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Pension Spotlight: Illinois


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Pension Spotlight: Illinois

Chart 1


Credit Fundamentals By Sector

  • State of Illinois: Mounting pension costs will keep rising as Illinois has maintained policies that defer contributions and weigh down its pension plans' funded status. Over the next 20 years, the statutory funding requirements for the state are scheduled to more than double from 2022 levels.
  • Local governments: Nearly all local governments participate in the well-funded Illinois Municipal Retirement Fund (IMRF) agent multiple-employer plan, and we expect the payment stress from this plan will be relatively minimal for local governments. Most municipalities also sponsor single-employer public safety plans, very few of which are adequately funded. We expect cities, towns, and villages with poorly funded single-employer pension plans, limited revenue-raising flexibility, and weak demographic trends will face budgetary pressure from rising pension obligations. The consolidation of the single-employer downstate and suburban public safety plans will provide some savings to these plans, but we believe it will not materially reduce the pension cost pressures for poorly funded plans.
  • School districts, community colleges, state universities: For school districts and community colleges outside Chicago, and for state universities, the costs associated with the cost-sharing multiple-employer statewide plans are minimal at this time because the state covers most of them. However, a looming risk is that the state could reduce shared revenue or shift a larger portion of the costs as it addresses its own fiscal stress.
  • Utilities: Most utility system employees participate in the well-funded IMRF agent multiple-employer plan. Pension pressures are relatively minimal in this sector.

Chronic Underfunding Likely Will Persist

Illinois has a statutory requirement to contribute to pension plans an amount sufficient to achieve only a 90% funding goal by 2045; S&P Global Ratings views this as underfunding the pension systems. This underfunding is a significant cause of weak pension funding progress and is not actuarially recommended. Beyond a funding goal less than 100%, state law stipulates amortizing unfunded liabilities as a level percentage of assumed payroll rather than on a level-dollar basis, which we view as a form of deferring pension costs. This funding method implies progressively larger payments through the amortization period, pushing increasing contributions to future years and adding risk of faster-than-expected increases if payroll growth falls short. Another prominent form of payment deferral used by Teachers' Retirement System (TRS), State Universities Retirement System (SURS), State Employees' Retirement System (SERS), Judges Retirement System (JRS), and General Assembly Retirement System (GARS) includes the projected unit credit cost method (which backloads employee costs toward the end of their careers). Contributions are further deferred by a unique cap that limits the state's contributions based on a complicated formula built around previously issued pension funding (obligation) bonds. This continues to hamper funding progress through the life of the bonds.

The contributions to the state's three largest plans (TRS, SURS, and SERS) were equal to what is required under current law but were over $4 billion short of their combined actuarial recommendations in 2020.

Chart 2


Despite statutory contributions more than doubling over the past decade, these plans' funded status has remained weak. The inadequacy of plan contributions relative to what is needed to make funding progress is evident, with contributions well short of static funding--the amount needed just to fund current-year benefit accruals plus the interest on the unfunded portion of the plan's liability. Under the current statutory funding requirements, the unfunded liability of TRS, SURS, and SERS will continue to rise through 2029, 2025, and 2026, respectively, assuming all plan assumptions are met.

Chart 3


Statutory funding requirements for the state are scheduled to increase by 3.0% annually and reach just under $20 billion by 2045 based on current assumptions. Although we believe these costs will become a larger percentage of the budget due to demographic trends and risky assumptions that might fail to materialize, the Illinois Commission on Government Forecasting and Accountability estimates pension costs will be relatively level as the budget increases over the next 20 years. Pension contributions already consume an elevated portion of the state's budget (22% of 2022 budgeted expenditures). If plan assumptions or the anticipated budget growth does not materialize, pension costs will increase, further straining the budget and crowding out other expenditures. (See our latest analysis on Illinois, published March 9, 2021, on RatingsDirect.)

Plan Summaries

The state sponsors five large public employee retirement systems.

Single-employer, defined-benefit plans:

  • SERS
  • GARS
  • JRS

Cost-sharing, multiple-employer, defined-benefit plans:

  • TRS
  • SURS

We have highlighted the risks pertaining to SERS, TRS, SURS, GARS, and JRS. All of these have very poor funded ratios, and contributions need to increase before any meaningful funding progress is made. However, the costs and liabilities associated with the GARS and JRS plans are small relative to those of the other state plans, and therefore, we have not included them in the charts.

TRS and SURS are cost-sharing plans, but the state makes most of the contributions on behalf of the participating entities as a nonemployer contributing entity. Legislators have discussed shifting a portion of the costs associated with TRS and SURS in the past, but such a shift never advanced into law. This change, if implemented, would result in varying degrees of budgetary pressure for the participating entities. We believe the likelihood that rising pension costs will increasingly compete with other priorities in the state budget is high and elevates the probability that legislators eventually reconsider shifting a portion of the TRS and SURS costs. Even if these costs are not shifted, state-shared revenue could be redistributed to the state pension plans and create stress for local governments' budgets.

Plans not sponsored by the state

Illinois also contributes to the Chicago Teachers' Pension Fund pursuant to Public Act (PA) 100-0465, which was signed into law in 2017. Chicago Public Schools' teachers do not participate in TRS. PA 100-0465 stipulates that the state shall make an evidence-based funding appropriation to increase aid for schools and includes a clause that the state will contribute the employer normal cost to the Chicago Teachers' Pension Fund with these appropriated funds. Under this law, more of the state's budget is devoted to pension costs.

There are 649 downstate and suburban single-employer public safety plans in Illinois, many of which are poorly funded. Minimum funding requirements for these plans were enacted in 2010. These funding requirements mitigated significant cost increases for municipalities by deferring costs in a manner similar to the state-sponsored plans. The requirements also set a 90% funded ratio for the plans to reach by 2040. While some entities use more stringent assumptions and repayment methods, most plans remain poorly funded. According to the Illinois Department of Insurance's 2019 biennial report on public pensions, the aggregate funded ratio of the state's 649 public safety plans was 55% in fiscal 2018. In December 2019, the state enacted a pension consolidation law to merge these plans' assets to lower costs through greater economies of scale and improve investing options for smaller plans. This consolidation will not solve the budget pressures on cities with large unfunded public safety pension plans, and we continue to monitor the funding progress and budgetary flexibility of such issuers.

One pension system, IMRF, has minimal funding stress. IMRF is a multiple-employer agent plan that is not funded by the state and is managed by an independent board. It administers agent multiple-employer plans for 3,025 employers in the state. Although IMRF uses a 7.25% discount rate and amortizes its liability over 22 years at a level percentage of payroll, both of which we generally consider to include volatility risk, we view the plan to be at limited risk of contribution escalation because it is funded near 90% as a whole.

Reforms Are Hindered By State Legal Framework

To curb escalating liabilities, the state has passed pension reform bills to reduce benefits. In 2013, Illinois passed a bill to reform benefits; however, the bill was challenged in court and ultimately overturned by the Illinois Supreme Court in 2015. The court ruled that Article XIII, Section 5, of the state's 1970 constitution, the so-called "pension protection clause," characterizes pension membership as "an enforceable contractual relationship" and declares categorically that pension benefits "shall not be diminished or impaired." In multiple cases, the state courts have consistently upheld a strict reading of the pension protection clause.

The clause makes a quick fix for chronic underfunding improbable, because relief through benefit reforms will require a constitutional amendment. We believe a pension reform amendment would face impediments from unions, voters, and others; therefore, reforms can't be counted on as a solution for those entities grappling with large pension obligations. For the foreseeable future, then, the burden of funding escalating costs will continue to fall on the associated governing bodies.

In 2010, the state created a new tier of employee benefits ("Tier 2") for new hires that could be enacted for all pension systems. With the enactment of Tier 2 benefits, retirement ages were extended, and cost-of-living adjustments were reduced to a simple interest basis instead of a compounded basis with a cap. Without this change, Illinois' unfunded liabilities and pension costswould be materially higher today.

Tier 2 has resulted in lower service costs and, over time, as Tier 2 employees take on a larger portion of plan membership, growth in liabilities should level off. To help accelerate future benefit payments to align with Tier 2 benefits, legislators passed PA 100-0587 in June 2018. PA 100-0587 allows the state to issue $1.0 billion in bonds to finance payments to eligible Tier 1 members through a benefit reduction buyout program and a limited buyout opportunity program. Through the benefit reduction program, retiring members can elect to receive a delayed and reduced cost-of-living adjustment and, in return, receive a payout equal to 70% of the difference between the traditional cost-of-living adjustments and the reduced cost-of-living adjustments. The limited buyout opportunity program provides inactive members the opportunity to receive 60% of the present value of future benefits. The savings from these programs and interest on the bonds will equate to marginal savings for the state, but only a portion of eligible beneficiaries are participating. While the number of active Tier 2 employees is approaching a level equal to the number of active Tier 1 employees, it will be years before Tier 2 retirees exceed the number of Tier 1 retirees and material savings are realized.

A Shrinking, And Aging, Population Means More Stress

Illinois' population is falling, adding risk to pension funding due to the level percentage amortization method and its assumption that payrolls will increase a certain amount each year. Between 2019 and 2020, the state's population dropped 0.6%, its seventh straight year of modest declines. IHS Markit projects the population will continue falling through 2024 before stabilizing. Compounding these declines is the state's high risk of exposure to aging demographics. Its "old-age dependency ratio" is expected to increase faster than that of most other states and likely will contribute to slowing economic growth and will increase fiscal strain (for more information, see "Increasing Generational Dependency Poses Long-Term Social Risks To U.S. States' Fiscal And Economic Stability," Feb. 24, 2020).

Chart 4


Between 2013 and 2020, state and local payroll headcounts declined by 0.5% and are down 3.9% from their 2009 pre-Great Recession peak, according to data from the Bureau of Labor Statistics. The pension assumptions include payroll growth. With government payroll headcount declining, there's a higher risk that payroll growth assumptions could fall short of expectations, intensifying liquidity stress and increasing future costs (see "Five U.S. State And Local Government Pension And OPEB Trends To Watch For In 2021 And Beyond," Jan. 25, 2021).

Retiree Medical Benefits Are Overshadowed By Pensions But Still Loom

Because of Illinois' aging demographics, declining population, and lack of money set aside for other postemployment benefits (OPEB), the state's OPEB costs will likely escalate. Current health care cost trends will also add volatility to these costs.

OPEB is primarily provided on a single-employer basis. Governments have the authority to prefund OPEB liabilities in an irrevocable trust, though most have made minimal progress at best. Certified school district and community college teachers are covered under cost-sharing multiple-employer OPEB plans that are funded on a pay-as-you-go basis.

The state has tried to reduce OPEB in the past. However, these reforms were challenged by the beneficiaries, and the Illinois Supreme Court ruled that health care benefits are covered by the pension protection clause and cannot be impaired or diminished. While Illinois has enacted minimum funding requirements for many pension plans, it does not have funding requirements for its OPEB liabilities. This burden is likely to become substantially larger and more cumbersome if the current health care regulatory environment and inflationary trends persist.


Plan Details As Of 2020 Plan Comprehensive Annual Financial Reports
TRS SURS SERS S&P Global Ratings' view
Funded ratio (%) 37.76 39.05 35.51 Funded ratios below 40% are considered extremely poor and potentially face spiraling effects due to liquidity risk.
Discount rate (%) 7.00 6.75 6.75 A discount rate higher than our 6.0% guideline indicates higher market-driven contribution volatility than what we view as within typical tolerance levels around the country.
Total plan ADC (mil. $) 7,989 2,299 2,914 Total contributions to the plan recommended by the actuary.
Total actual contribution (mil. $) 5,901 1,839 2,369 Total employee, employer, and nonemployer contributions to the plan that were made last year.
Actual contribution as % ADC 74 80 81 Statutory funding payments have historically not met ADC/ARC.
Actual contribution as % MFP 56 61 65 Under 100% indicates funding slower than what we view as minimal progress. Due to statutory contributions, we expect this to remain under 100%.
Actual contribution as % SF 76 84 90 Under 100% indicates negative funding progress. Due to amortization notes below, this will likely continue to be under 100% for the next few years. Through the required increases to achieve the state's funding goals, contributions will likely move this closer to SF.
Amortization Method:
Funding goal (%) 90 90 90 A funding goal of less than 100%, or no actuarial plan at all, could lead to increasing payments.
Period Closed Closed Closed A closed period is expected to reach the funding goal if all assumptions are met.
Length (years) 24 24 24 Length greater than 20 generally correlates to slow funding progress and increased risk of escalation due to adversity.
Basis Level % of payroll Level % of payroll Level % of payroll Level % explicitly defers costs, resulting in slow or even negative near-term funding progress. Escalating future contributions may stress affordability.
Payroll growth assumption (%) 3% 3.25% 3% These represent the Tier 1 employees, which currently make up the majority of total plan members. The higher this is, the more contribution deferrals are incorporated in the level percent funding methodology. There is risk not only of market or other adversity causing unforeseen escalations to contributions, but of hiring practices not keeping up with assumed payroll growth leading to contribution shortfalls.
Actuarial cost method PUC PUC PUC A projected unit cost (PUC) methodology defers costs to a participant's later years of service more than the typical entry-age normal methodology.
Longevity Generational Generational Generational A generational assumption reduces risks of contribution “jumps” due to periodic updates from experience studies.
ADC--Actuarial defined contribution. MFP--Minimum funding progress.

This report does not constitute a rating action.

Primary Credit Analysts:Joseph Vodziak, Chicago + 1 312 233 7094;
Todd D Kanaster, ASA, FCA, MAAA, Centennial + 1 (303) 721 4490;
Secondary Contacts:Jessica Akey, Chicago + 1 (312) 233 7068;
Geoffrey E Buswick, Boston + 1 (617) 530 8311;
Timothy W Little, New York + 1 (212) 438 7999;
Scott Nees, Chicago + 1 (312) 233 7064;

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