Legal Complexities Limit State Pension Reform

June 5, 2013 - National Center for Policy Analysis

For a wide variety of reasons, many states and municipalities are turning a critical eye toward their employee retirement plans. As various parties debate the merits of different reform measures, it is important to keep in mind that in many states the law limits potential reform options, says Amy Monahan, a professor and the Solly Robbins Distinguished Research Fellow at the University of Minnesota Law School.

The legal protections that apply to state employee pension benefits are a matter of state, not federal, law. As a result, no simple answer to the question of what changes to public pension plans are permissible exists. Rather, the unique law of each state must be examined to determine what is and is not permissible. In the early 1900s, when many courts first considered the issue of whether or to what extent public pension benefits were legally protected against change, the legal consensus was that such benefits were entitled to no protection whatsoever.

The ability of state legislatures to make changes to the pension benefits of current employees varies dramatically by state. One distinction among state approaches to protecting the pension benefits of current employees is whether the state follows a property- or contract-based approach.

Property Approach. To the extent that an employee's rights in a public pension plan are considered property, those rights are protected under the 5th and 14th Amendments to the U.S. Constitution from deprivation without due process of law. In addition, the 5th Amendment prohibits the taking of property without just compensation.
Contract Approach. In many states, an employee's right to public pension benefits is considered contractual, and therefore is protected against substantial impairment under both state and federal constitutions. This protection is provided by the Contract Clause of the U.S. Constitution, which states, "No State shall . . . pass any . . . Law impairing the Obligation of Contracts." Most state constitutions contain substantially similar language.

Predicting the legal success of public pension plan changes is difficult at best. The uncertainty arises in large part because protections are determined at the individual state level, generally through judicial decisions that can turn on the very particular facts of a case.

Source: Amy Monahan, "Understanding the Legal Limits on Public Pension Reform," American Enterprise Institute, May 2013.