What Governing Boards Need to Know About CalPERS UAL

The Two Bills

Every public agency with a CalPERS pension plan receives two obligations each year. The first is the normal cost: the annual expense of benefits being earned right now by active employees. It moves with payroll. It is predictable. It is, in a meaningful sense, the cost of having a workforce today.

The second is the UAL payment: an installment on an accumulated debt balance that has been building, with interest, for years. It is not connected to current payroll. It does not shrink automatically. And it competes directly with every other claim on the agency's budget.

Most governing boards see the combined pension cost line in the budget. Fewer understand how these two obligations differ, how the second one grows, and what tools exist to manage it. That distinction has become increasingly consequential. For many California fire agencies and small cities, the UAL payment has grown from less than a third of total pension cost a decade ago to more than half today. That shift is structural, not temporary.

Normal Cost vs. UAL: Two Different Problems

Understanding the difference between these two obligations is the starting point for any meaningful board-level pension governance.

The UAL is not an accounting abstraction. It is real debt, owed to CalPERS, accruing at a rate that exceeds what most public agencies earn on their reserves. Treating it as a routine operating expense rather than a managed obligation is one of the most common and costly governance errors in California local government.

How UAL Grows: Interest, Ramp-Up, and Negative Amortization

A UAL balance does not sit still. At the current CalPERS discount rate of 6.8%, a $1.7 million UAL principal becomes a $2.7 million total obligation once accrued interest is included. For a small district over an eleven-year period, interest costs alone can exceed $900,000 on a modest plan. Those are not future projections. They are the compounding cost of deferring action that was available.

The ramp-up problem makes this worse. When CalPERS adds new UAL amortization bases, whether from investment underperformance, actuarial assumption changes, or benefit modifications, it phases them in gradually over a five-year period. This approach cushions the near-term budget impact. The cost is that it creates negative amortization in the early years: payments that do not fully cover interest, allowing the principal balance to grow rather than shrink.

An agency that accepts CalPERS's default ramp-up schedule is agreeing to pay more interest over time in exchange for lower bills today. That may be the right tradeoff in some circumstances. But it should be a deliberate decision, not a default. Requesting flat payments (no ramp-up) from CalPERS's actuary is an option most agencies do not know to ask for.

An agency that accepts the default ramp-up schedule is financing its pension obligation on CalPERS's terms rather than its own. That is a choice. It should be made consciously.

The Investment Risk Is Yours, Not CalPERS's

CalPERS manages the pension assets. The investment risk belongs to the agency.

If CalPERS earns more than its assumed 6.8% return in a given year, the funded ratio improves and future UAL obligations may decline. If CalPERS earns less, the shortfall grows and the agency's bills go up. The agency has no role in portfolio management decisions, and no ability to renegotiate the benefit guarantees made to employees and retirees. CalPERS's historical returns have generally tracked close to the assumed rate over long periods (7.2% over 10 years, 6.5% over 25 years as of 2024-25), but year-to-year variation is significant and material.

A single year of below-target returns creates a new UAL amortization base that adds to the agency's long-term payment schedule. That volatility is structural, not exceptional. It is one of the clearest reasons why reactive pension management is always more expensive than proactive management.

What the Funded Ratio Tells You (and What It Does Not)

The funded ratio, the market value of assets divided by the total accrued liability, is the most commonly cited measure of pension health. A plan at 77% funded is often described as “underfunded by 23%.” That framing is technically correct and analytically incomplete.

Boards that track the funded ratio as the primary governance metric are monitoring a lagging indicator. By the time the funded ratio deteriorates meaningfully, the interest costs have already accumulated. The useful signal is the trajectory, the total cost, and the strategy.

The Five Levers

Governing boards have more tools than they typically use. The range of options extends from straightforward, annually available steps to more complex structural strategies. A well-designed policy framework will specify when and how each tool gets evaluated.

Each of these tools is fundamentally a time value of money exercise. The economic case for any of them rests on rate differentials and actuarial assumptions, not guaranteed outcomes. That does not make them less useful. It means they require honest analysis before they are characterized as savings.

Three Ways to Think About the Problem

These five tools map to three distinct management approaches. Most agencies should be pursuing all three simultaneously, at different levels of priority based on their funding status, reserve position, and budget flexibility.

The 115 Trust: Building a Buffer

A Section 115 trust, commonly called a Pension Rate Stabilization Fund, allows public agencies to hold pension reserves outside the general fund in a tax-advantaged, irrevocable structure. It serves two related purposes: a reactive buffer against CalPERS volatility, and a proactive vehicle for building toward full funding above the policy threshold.

Below the 85% funding objective, the agency directs available resources to CalPERS as ADPs, working to close the gap. Once the funded ratio reaches 85%, the policy does not stop. Contributions shift into the 115 Trust rather than going directly to CalPERS. The trust invests those funds, earns returns independently, and accumulates assets that can be deployed when CalPERS adds new liability bases or the funded ratio falls. The agency is always building, not simply holding position.

When the trust balance, combined with CalPERS assets, approaches or exceeds full funding, the accumulated resources can be used to offset normal cost payments, further reducing the agency's annual pension burden. The practical effect is that an agency with a well-funded 115 Trust has significantly more flexibility in how it manages CalPERS cost volatility year to year.

The trust also has a governance benefit. It makes the pension reserve visible, trackable, and policy-directed, rather than embedded in the general fund where it is subject to competing budget pressures. A board that knows how much is in the trust, what it earns, and under what conditions it gets deployed is governing the obligation rather than absorbing it.

Why a Written Policy Framework Matters

Pension management without a written policy is, in practice, no management at all. When agencies respond to pension costs reactively, making ADPs in good years, skipping them in bad ones, treating the annual invoice as a fixed line item, they forfeit the compound benefit of proactive action and accumulate higher interest costs than a disciplined strategy would impose.

A formal Pension Management Policy does several things beyond stating a target:

It establishes a funding level objective the board can measure against and communicate clearly to the public and rating agencies. It creates a decision framework for annual budget choices: when to make ADPs, when to build the stabilization fund, when to consider structural options. It signals to capital markets that the agency is managing its obligations with intention. And it creates continuity across administrations. When a new finance director or board member arrives, the policy exists independent of any individual's institutional memory.

Best practices call for setting a funding level objective of 85%. That threshold is high enough to demonstrate credible management and signal fiscal discipline to rating agencies, but it avoids chasing 100% through direct CalPERS payments in ways that could result in superfunding risk if CalPERS has a strong investment year.

Critically, 85% is a floor, not a ceiling. A well-structured policy does not stop investing once that threshold is reached. Instead, it redirects contributions above 85% into the Section 115 Trust, continuing to build assets proactively toward full funding through the trust rather than directly through CalPERS. The trust grows independently, earns investment returns, and can be deployed as ADPs when CalPERS adds new liability bases or the funded ratio dips. The result is a two-stage framework: pay down aggressively to 85%, then invest proactively above it so the agency is always building rather than simply maintaining.

A complete policy pairs that structure with annual prepayment requirements, a payroll-based contribution schedule, and a mandate to review the actuarial valuation every year rather than only when costs change.

What Boards Should Be Asking

Boards that want to govern their pension obligations, rather than simply receive actuarial updates, should be asking the following questions as part of their regular oversight cycle.

The Governance Takeaway

CalPERS UAL will not resolve itself. The funded ratio is a lagging indicator. The UAL is real debt, accruing at 6.8% annually, and it competes directly with capital needs, service delivery, and workforce sustainability for the same limited budget dollars.

Boards that treat pension cost as a finance department line item, reviewed once a year at budget time, are not governing the obligation. They are financing it on CalPERS's default terms.

A proactive stance starts with understanding: what you owe, what it is costing you, what tools you have, and what a credible management strategy looks like for your agency. That understanding should be reflected in a written policy, an annual decision process, and a board that treats the UAL as a governance responsibility, not an actuarial abstraction.

The tools exist. The question is whether the board is using them.