The Bond Buyer

Chicago Tries to Puzzle Out Pensions

Wednesday, May 5, 2010

CHICAGO — A special pension commission named by Chicago Mayor Richard Daley has recommended increased contributions and policy changes to address the city’s pension funding crisis, but several panel members panned the proposals as falling far short of the more dramatic action needed to avert looming shortfalls.
The commission recommended pension plans adopt an actuarial-based funding policy rather than the current policy of employee contributions being based on a percentage of salary.
It also recommended requiring increased contributions from new, as-yet-unidentified sources of revenue and reducing benefits for new employees.
The report — publicly released late Friday — suggested pension obligation bonds are an option “that can be considered” but cautioned that borrowing poses risks and has been abused by other governments, and therefore would require careful evaluation.
Members of the commission from two organizations — the Civic Federation of Chicago and the Civic Committee of the Commercial Club of Chicago — called for more stringent reforms, including reductions in the future accrued benefits of current employees.
Fixing Chicago’s underfunded pension funds could cost taxpayers at least $660 million more annually by 2012, and without action all four funds face shortfalls in their ability to meet obligations by 2030 — earlier, if investment returns fall short.
The taxpayer bill had stood at $710 million, but was reduced after the Illinois General Assembly’s adoption earlier this spring of pension reforms that reduce benefits for future employees. The legislation covered the city’s funds.
The $660 million annual bill by 2012 is based on the assumption that the city move towards a 90% funded ratio by 2062. Workers also stand to pay more.
They currently contribute between 8.5% and 9.125% of their gross pay. Under current law, contributions in 2012 would be set at $793 million — $480 million coming from the city and $313 million from employees.
At the close of 2009, the city’s four pension funds had a combined actuarial liability of more than $25.4 billion and assets with a market value of $10.9 billion, for an unfunded liability of $14.57 billion that represents a collective funded ratio of just 43%.
“Resolving an unfunded actuarial liability of $14.57 billion will require sacrifice by all parties,” the report said.
“Chicago is not alone — this is a challenge faced by pension plans in cities and states across the country,” city chief financial officer Gene Saffold, who was a co-chair of the commission, said in a statement.
“As Mayor Daley has said, as we look toward solutions, we must look at every option that helps take the burden off taxpayers, because people are concerned today about keeping their own jobs and pensions and want their tax dollars spent on improving our economy and their quality of life,” he said.
The report was two years in the making. Daley named the panel in 2008. It included his former CFOs Paul Volpe and Dana Levenson, representatives from business, financial experts, pensions funds, and labor. Saffold later replaced Volpe and served as co-chair with Levenson.
The report comes as the city finds itself hard-pressed to come up with an infusion of cash to improve the pension funding status.
It sets the stage for tough negotiations with unions that already have been pressed to make concessions to help deal with budget deficit over the last two years.
Chicago’s finances remain strained by ongoing revenue and tax shortfalls that have prompted it to dip into reserves.
The city expected to tap some revenue from a proposed $2.5 billion lease of Midway Airport to help shore up its pension funds, but that transaction fell apart last year when the bidder could not raise the capital to finance the deal amid the international financial crisis.
The city’s four pension funds cover firefighters, police, laborers, and municipal employees.
The current, collective funded status of 43% at the end of 2009 is down sharply from 2000’s ratio of 83%.
The 43% represents some improvement over their status going into 2009, when 2008 market losses drove the funded ratio down to 36%.
The funds earned a 19% return last year. At the close of 2009, the firefighters fund was 30% funded, the police fund was at 37%, the laborers fund was at 66%, and the municipal fund was at 47%.
If no changes are adopted, based on an anticipated 8% annualized rate of return the fire fund will run out of assets to cover liabilities by 2022, the police fund by 2024, the laborers fund by 2030, and the municipal fund by 2027.
Officials blame the funding problems on market losses, increasing liabilities due to benefit enhancements and early retirement programs, and the policy imposed by state law that city and employee contributions be based on a percentage of payroll instead of an actuarial-based payment structure.
“The city and its taxpayers will have to increase the amount they contribute. Employees will have to contribute a larger portion of their pay, and benefits may have to be reduced for employees hired in the future,” the report said.
In addition to changing state law to shift how payment amounts are set and increasing payments, the commission recommends benefit changes, reforms that cover investment management, and the administration of disability claims and benefits.
The report does raise the specter of reducing the accrual of future benefits for current employees, but the commission cast doubt on such a move due to the political and legal challenges it would pose. Unions would challenge it, and promised pension benefits are constitutionally guaranteed in Illinois.
The Civic Federation praised the report’s content because of the “critical” information it provides on the status of the funds for policymakers to consider, but believes the commission should have gone further.
“The severity of the city’s pension crisis cannot be overstated and no small changes will be adequate to the task of restoring the funds’ fiscal health,” the watchdog group said.
Major benefit changes and contribution increases are required. The risk of these funds running out of money to pay benefits is now very real,” the federation wrote in its report. Federation president Laurence Msall served on the commission.
The group wants further benefit reductions, for both future employees and the future accrual of benefits for current employees, which it believes is legal.
The federation called on the city to cut several hundred million dollars in spending on city services beginning next year to free up funds to better fund its pensions and to consolidate the funds.
The Civic Committee was also ­critical.
“Although the four city pension funds are badly underfunded, the commission recommends little more than the reforms enacted into law by the Illinois legislature a few weeks ago, which were limited to new employees — those who have not yet started to work for the city,” the Civic Committee wrote in its separate report.
The committee’s leaders, Lester Crown and Eden Martin, who served on the commission, believe benefits already accrued by current employees should be protected, but reduced going forward to decrease the estimated liability by a projected $4.4 billion.
The committee also warned that a substantial increase in city funding for pensions could result in more “serious budget imbalances, tax increases, or both” for the city.