Friday, December 19, 2025
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California Supreme Court:
City Not Barred From Issuing Bonds for Unfunded Liabilities
Opinion Says Exception to State Constitution’s Pay-as-You-Go Rule for Localities Applies, Greenlighting San José’s Ability to Raise Money for Anticipated Pension Shortfalls Without Voter Approval
By Kimber Cooley, associate editor
The California Supreme Court held yesterday that the City of San José is not precluded by a so-called “pay-as-you-go” debt limitation enshrined in the state Constitution from financing unfunded liability in its employee retirement plans through the issuance of bonds without first seeking voter approval.
Saying that an exception for “obligations imposed by law” applies, the court declared that the fact that the city charter requires it to “provide…for the creation…and maintenance of a retirement plan” coupled with a state law demanding that it adopt “sound actuarial” practices gives the city the ability to decide how to address shortfalls between the expected value of the scheme’s assets and what employees are likely to receive.
At issue is Article XVI, §18(a) of the California Constitution, which provides, subject to certain exceptions:
“No county [or] city…shall incur any indebtedness or liability in any manner or for any purpose exceeding in any year the income and revenue provided for such year, without the assent of two-thirds of the voters of the public entity voting at an election to be held for that purpose….”
Justice Kelli Evans authored yesterday’s unanimous opinion, writing:
“Even assuming the proposed bonds would incur new debt, the City has an obligation imposed by law to address the existing shortfall in its retirement plans. Although [the party challenging the proposal] is correct that no law requires the City to address this shortfall by issuing bonds for the entire sum, the local debt limitation does not constrain how local governments choose to manage obligations that are imposed by law.”
Retired Justice Martin J. Jenkins, sitting by assignment, joined in the decision.
Obligations Exceed Contributions
The question arose after the city determined that its obligations under its employee retirement benefit scheme exceeded the contributions to the plan due to a variety of factors beyond its control, including inflationary rates, life expectancy, and length of employee tenure.
In October 2021, the city passed a resolution to refinance its obligations under its employee retirement benefit scheme by issuing pension obligation bonds, pursuant to Government Code §53570 et seq., in an amount no greater than the lesser of the anticipated shortfall of $3.5 billion or “the sum of the City’s Unfunded Liability and Current Obligation as calculated by the actuary.”
Two months later, San José initiated litigation under Code of Civil Procedure §860, which authorizes public agencies to bring an action in superior court to determine the validity of a proposed course of action. Howard Jarvis Taxpayers Association, Citizens for Fiscal Responsibility, and taxpayer Pat Waite (collectively, “HJTA”) answered the complaint, arguing that the city could issue the bonds only if it sought approval by two-thirds of the electorate.
On Feb. 16, 2023, Santa Clara Superior Court Judge Sunil R. Kulkarni entered judgment in favor of the municipality, finding that the exception to the constitutional provision for “obligations imposed by law” applies. In April of last year, the Sixth District Court of Appeal affirmed on different grounds, saying that the bond proposal does not “trigger the constitutional debt limitation” because “the debt the city seeks to refund already exists.”
Exception to Rule
Evans acknowledged that the constitutional rule was motivated by a desire to ensure that localities live within their means but noted that certain exceptions to the principle have “long [been] understood,” including the one that recognizes that an obligation imposed by law upon a municipality is not an “indebtedness” within the meaning of §18.
She pointed out that, in addition to the obligation imposed by its own charter to provide retirement plans to its employees, Government Code §45342 requires that “[a]ny pension or retirement system adopted shall be on a sound actuarial basis.” The justice remarked:
“In the City’s view, it has a legal obligation to address the shortfall between the actuarial value of the retirement plan’s current assets and the present value of the future benefits already earned by current employees and retirees. That it may have options in how that shortfall should be addressed—e.g., continue to amortize it over the specified period by financing it at the retirement system’s discount rate or, alternatively, issue a pension obligation bond or bonds set at an interest rate below the discount rate—does not alter the fact it has an obligation imposed by law to deal with the shortfall.”
Rejecting HJTA’s assertion that the exception does not apply because the obligation to fund its retirement system was the product of a “voluntary choice to offer pensions,” she distinguished jurisprudence finding that California’s obligation to fund its employee retirement scheme was willingly imposed on itself by its own Legislature. She opined:
“The same cannot be said about the significance of state law on the City’s obligations, however. The City has no ability to avoid or amend its duty under state law…, echoed by its own voter-enacted charter…, to satisfy the financial obligations calculated by its retirement boards….Because the City’s obligation to fund its pension in an actuarially sound manner was imposed by state law, the council’s efforts to grapple with that obligation do not qualify as voluntary for purposes of the local debt limitation.”
Choice to Raise Funds
As to the contention that, while the city may have an involuntary duty imposed by state law, the choice to raise funds through pension obligation bonds falls outside the exception, she wrote:
“The City could, HJTA contends, instead amortize the unfunded portion over the relevant period (as it has been doing) and pay down that amortized portion of the [unfunded liability] out of available revenues each year. While the City is of course free to continue on its current path, this misconceives the nature of the inquiry under the local debt limitation provision. The City’s burden is to demonstrate that the unfunded actuarial liability is an obligation imposed by law—not that the particular method it has chosen to fulfill its obligation is mandated by law.”
Saying that “[w]e decide only that the City’s unfunded liability represents an obligation imposed by law, and that the local debt limitation does not constrain the City’s discretion in how to address that obligation,” Evans declared:
“We hold that the proposed pension obligation bonds, even if deemed to create a new debt, fall within the exception to the local debt limitation for obligations imposed by law. The judgment of the Court of Appeal is affirmed.”
The case is City of San José v. Howard Jarvis Taxpayers Association, 2025 S.O.S. 3755.
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