimmed off most earnings above 7.5% in any
good year.

Adjusting this rate from 6.8% to 5% required a

dramatic and unaffordable increase of $64 million to the City’s
planned annual contribution to the Plan.
20

It is true that the "illogic" of the Variable Benefit
structure that allowed for "short-term windfalls to member
benefits with no real connection to inflation," PFM Report at
52, was not unforeseen by the legislature when it initially
adopted the Variable Benefit.

In 1983, upon signing the

legislation, then-Mayor William Donald Schaefer wrote:
I am very concerned with the cost that will
be shifted to the City taxpayer . . . . It
is unreasonable and wishful thinking to
believe that large sums of money can be set
aside for the variable benefit, without
increasing the cost of the pension system to
the City.
[O]ne of the more harmful provisions of the
ordinances requires that the funds allocated
for the variable benefit be segregated from
the rest of the assets of the retirement
system and provides that investment earnings
on the variable benefit fund, in excess of
6%, inure only to the benefit of the
variable benefit fund. . . . Therefore,
through the years, depending on the
investment performance and the aggregate of
the assets, the City will not get the
benefit of good investment years but will
incur the cost of bad years. . . .
However, despite all of the above concerns,
I am aware of the plight of many of our
retirees, and I am concerned for their wellbeing. Therefore, despite the cost and the
burdens those bills will place on future
budgets, I am signing both bills to give our
many retirees a much needed increase.

Letter from William Donald Schaefer to City Council, May 31,
1983 (appended to GBC Report).

21

Prior to passage of the 1983 legislation, the Plan
actuaries also expressed concern about the actuarial soundness
of the Variable Benefit provisions:
The use of the word "Variable" can be
misleading, however, because the benefit is
only variable upwards. Poor investment
results would not affect increases already
given and the City would be required to make
up any shortfall over time. . . . This
Variable Benefit concept is not a dominant
technique and in fact lacks a history of
success because it has not been widely used.

Letter from J. Delaney and T. Lowman to Plan Board, Mar. 8, 1983
(appended to GBC Report).
However, at least one unforeseen consequence of the
workings of the Variable Benefit feature became apparent in
early 2010.

At that time, the Pension Accumulation Fund had a

negative balance because of market losses, and an application of
the statutory formula16 would have required the City to allocate
more than 100 percent of the investment gains to fund the
Variable Benefit, an absurd result.

See Trial Tr. Feb. 2, 2012

at 208-10; City’s Post-Trial Br. [Document 155] 26-27.
Ultimately, the structure of the Variable Benefit feature,
coupled with the fact that the statutory post-retirement
investment return assumption of the Plan needed to be reduced

16

All gains between 7.5 and 10 percent and half of the gains
above 10 percent were multiplied by the ratio of the retirees’
assets to the sum of the retirees’ and active members’ assets.
22

from 6.8% to 5% to regain actuarial soundness, led to the
unintended consequence of destabilizing the Plan.
The fact that the risk of destabilization could have been,
perhaps should have been, unforeseen does not preclude the
conclusion that stabilization was an important public purpose.
See Hughes, 594 F. Supp. at 1368.
In sum, the Court finds that an important public purpose
would be served by an impairment of Plaintiffs' contract rights
under the Plan, and would be Constitutionally permissible if the
impairment was "reasonable and necessary."
Accordingly, the question presented is whether the
legislation at issue, the Ordinance which included the
elimination of the Variable Benefit feature and the substitution
of the Tiered COLA, was "reasonable and necessary."

See Energy

Reserves Grp., 459 U.S. at 412; Balt. Teachers Union, 6 F.3d at
1019.

C.

Reasonable and Necessary

There was an important public purpose to be served by the
restructuring of the Plan so as to restore it to actuarial
soundness and sustainability.

Hence, the City's impairment of

Plaintiffs contract rights, including their rights to the
Variable Benefit feature, could be Constitutionally valid if
"reasonable and necessary."

However, the City did not have
23

total freedom to disregard its contractual obligations
altogether.
The Plan provided all beneficiaries with equal inflation
protection by means of periodic benefit increases.

Thus, each

beneficiary had a significant contractual right to increases
resulting from the Variable Benefit feature.

The City, by means

of the Ordinance and its Tiered COLA system, chose to impair the
contact rights of some beneficiaries far more than others.
In Baltimore Teachers Union v. Mayor & City Council of
Baltimore, the Fourth Circuit held that courts must accord "at
least some deference to legislative policy decisions to modify"
public contracts.17

6 F.3d 1012, 1019 (4th Cir. 1993).

However,

the impairment of public contracts "must be more scrupulously
examined" than the impairment of private contracts, because
17

Further, the Court cautioned:
The Contract Clause, however, does not
require the courts—even where public
contracts have been impaired—to sit as
superlegislatures, determining, for example,
whether it would have been more appropriate
instead for Baltimore to close its schools
for a week, an option actually considered
but rejected, or to reduce funding to the
arts, as appellees argue should have been
done. Not only are we ill-equipped even to
consider the evidence that would be relevant
to such conflicting policy alternatives; we
have no objective standards against which to
assess the merit of the multitude of
alternatives.

Balt. Teachers Union, 6 F.3d at 1021-22.
24

"‘the State's self-interest is at stake.’"

Id. (citing Allied

Structural Steel Co. v. Spannaus, 438 U.S. 234, 244 & n. 15
(1978); quoting U.S. Trust Co. v. New Jersey, 431 U.S. 1, 26
(1977)).
In U.S. Trust Co., the Supreme Court instructed that
impairment of a prior contractual right is "reasonable" where
the contract "had effects that were unforeseen and unintended by
the legislature when originally adopted."

431 U.S. at 31; see

also Md. State Teachers Ass’n v. Hughes, 594 F. Supp. 1353, 1362
(D. Md. 1984).

"Necessity is to be judged on two levels: 1)

whether a less drastic modification could have been implemented;
and 2) whether, even without modification, the State could have
achieved its stated goals."

Hughes, 594 F. Supp. at 1362

(citing U.S. Trust Co., 431 U.S. at 29-30).
The Fourth Circuit has further addressed the appropriate
inquiry:
It is not enough to reason, as did the
district court, that "[t]he City could have
shifted the burden from another governmental
program," or that "it could have raised
taxes." . . . Were these the proper
criteria, no impairment of a governmental
contract could ever survive constitutional
scrutiny, for these courses are always open,
no matter how unwise they may be. Our task
is rather to ensure through the "necessity
and reasonableness" inquiry that states
neither "consider impairing the obligations
of [their] own contracts on a par with other
policy alternatives" or "impose a drastic
impairment when an evident and more moderate
25

course would serve its purposes equally
well," United States Trust, 431 U.S. at 30–
31, nor act unreasonably "in light of the
surrounding circumstances," id. at 31.
Balt. Teachers Union, 6 F.3d at 1019-20 (emphasis in original)
(some citations omitted).
In Baltimore Teachers Union, the City had implemented a
furlough plan under which it reduced the annual salaries of its
employees by .95% through deductions from five of their semimonthly paychecks.

Id. at 1014.

The Fourth Circuit concluded

that it was "satisfied" by Baltimore City’s actions:
Required by law to balance its budget, the
City took what we believe to be needed and
measured steps to absorb extraordinary
reductions in revenue. . . . the City did
not consider salary reductions on a par with
other policy choices. . . . Nor on such
facts as these can we conclude that the City
chose a drastic impairment over an equally
acceptable, more moderate course. . . .
Finally, the plan did not alter paydependent benefits, overtime pay, hourly
rates of pay, or the orientation of pay
scales. See United States Trust, 431 U.S.
at 27 ("The extent of impairment is
certainly a relevant factor in determining
its reasonableness."). In short, the City
clearly sought to tailor the plan as
narrowly as possible to meet its unforeseen
shortfalls.
Id. at 1020-21.
The Baltimore Teachers Union court also noted that "the
salary reductions were reasonable under the circumstances," in
part because "Baltimore’s plan did not narrowly target specific

26

classes of employees; it extended to all City employees."
at 1021.

Id.

In sum, "Baltimore’s plan was, as it must be, ‘upon

reasonable conditions and of a character appropriate to the
public purpose justifying its adoption.’"

Id. (citing U.S.

Trust Co., 431 U.S. at 22).
This Court, in Hughes, considered Maryland’s 1984 "Pension
Reform Act," which replaced a 1979 pension program that included
an unlimited COLA tied to inflation with four options, one that
retained unlimited COLA increases in exchange for additional
salary contributions.

See 594 F. Supp. at 1368.

Judge Miller

found that the contractual impairment was reasonable and
necessary because "the impairment to State employees or
teachers" was "minimal at worst," and corrected the unforeseen
and unintended effects of the 1979 plan – largely, that
"unpredictably high levels of inflation" prevented the 1979 plan
from financially stabilizing the pension system, as intended.
Id. at 1370-71.
While the City was justified in acting to stabilize the
actuarial footing of the Plan, the Ordinance scheme was not
"necessary," in the sense that the impairment far more
drastically impaired the contractual rights of some Plan members
than others while a perfectly evident, more moderate and even-

27

handed course would have served its purposes equally well.18

See

U.S. Trust Co., 431 U.S. at 30–31, Balt. Teachers Union, 6 F.3d
at 1019-20; Hughes, 594 F. Supp. at 1362.
As this Court stated in the Second Trial Decision:
The Ordinance's age-based COLA will
drastically impact a significant number of
members of the Entitled Group. For example,
of the approximately 6,000 members of the
Entitled Group, over 1,000 will have to wait
from 1 to 10 years to obtain a 1% COLA and
then will wait an additional 10 years to
obtain a 2% COLA. Indeed, 138 will have to
wait at least 15 years to get a 1% COLA and
at least a total of 25 years to get a 2%
COLA.
Second Trial Decision 34-35 (footnotes omitted).
The Court does not find that the total elimination of the
Variable Benefit, which provided an average of a 3% annual

18

It is worth noting that the impairment was also drastic for
the reason that the Variable Benefit increase for the year
ending June 31, 2010, would have been between 3.75% and 4.5%.
In the Second Trial Decision, the Court found that:
The parties’ expert witnesses agree that if
Ordinance 10-306 had not been enacted, there
would have been a Variable Benefit increase
for the fiscal year preceding the effective
date of Ordinance 10-306. Plaintiffs’
expert witness opined that the Variable
Benefit increase for that year would have
been between 3.75% and 4.5%. While the
precise amount may be subject to debate,
there is no doubt that the Ordinance caused
the loss of a significant, and permanent,
increase in the benefits paid to most
members of the Entitled Group.
Second Trial Decision 35-36 (footnotes omitted).
28

benefit increase for more than a decade for many members, is a
"minimal" impairment, see Hughes, 594 F. Supp. at 1368, or on
par with a one-time, .95% salary reduction, see Balt. Teachers
Union, 6 F.3d at 1014.
The City contends that it adopted the Tiered COLA intending
to utilize limited funds to provide the greatest benefit to the
"retirees and beneficiaries who were 65 years of age and older
and who were likely to depend principally on their pension for
their income."

See Trial Tr. Feb. 2, 2012 at 110-11.

Even if

this were true, it is not true that the elimination of the
Variable Benefit feature and the substitution of the Tiered COLA
had that effect.

Rather, the Tiered COLA had the pernicious

effect of eliminating and/or reducing annual increases from
retirees under 65 at the time of enactment and, consequently,
significantly reducing their pensions when they became 65, the
age at which they "were likely to depend principally on their
pension for their income."

In effect, the choice to use the

Tiered COLA instead of an equally applied COLA of something less
than 2%, takes substantially from beneficiaries under 65 years
of age on the effective date of the Ordinance to give more to
beneficiaries who were age 65 or more at that time.

29

Consider, for example, a police officer who retires at age
45 with a pension of $20,000 per year.

Under the Tiered COLA

system his pension would be $20,000 at age 55 (after ten years
at 0%) and approximately $22,000 at age 65 (after 10 years at
1%).

In comparison, an equally applicable COLA at a rate below

2%, indeed, even as low as 1%, would still yield this retiree a
pension at age 65 thousands of dollars higher than would the
Tiered COLA.

Moreover, due to the compounding effect, the

thousands of dollars Tiered COLA "deficit" in the retiree's
pension at age 65 will not only reduce his/her income at the
asserted time of greatest need, but also tend to perpetuate the
shortfall.
The Court is mindful that its role is not to "sit as [a]
superlegislature[], determining, for example, whether it would
have been more appropriate instead for Baltimore to close its
schools for a week . . . or to reduce funding to the arts."
Balt. Teachers Union, 6 F.3d at 1021-22.

The Court is satisfied

that it was reasonable for the City to enact legislation to
stabilize the Plan by impairing the Variable Benefit.

The Court

defers to the legislature’s decision to impair its contract with
Plaintiffs rather than shift the burden to other government
programs or raise taxes.

See id. at 1019-20.

However, in enacting the Ordinance, the City "impose[d] a
drastic impairment when an evident and more moderate course
30

would [have] serve[d] its purposes equally well."

U.S. Trust

Co., 431 U.S. at 30–31.
The Tiered COLA "narrowly target[s] [a] specific class[] of
employees," Balt. Teachers Union, 6 F.3d at 1021, by drastically
reducing the annual post-retirement benefit increases of all
younger beneficiaries from an average of 3% to either 0% or 1%
on an ongoing basis, and in such a way that essentially
guarantees that inflation will significantly erode the younger
retirees’ retirement benefit by the time they reach the age of
65.
The City did not need to adopt a Tiered COLA that treats
Plan beneficiaries differently according to their age and thus
impairs the contract rights of some far more severely than
others.
The City may well have been able to, indeed should have
been able to, enact an Ordinance that accomplished the desired
important public purpose without the unnecessarily
discriminatory effect of the Tiered COLA.

For example, it could

have provided an annual COLA for all beneficiaries, albeit at a
rate less than 2%.
The Unions proposed a 2% COLA for all Plan beneficiaries.
See GBC Report at 18; Union Proposal at 6; Tr. City Council June
21, 2010 at 7.

Plaintiffs have not proven that a 2% COLA would

adequately serve the important public purpose of restoring
31

actuarial soundness to the Plan, while "tailor[ing] the plan as
narrowly as possible to meet its unforeseen shortfalls."
Teachers Union, 6 F.3d at 1021.

Balt.

However, there has been

testimony by the Unions’ actuary that, at one time, prior to the
market losses of 2008-2009, "the Plan actuary at some point had
given indications that a 1.88% COLA would be cost neutral."

Tr.

City Council June 10, 2010 at 63, 110; see also Trial Tr. Feb.
2, 2012 at 221-23.

The Court has also heard testimony that the

City could have provided a 1.5% COLA with an added "kicker,"
similar to the post-retirement provisions of the City’s Employee
Retirement System.

See Trial Tr. Feb. 2, 2012 at 107, 193-94.

The Court cannot rewrite the Ordinance and does not suggest
that an equally-applied annual COLA would be the only contract
impairment that would be "reasonable and necessary."

However,

in 2010, the City Council only considered the Tiered COLA and
the Unions’ 2% COLA proposals – it did not seek to modify the
Unions’ proposal in a way that would provide a COLA that applied
equally to all beneficiaries, that was tailored as narrowly as
possible to meet the funding shortfalls, and that would restore
actuarial soundness to the plan, as it should have.

See Balt.

Teachers Union, 6 F.3d at 1020-21.
Accordingly, the Court finds that the Ordinance, by virtue
of the elimination of the Variable Benefit feature and the

32

"substitution" of the Tiered COLA,19 was not reasonable and
necessary to serve an important public purpose.

V.

CONCLUSION
For the reasons set forth herein, the Court finds that the

Ordinance is an unconstitutional impairment of the rights of
members of the Entitled and Eligible Groups to the Variable
Benefit feature.

SO DECIDED, this Thursday, September 20, 2012.

/s/__________
Marvin J. Garbis
United States District Judge

19

There are aspects of the Ordinance that the Court would –
if it could - find reasonable and necessary. For example, the
substitution of the City's credit for the funds set aside for
payment of Variable Benefit increases appears, on its own, to be
reasonable and necessary. However, the parties have emphasized
that the Court must treat the Ordinance as unseverable.
33