The California pension crisis is the widening gap between what the state’s public retirement systems have promised to pay current and future retirees and the money they actually hold to pay it. CalPERS, the largest fund, held $563 billion in assets as of mid-2025 but was only 79% funded, meaning roughly one dollar in five that it owes is backed by nothing more than a promise that taxpayers will cover the difference.1CalPERS. CalPERS Announces Preliminary 11.6% Return for 2024-25 Fiscal Year Multiplied across CalSTRS, twenty county systems, and more than 100 additional local plans, the shortfall forces state and local governments to spend growing shares of their budgets on pension debt instead of schools, roads, and public safety.
How Big Is the Shortfall
Two figures describe the health of any pension fund. The funded ratio shows what share of promised benefits the fund can cover with current assets and expected future contributions. CalPERS reached 79% as of mid-2025, up from about 75% a year earlier after an 11.6% investment return.1CalPERS. CalPERS Announces Preliminary 11.6% Return for 2024-25 Fiscal Year CalSTRS, which covers public school teachers and community college educators, stood at 76.7% as of June 30, 2024.2CalSTRS. 2025 Summary Report to Members
The unfunded liability is the dollar version of the same story. CalPERS reported an estimated $168 billion unfunded actuarial liability as of June 30, 2024. Strong markets since then have likely reduced that number, but it remains enormous.
Both figures move with a single assumption: the discount rate, the long-term annual investment return the fund expects to earn. CalPERS currently uses 6.8%, down from 7.5% a decade ago.1CalPERS. CalPERS Announces Preliminary 11.6% Return for 2024-25 Fiscal Year Lowering the assumed return produces a more honest picture but immediately makes the unfunded liability larger, because less of the future benefit is expected to come from investment gains. Employers then have to contribute more to make up the difference.
What Caused the Crisis
SB 400 and the 1999 Benefit Boost
The most cited turning point is Senate Bill 400, signed in 1999. SB 400 sharply increased retirement formulas across most CalPERS categories. Public safety employees got a “3% at 50” formula, letting a worker retire at 50 with 3% of final pay for every year of service. A 30-year safety employee retiring at 50 could collect 90% of final salary for life.3California Legislative Information. SB 400 – Public Employees Retirement System Benefits The legislation was sold in part on the expectation that strong stock returns would cover the added cost. Many local governments adopted similar formulas. When markets fell, the bill came due.
Returns That Missed Their Target
For decades California’s funds assumed roughly 7.5% annual returns. The dot-com bust and the 2008 financial crisis wiped out years of gains, and hitting the target in calmer markets required taking on more risk. Every year the actual return fell short, the unfunded liability grew.
Longer Retirements
Retirees are living longer, and early retirement provisions compound the effect. A safety employee who retires at 50 and lives to 85 draws benefits for 35 years on a career that may have lasted 25 to 30.
Contribution Holidays
During the late 1990s bull market, some local governments reduced or skipped required pension payments because their funds looked flush. The savings evaporated when markets dropped, and the plans were left dangerously underfunded.
Why the Crisis Is So Hard to Fix
The Vested Rights Doctrine
California courts have long treated public pension benefits as deferred compensation protected by the contract clauses of the state and federal constitutions. Under Allen v. City of Long Beach (1955) and its successors, once an employee accepts a government job, the pension terms in place become a contractual right. Benefits already earned cannot be reduced, and the benefits a worker is eligible to earn in the future through continued service generally cannot be cut either.4Senate Public Employment and Retirement Committee. Vested Rights of CalPERS Members
Modifications are allowed only in narrow circumstances: any change must bear a material relation to the successful operation of the pension system, and any disadvantage to the employee must be offset by a comparable new advantage. Courts have consistently rejected attempts to cut benefits solely to solve budget problems. This is why reform in California focuses almost entirely on new hires; existing employees keep their original formulas for past and future service, so savings take decades to arrive.
No Federal Safety Net
Private-sector pensions are governed by ERISA, with strict funding rules and an insurance backstop through the Pension Benefit Guaranty Corporation. Public plans are explicitly exempt.5Office of the Law Revision Counsel. 29 U.S. Code 1003 – Coverage Congress carved out government plans in 1974 on the assumption that taxing authorities could not fail the way private companies could. Without ERISA-level funding requirements, public plans have more flexibility to defer contributions, and there is no federal insurer if a plan runs dry. The California Constitution assigns pension boards sole fiduciary responsibility over fund assets, but that governs how money is invested, not whether enough goes in.6Justia Law. California Constitution Article XVI Section 17
Bankruptcy Hasn’t Cut Pensions
When Stockton and San Bernardino filed for Chapter 9 in 2012, a federal bankruptcy judge in the Stockton case ruled that pensions could theoretically be reduced like any other debt. Neither city did so. Stockton exited bankruptcy in 2015 with pensions intact; Vallejo, which filed in 2008, did the same. The legal authority may exist, but no California city has been willing to cut retirement checks to former police officers and firefighters.
What It Costs Taxpayers
The most direct effect is on employer contribution rates, which are paid from tax revenue. For fiscal year 2025–26, CalPERS requires state agencies to contribute 31.32% of payroll for miscellaneous employees, 49.36% for peace officers and firefighters, and 69.29% for California Highway Patrol members.7CalPERS. 2025-26 State Employer and Employee Contribution Rates For every dollar a CHP officer earns in salary, the state sets aside nearly 70 cents more for pension costs. Two decades ago those rates were a fraction of current levels.
Local governments face similar pressure with less flexibility. Cities and counties that participate in CalPERS have watched required contributions climb steadily. Research from Stanford’s Institute for Economic Policy Research found that California municipalities squeezed by pension spending have reduced funding for recreation, libraries, and in some cases public safety. Some cities have placed pension-related revenue measures on the ballot, asking voters to approve higher sales taxes to keep services running while pension bills climb.
What Reform Has Done So Far
The most significant legislative response was the California Public Employees’ Pension Reform Act of 2013, known as PEPRA. It applies to employees hired on or after January 1, 2013, and leaves current workers’ benefits alone in keeping with the vested rights doctrine.
- Lower formulas. New miscellaneous employees receive “2% at 62” instead of “2% at 55.” New safety employees receive reduced formulas that max out at age 57 rather than 50.8CalPERS. Public Employees Pension Reform Act (PEPRA)
- Higher retirement ages. The earliest a new miscellaneous employee can retire with benefits is 52, and the full benefit doesn’t kick in until 62 or later.
- Anti-spiking rules. Benefits are calculated using the highest average pay over three consecutive years, and overtime, bonuses, and unused vacation payouts are excluded from the pension calculation.9CalPERS. Summary of Public Employees Pension Reform Act of 2013
- Cost sharing. New employees must pay at least 50% of the pension’s normal cost, shifting more of the burden from employers to workers.
- Salary caps. The compensation used to calculate a pension is capped and indexed to the Social Security contribution base, which limits pensions for high earners.
PEPRA was a real change, but its savings are back-loaded. Pre-2013 employees still earn benefits under the older, more generous formulas, and they will keep doing so for decades. Alongside PEPRA, CalPERS has gradually lowered its assumed rate of return from 7.5% to 6.8%, producing a more honest picture of the obligations but raising employer contributions in the short term.1CalPERS. CalPERS Announces Preliminary 11.6% Return for 2024-25 Fiscal Year
Pension Obligation Bonds
Some California cities and counties have turned to pension obligation bonds. A government borrows money at a relatively low interest rate, deposits it into the pension fund, and hopes investment returns exceed the cost of borrowing. If the bet pays off, the government saves money. If it doesn’t, the government owes the original pension debt and the new bond debt on top of it. Stockton and San Bernardino both issued POBs before filing for bankruptcy. Tulare County and La Verne have issued them at lower rates and may come out ahead. Research from the University of Minnesota’s Heller-Hurwicz Economics Institute concluded that POBs generally reduce welfare for both taxpayers and beneficiaries and amount to deferring the problem unless paired with governance changes.
Where Things Stand
Strong markets have offered breathing room. CalPERS posted an 11.6% return for the year ending June 30, 2025, moving its funded ratio from about 75% to 79%.1CalPERS. CalPERS Announces Preliminary 11.6% Return for 2024-25 Fiscal Year CalSTRS reached 76.7% as of mid-2024.2CalSTRS. 2025 Summary Report to Members S&P Global Ratings estimates that average state and local pension funding ratios nationally have climbed above 80%.
Good investment years do not solve the structural problem. A single downturn can erase years of gains, as 2008 showed. Pre-PEPRA obligations still dominate the liability side of the balance sheet and will for years. Employer contribution rates remain at historically elevated levels, and the vested rights doctrine blocks any retroactive change to existing workers’ benefits. California will be paying down this shortfall for at least another generation.