January 21, 2011
In addition to the tax increase and spending limits bill approved in the last hours of the 96th Illinois General Assembly, the legislature authorized a new round of pension borrowing with provisions that could lead to hundreds of millions in bond proceeds being transferred to the State’s General Funds and used for operations.
Almost a year after the Governor proposed borrowing to make the State’s required FY2011 pension payment, the General Assembly passed a pension-borrowing bill on January 12, 2011. The Governor signed the bill into law on January 14, 2011, but the date of bond sale is not yet certain. Public Act 96-1497 approves issuing up to $4.1 billion of new pension bonds. This will be the second year in a row that the State has borrowed to make its annual required payment to its retirement systems instead of relying on its General Funds revenues.
In FY2010, Illinois sold $3.5 billion in pension debt to be repaid with interest over the next five years. As previously discussed in this blog, the FY2011 pension bonds will be paid back over the next eight years with the principal amounts back loaded to keep the annual debt service from increasing dramatically. However, the total increase in debt service attributable to the borrowing for the State’s pension payments over the last two fiscal years will ensure that the pension related debt service will stay well above $1 billion annually until after FY2019.
The FY2011 bonds include a new twist to the state’s pension borrowing plans. A final amendment to the law and a trailer bill, SB1858, may open the door for the state to transfer some of the loan proceeds from the pension funds into the State’s General Funds. The amendment to the pension-borrowing bill requires repayment of any amounts exceeding the certified payment amount owed by the State to the pension funds to be repaid directly to the State’s General Funds. The certification is a calculation made by each of the five pension funds every year that determines the amount the State must contribute in the following year to bring the systems assets to 90% of the actuarial liabilities by FY2045 taking into account current unfunded liabilities, employee contributions, investment income or losses, and other income. Currently, the certified pension payment for FY2011 of $4.1 billion is the same as the amount of new bonding authority approved.
However, SB1858, the trailer bill to the pension borrowing legislation also passed by the General Assembly may lower the certified amount. The Governor has not yet signed it into law but if enacted it requires that the pension funds recertify the State’s required payment on April 1, 2011 to take into account savings from the pension reforms enacted in Public Act 96-0889. The Governor’s office has previously estimated that the second tier pension system with reduced benefits for new hires could produce savings between $267 million and $360 million in the FY2011 pension payment. If the State sells the total $4.1 billion in new pension bonds approved for FY2011 prior to the recertification on April 1, 2011, it is required to transfer all of the proceeds to the retirement systems, which could cause an overpayment as defined under the pension borrowing legislation. If the pension payment for FY2011 is recertified at a level below $4.1 billion, the difference would then paid back by the retirement funds and deposited in the General Funds.
As enacted, the overpayment provisions of the pension borrowing authorization for FY2011 could circumvent the General Obligation Bond Act requirement that the proceeds from the pension bonds may only be used for payment to the pension funds. This would be the first time the state had actually transferred bond proceeds directly to the General Funds to pay for ongoing operations in this way. In FY2005, the General Assembly appropriated $315 million less to the pension funds than was originally certified after investment returns increased due to the $10 billion in Pension Obligation Bonds sold in FY2003 and deposited into the retirement system investment funds. The state also used $2.7 billion of the FY2003 POBs to make its required contributions in FY2003 and FY2004. Although both paying for the its contribution through POBs and reducing the contribution were ways of increasing the amount of General Funds available to pay for other operations, neither move directly accessed pension bond proceeds to be spent on the state’s other operations.
The overpayment provision is similar to requirements made in past years when the State borrowed to make its pension payment. Although, in those years, the required contributions were certified prior to the borrowing and the repayment provisions were intended to capture amounts paid from the General Funds into the pension funds before the bonds were sold. An automatic continuing appropriation for the pension payments kicks in to ensure payments are made throughout the fiscal year, unless the General Assembly alters the payments by statute. In FY2011, the continuing appropriation has begun accruing payments due to the pension systems but the State’s cash flow issues have prevented any State funds from actually being transferred for the first six months of the fiscal year. By April, some of these accrued funds owed to the systems may have been paid into the pension funds depending on the State’s fiscal condition. Any funds transferred under the continuing appropriation would be recouped to the General Funds under the overpayment provisions of the pension borrowing legislation once the bonds are sold.
There is also an underpayment provision in the legislation. If the recertification of the FY2011 pension payment requires a larger payment than the amount of the FY2011 pension bonds sold and transferred to the pension funds, the difference would be declared an underpayment. This would trigger an automatic continuing appropriation to make up the shortfall through the remainder of the fiscal year. As previously discussed in this blog, three of the five state pension funds have decided to change their assumed rate of return on their investments, also referred to as the discount rate. This will increase the cost of future pension contributions by the state and could offset the savings from the pension reforms in future years. Under the recertification legislation, the systems are required to base the calculation for the FY2011 on the liabilities of the retirement systems as of June 30, 2010. As of that date, the pension reforms were passed but the assumed investment rates had not been lowered.
If the Governor does not veto or amend the recertification bill within the next 60 days, it automatically becomes law. If the Governor were to amend the law or veto it each house of the General Assembly would have 15 days to vote to override it with a super majority vote.