Interim Joint Committee on State Government


Minutes of the<MeetNo1> 2nd Meeting

of the 2007 Interim


<MeetMDY1> July 25, 2007


The<MeetNo2> second meeting of the Interim Joint Committee on State Government was held on<Day> Wednesday,<MeetMDY2> July 25, 2007, at<MeetTime> 1:00 PM, in<Room> Room 154 of the Capitol Annex. Representative Mike Cherry, Co-Chair, called the meeting to order, and the secretary called the roll.


Present were:


Members:<Members> Senator Damon Thayer, Co-Chair; Representative Mike Cherry, Co-Chair; Senators Julian Carroll, Carroll Gibson, Ernie Harris, Alice Forgy Kerr, and Elizabeth Tori; Representatives Eddie Ballard, Sheldon Baugh, Carolyn Belcher, Dwight Butler, Leslie Combs, Tim Couch, Danny Ford, Jim Glenn, Derrick Graham, J. R. Gray, Jimmy Higdon, Jimmie Lee, Mary Lou Marzian, Lonnie Napier, Darryl Owens, Tanya Pullin, Tom Riner, Carl Rollins II, Dottie Sims, John Will Stacy, Kathy Stein, Tommy Thompson, John Tilley, Jim Wayne, Rob Wilkey, and Brent Yonts.


Guests:  Brian Crall, Personnel Cabinet; Brad Cowgill, Office of State Budget Director; Mark Birdwhistell, Cabinet for Health & Family Services; Mike Burnside, Jim Abbott, and John May - Finance & Administration Cabinet; and Catherine York, Commerce Cabinet.


LRC Staff:  Joyce Crofts, Brad Gross, Alisha Miller, Karen Powell, Stewart Willis, and Peggy Sciantarelli.


The minutes of the June 27 meeting were approved, without objection. Next on the agenda was a status report on the Blue Ribbon Commission on Public Employees Retirement Systems. The report was presented by Brian Crall, Secretary of the Personnel Cabinet and new Chair of the Commission; Brad Cowgill, State Budget Director; and Mark Birdwhistell, Secretary, Cabinet for Health & Family Services.


In opening remarks, Secretary Crall said that the Commission has met several times, primarily to learn what is being offered through the various retirement systems. He said that the Commission has also been trying to contract with consultants to help address legal, actuarial, and benefit design questions. Once the consultants are on board and the foundation is laid, the plan is to expedite the process and commence more robust discussion among the members.


Secretary Birdwhistell, chair of the Health Insurance Working Group, said they have had two meetings which he would characterize as learning meetings—to provide a more comprehensive understanding of the health benefits of each of the retirement systems. One meeting also included a presentation on the Medicare Modernization Act, since there is a relationship between the Medicare program and the retirement systems. He went on to say that the working group is focusing on configuration, benefits, and administration of all the retirement plans, as well as changes made to the plans in recent years. The administrative platform may be an area for possible change early on. The group will meet next on August 3 to hear from representatives of the Personnel Cabinet and the Health & Family Services Cabinet regarding benefits of the Kentucky employee health plan. This will complete the working group's review and provide a side-by-side comparison of benefits and administration of the retirement systems so that common concerns can be identified. Also, the benefits consultant will be hired by that time, and comparisons can be made to other states' systems.


Mr. Cowgill said he is chairing the Funding Liabilities Working Group, which is studying how to fulfill existing obligations to retirees and current employees. He said their first responsibility was to determine the volume of the obligations and how they have been actuarially calculated. It is also their intent to study the inviolable contract in the weeks ahead. He added that the actuaries for Kentucky Retirement Systems and Kentucky Teachers Retirement System have been very helpful. Mr. Cowgill went on to say that $28 billion is the figure that is said to represent the difference between accrued actuarial liability—as determined by the new GASB (Governmental Accounting Standards Board) standards—and the actuarial value of the assets of the retirement systems. The actuaries were asked to calculate how much of that figure represents conditions that will occur in the future—e.g., increased health care costs and the employer's share of those costs. The actuaries found that a significant portion of the $28 billion figure represents things that will occur in the future. The Funding Liabilities Working Group has also studied employment patterns. At the next meeting they will begin to probe various options available to the Commonwealth, beginning with pension obligation bonds. Several members of the Blue Ribbon Commission recently met with rating agencies and investment bankers on Wall Street to seek their advice. The trip was very productive, and information from that meeting will be available later. (Note: Mr. Cowgill brought a PowerPoint presentation but did not use it because of a temporary problem with the computer system.)


Secretary Crall, chair of the Pensions Working Group, said they have undertaken to have the two systems—Kentucky Retirement Systems and the Kentucky Teachers Retirement System—explain the retirement benefits they currently offer and how those benefits compare to benefits available in surrounding states and nationally. He said that what they have found to date is that in Kentucky benefits are on the "richer" side, due largely to the inviolable contract, the provision of health insurance benefits, and the fact that employees can become eligible earlier for full retirement benefits. Through the ability to purchase service and the addition of sick leave service credit, an employee could conceivably retire at age 41 with full retirement and health insurance benefits. The working group will be examining policy relating to age and service credit requirements for attaining full benefits. The working group plans to meet in mid-August with the actuarial and benefits consultants and in early September to discuss issues relating to the inviolable contract.


Representative Cherry agreed that it is important to have a full understanding of the inviolable contract but said he believes that most legislators do not view it as the primary focus of the Commission. They do not intend to do anything to adversely affect employees currently covered by the inviolable contract, and they trust that the Commission is not headed in that direction. Regarding the inviolable contract, Secretary Crall said there does not appear to be any will on the part of the administration or the legislature to tinker with something everyone understands. He said the bigger question relates to the health insurance costs, which are driving the bulk of the unfunded liability. He went on to say, however, that the level of health insurance benefits provided under the inviolable contract is the subject of great dispute. One area subject to control is the management of the overall composition of the plan, so as to mitigate the cost trend while protecting employee benefits as much as possible—in a way that is sustainable both for the taxpayer and the employee.


Representative Cherry asked about the Commission's discussion of issues affecting the County Employees Retirement System (CERS). Secretary Crall said it is fairly safe to say that there is no simple solution. He said that health insurance is driving the liability, especially in CERS. He said that even though CERS entities have been contributing at the annually recommended actuarial rate, they are still facing significant increases in their contributions, driven largely by demographics and insurance costs. He said this emphasizes the importance of addressing the insurance question—and the earlier, the better.


Senator Carroll said that most legislators are interested in maintaining current health benefits for employees. He said that prior to returning to the General Assembly he was part of a study group that looked at the health insurance issue, and he concluded that the only answer to reducing health care costs is to dramatically change the way the benefits are used—that is, through wellness. He said it is imperative to begin looking at utilization of benefits through a wellness program. He noted that Kentucky had been averaging 23 prescriptions per Medicaid recipient annually, while the national average is 12, which indicates there is tremendous room for improvement. He asked Mr. Birdwhistell what consideration his working group is giving to a dramatic change in utilization of benefits. Secretary Birdwhistell said they have not reached the point of determining solutions, but he agreed that they should focus on utilization and wellness. He pointed out that the average number of prescriptions per person in the Medicaid population has now dropped to 3.6. He said they are trying to ascertain how all the various plans and benefits are configured and administered, in order to know where improvements can be made in order to address utilization and focus on wellness. He said he believes they will be able to take advantage of wellness initiatives currently underway for both the state employee and Medicaid populations.


Senator Carroll questioned why the current—not the long-term—liability of the state retirement systems, which is costing about nine percent per year, is not being taken care of, since it could probably be funded at about six percent. He asked Mr. Cowgill whether his working group is looking at that issue. Mr. Cowgill said it should be kept in mind that the valuations of the retirement systems that were made as of June 30, 2006, were unlike any previous valuation. He explained that three elements of an accounting nature occurred at the same time that had a "smoothing" effect. When the actuaries looked at the investment portfolio they realized that it could change overnight as the result of valuations on Wall Street. The value of all the portfolios—not only in Kentucky but also around the country—"took a dive" after the 9/11 tragedy. Given the five-year smoothing technique, 20 percent of that loss has been recognized each of the five years since then, so that by June 30, 2006, 100 percent of the loss that was experienced by the portfolio in the period following 9/11 has been recognized. Such traumatic change at one time from an accounting perspective had the effect of making the unfunded liability "rocket upward" virtually overnight. The figures are meaningful, but to formulate a plan that will withstand the test of time will require analysis of what is going on behind some of the numbers in order to determine the best way to proceed. There is no doubt that a larger employer contribution will be necessary from a budget perspective in order to meet existing obligations. Mr. Cowgill said he predicts that the real answer is not one answer but multiple answers; also, if there is a solution to the problem being considered by his working group, it will be in the nature of annual discipline and regular attention to fulfilling the commitment. Senator Carroll asked whether it would not be a good decision to borrow money at six percent, rather than pay at nine percent. Mr. Cowgill said he thinks that idea has a great deal of possibility and is one of the things that the Commission will be considering.


Secretary Crall said there is a lot of discussion among commission members about an infusion of capital to address the liabilities and that the matter was brought up today in a meeting with the actuaries. He explained that even if a large amount of money were to be infused into the system now—for example, to address the CERS problem—it would not necessarily change the calculation for the contribution rate for those entities. The actuary indicated that changing the discount rate, however, would change the liability and then reduce the contribution. With a mechanism for funding the liability and a recommendation to appropriate the full annual recommended amount, the actuaries would feel comfortable in revisiting the discount rate. Secretary Crall then went on to comment about what needs to be done to promote wellness and proper utilization of health care in Kentucky.


Representative Marzian said that insurance companies are sometimes unwilling to cover certain preventive services. She said she hopes the Commission will explore all options, including universal health care and single-payer health plans, which could help solve wellness problems. Secretary Crall pointed out that the Commonwealth is, in effect, a single payer for the state employee health plan and the Medicaid population but that, in terms of covering the entire state population, universal or single-payer health coverage would be outside the scope of the Commission. He suggested that for Kentucky—one of the states with a least healthy population—to singly tackle the issue of universal health care would be a daunting task and might not be fiscally prudent. He said that the topic and its potential advantages are, however, "on the radar." He agreed on the importance of wellness and pointed out that because the Commonwealth's health insurance program is self-funded, it has the advantage of choosing to provide coverage for preventive services and wellness programs.


Senator Gibson said his constituents are very concerned about the low entrance salary of some state positions. He asked whether any future benefit reductions might be offset by salary increases. Secretary Crall said that the Commission is looking at that. He said that if the benefits for prospective employees should happen to be structured so that they are reduced to some extent, a case could be made for applying some of the savings toward salaries, since the provision of benefits and their sustainability must be balanced with the ability to attract quality employees. He noted, however, that the average hourly wage for full-time, merit employees is $18.87, which exceeds the average hourly wage in the private sector for the Louisville and Lexington metro service areas and in most Kentucky counties. He said that the ultimate question for policymakers will be how to structure retirement benefits prospectively and calibrate those with salaries so that they are sustainable and can attract quality employees.


Representative Cherry thanked the speakers. Next on the agenda was review of Executive Order 2007-502, reorganizing the Finance & Administration Cabinet. Present from the Cabinet were Mike Burnside, Deputy Secretary, and John May, Commissioner of the Department of Revenue. Representative Cherry noted that Mr. Burnside has been appointed Secretary of the Cabinet [effective July 31].


Representative Cherry explained that legislation to ratify this reorganization had not yet been passed by the General Assembly. Mr. Burnside said that the reorganization is basically the same as the one introduced in the 2007 legislative session, except that two branches in the Office of Material and Procurement Services were elevated to division level.


Representative Stein questioned why one of the "whereas" clauses in the executive order states that the Department of Revenue is in need of a unit to investigate and prosecute alleged violations of the revenue and tax laws. She noted that such prosecutions are usually handled by commonwealth attorneys. Mr. Burnside explained that the Revenue Cabinet previously had a Special Investigations division that was abolished about 10 years ago; the whereas clause simply authorizes reinstatement of that unit. Mr. May said that the Department of Revenue does not prosecute those cases but refers them to the commonwealth attorneys. Later in the meeting Representative Graham asked about the whereas clause, pointing out that the words "and prosecute" imply that the Department does prosecute taxpayers. Mr. Burnside reaffirmed that the Cabinet does not handle prosecutions. He said that they would look at amending that language to say "and refer for prosecution." Upon further questioning by Representative Marzian, Mr. Burnside said that since the Special Investigations Division was reinstated approximately two years ago, it has operated successfully. Mr. May said the division has five employees and that its director is a 31-year career employee.


Representative Stein asked about the standard for confidentiality of tax returns. Mr. May replied that confidentiality is strict. Representative Stein said she was surprised when about three years ago on August 15—the extension deadline for state tax filing—someone in the Department of Revenue called her to say they were concerned that she had not yet filed. Representative Stein noted that she had mailed the return on time but that it had not yet arrived in Frankfort at the time of the phone call. She asked whether it was proper for her to have received such a call. Mr. May said he could not speak to that specific incident but assured her that the Department has in place the utmost confidentiality parameters to protect all citizens' tax returns. Mr. Burnside said that there are employees who are responsible for checking on extensions and that the phone call may have been routine. He said he would investigate the matter and would also be happy to provide Representative Stein with a copy of all the confidentiality statements that employees are required to sign.


Representative Belcher noted that Section XIV of the executive order abolishes the Office of Taxpayer Ombudsman and transfers its duties to the Commissioner's Office. She said the Ombudsman's office can be very helpful to taxpayers, and she asked whether a specific person is now designated as ombudsman. Mr. May said that there are still individual employees who personally handle inquiries from taxpayers.


Representative Cherry said that the Committee is only reviewing the executive order and that a vote is not required. He also pointed out that the whereas clauses in the executive order would not be codified if the reorganization is ratified by the General Assembly. Representative Stein said that, even so, the whereas clauses indicate the philosophy behind the reorganization and that she would vote disapproval if a vote had to be taken. Discussion concluded, and Representative Cherry thanked the speakers.


Next on the agenda was review of Executive Order 2007-500, reorganizing the Personnel Cabinet. Secretary Crall noted that this reorganization had not yet been ratified by the General Assembly. He went on to say that there are two primary differences from the two previous versions of the executive order. In response to suggestions by Representative Graham and Senator Carroll and others, the Office for Employee and Organizational Development was restored to its original name, Office of Governmental Services Center. The other change is the creation of the Office of Inspector General, pursuant to the Secretary of Personnel's statutory duty to investigate all matters relating to enforcement of KRS Chapter 18A. This Office will also relieve the workload of the Office of Legal Services, which had formerly been handling investigative requests. The Cabinet's internal auditor has also been reassigned to that Office. There were no questions and Representative Cherry thanked Secretary Crall.


The next topic for discussion was private development on public property, an issue referred to the Committee by the Capital Projects and Bond Oversight Committee. Representative Cherry said that the purpose of today's discussion is to determine whether there is a need for legislation on this issue. Guest speakers were Jim Abbott, Commissioner of the Department for Facilities and Support Services, Finance & Administration Cabinet; and—representing the Department of Parks—Catherine York, Deputy General Counsel, Commerce Cabinet.


Mr. Abbott began by explaining a handout he provided to the Committee. It stated the statutory or other legal basis for the Department of Parks to issue a ground lease to a private entity and included a list of recent and past project activity for the Department of Parks. He explained that the boilerplate language in the RFPs (Request for Proposal) has been in place for a number of years and that the Cabinet uses the same information and basis of awards in current RFPs that has historically been used over the years.


Representative Baugh asked what happens when a bid receives no response. Mr. Abbott said that they usually review the project with the administering agency and interested parties to determine whether changes are needed in the original solicitation that might bring a positive response to the RFP. If there is not anything that can be done to enhance the RFP, most likely the project would be put on hold. He noted that the RFP for the Burnside lodge project is the fourth. He said that times change and interest in projects change. Sometimes solicitations are successful, and sometimes they are not.


Representative Baugh asked about notification procedures. He said he knows of parties who had an interest in cottages and a marina at Lake Malone but did not realize the project had been put up for bid, even though they routinely check the Internet and local newspapers. Mr. Abbott said that they advertise through their web site and various publications across the state and that he does not know why the parties were unaware of the bid solicitation. He said he would check for Representative Baugh to see which publications were used for the notification.


Representative Cherry said he would hope that today's discussion will focus more on the process than on individual projects. He noted that the statutes referred to in the handout seem to deal only with the sale or disposal, and not leasing, of property. Ms. York explained that the language "including any interest in real property" would cover a leasehold.


Representative Wayne said he wants to compliment Mr. Abbott publicly for being a true professional. He then asked whether the handout provided to the Committee is a complete list of all active projects. Mr. Abbott said that the listing is complete for Parks-related projects handled by his department but does not include all RFPs and RFIs being issued on behalf of other cabinets. He said that the request he received was to focus his presentation primarily on Parks. He noted that one project not handled by his department is omitted from the list but that he could provide that information to the Committee.


Representative Wayne asked who has ownership of the facilities at the end of the lease term. Mr. Abbott said that the asset would transfer to the Commonwealth. A marina, however, which is moveable, would remain with the marina operator. Representative Wayne asks who monitors private development for compliance with lease terms and rental payments. Mr. Abbott said that is the responsibility of the administering agency and that, to his knowledge, no issues have ever arisen relative to compensation that is due the Commonwealth. Representative Wayne asked what occurs if the private developer cannot sustain management quality or defaults on other lease terms. Mr. Abbott said that if the operator is found in default, any lienholder for the asset has the opportunity to offer a different operator, which can then be reviewed and accepted or rejected by the Commonwealth. If there is not a lienholder, the Commonwealth has the opportunity to take over the assets of that operation.


Representative Wayne questioned how the facilities can avoid prevailing wage requirements when they are built on ground leases executed by the state, constructed to state specifications under state supervision, and appear to the public as if they are part of the state parks system. Ms. York said that the Department of Labor is probably better able to answer that question. She went on to say, though, that the Department of Labor has advised the Finance & Administration Cabinet that if state funds are involved, prevailing wage would apply; if there is no state funding involved and the state is not intimately involved in running the operation, prevailing wage requirements would not apply. Mr. Abbott said that, historically, it has not been the directive of his office to request that vendors who are awarded contracts must build in accordance with prevailing wage. Representative Wayne said he understands that the Cabinet is probably trying to do something positive but that he feels they are standing on nebulous legal ground. He said the information given today is helpful and indicates that the General Assembly may need to clarify the statute in order to give the Cabinet a clear directive on how to continue its leasing policy properly and legally. He also said he thinks the opinion from the Department of Labor is "cloudy" and probably open to challenge.


Representative Cherry stressed that the discussion today is not intended to be adversarial. He invited Mr. Abbott and members of the Committee to offer their recommendations for statutory change.


Representative Pullin complimented Mr. Abbott and Nancy Brownlee [employee of the Finance & Administration Cabinet present in the audience] for their exemplary work. She noted that the privatization statute often applies to services or activities instead of specific buildings, and she asked Mr. Abbott and staff to suggest ways to clarify existing statutes during the 2008 legislative session.


Representative Lee referred to the project listed for Eastern State Hospital, which he said involves a significant amount of money. He expressed concern about the possibility of support services being suspended by the courts in the event of default by a private developer. He asked Mr. Abbott whether he believes existing statutes are adequate to cover such a situation. Mr. Abbott said that, historically, the boilerplate language of the contracts has served the Commonwealth well and that, to his knowledge, current statutes would provide adequate protection. Ms. York said she had not seen the Eastern State Hospital contract but that the contracts she has seen provide a mechanism for the state to take control if necessary.


Senator Thayer asked whether it saves the taxpayers money when private developers are used for construction projects on public property. Mr. Abbott said that the answer would be yes, in his opinion, although the state is service-driven rather than profit-driven. He added that the state's role is to ensure that the state receives the compensation it is due and that the public is served by the operation of the facility. Ms. York added that administrative costs would likely be much less than the millions involved in constructing the facilities, at the very least.


Senator Tori said it appears that the trend is increasing for private developers to construct major projects on state property. Mr. Abbott said that the Cabinet has certainly expressed an interest on behalf of the Department of Parks to allow private developers the opportunity to build. She asked whether it is true then that the state is encouraging this practice. Mr. Abbott said that the Commonwealth has listened both to the public and to private developers in bringing the projects forward. If given the opportunity to award financially viable contracts to private developers, the Commonwealth would move forward with that opportunity. He said that, hopefully, the Cabinet is fulfilling its role in looking at other ways to fund projects, as opposed to seeking funds from the legislature. Senator Tori said that she, too, is concerned about wage requirements for private developers. She requested that the State Government Committee take a good look at the wage issue for possible clarification of the statute, since she believes this issue will continue to come up.


Representative Cherry said that it is his hope that the Committee will delve further into the issues discussed today, and he invited Mr. Abbott to work with staff to assess the need for possible legislation. There were no further questions, and Representative Cherry thanked Mr. Abbott and Ms. York.


The final item on the agenda was a subcommittee report by Senator Thayer for the Task Force on Elections, Constitutional Amendments, & Intergovernmental Affairs. The Committee accepted the report without objection. Business concluded, and the meeting was adjourned at 2:50 p.m.