It was part of the American Dream, a pledge made by corporations to their workers: for your decades of toil, you will be assured of retirement benefits like a pension and health care. Now more and more companies are walking away from that promise, leaving millions of Americans at risk of an impoverished retirement. How can this be legal?1
Barlett and Steele’s observations in their 2005 Time Magazine article, The Broken Promise, might well have been made about the current funding levels for the Illinois state pension program. The purpose of a pension plan is to provide economic security for an employee upon his or her retirement. In an age of financial uncertainty where mismanagement of funds is prevalent and spending is more popular than saving, many members of the workforce worry about their ability to afford retirement. Bad investments, inflation, and simply outliving one’s savings are all factors that affect a secure retirement, but a secure pension plan offers employees peace of mind by promising defined pension benefits. Many businesses and corporations provide retirement systems where an employee’s contribution to his or her future will be matched by the employing organization. As an employee of the State of Illinois, however, the employer’s contribution varies tends to vary with state budget demands. This article thus analyzes the constitutionality of under-funding the state pension system in Illinois for current and upcoming fiscal years. First, however, a brief overview of the Illinois pension system is in order.
Overview of the Illinois Pension System.
The Illinois state retirement system is divided into five state pension funds: General Assembly Retirement System (GARS),2 State Employees’ Retirement System of Illinois (SERS),3 State Universities Retirement System (SURS),4 Teachers’ Retirement System of the State of Illinois (TRS),5 and Judges Retirement System of Illinois (JRS).6 Each fund provides a defined benefit pension plan that includes a guaranteed lifetime benefit that is calculated at retirement by using a formula that incorporates compensation level, years of service, the employee’s coverage by Social Security, and the eligibility of a survivor of the employee to receive benefits.7 These pensions are governed by the Illinois Pension Code8 , which outlines how the State of Illinois is to fund the pension system. Illinois contributes to the pension system by providing funds based on actuarial cost requirements, which combine with accrued interest and investments made with pension funds, as well as employee contributions used to fund the system.9
Since 1970, the State of Illinois has failed to fully pay its pension bill each year.10 The shortfall between promised pension benefits to state employees and the ability of the pension fund to pay these benefits is known as “unfunded pension liability” (or “unfunded actuarial accrued liability”).11 A straightforward way to measure the financial health of a pension system is to analyze the funded ratio, which is determined by taking the value of assets in a pension system divided by the system’s accrued liability.12 For example, if the assets in a pension system equal the accrued liability of that system, the funded ratio is 100%, which is “[a]n indication that the system has sufficient assets to cover the amount of pension benefits that have been earned by current beneficiaries and employees at the time the calculation was performed.”13 The monetary values of assets and liabilities are “driven by assumptions about future returns on invested assets and future increases in benefit payments to pensioners.”14
In 1994, the State of Illinois adopted a law to reform pension funding in order to bring the pension system up to 90% funding ratio by the year 2045.15 Public Act 88-593 allowed for gradual increases in state contributions from 1995 until 2011 and for state contributions at a level percentage of the public payroll from 2011 to 2045 in order to get the funding for the state pension system back on track.16 The purpose of the pension reform act was to secure funding for the pension system by amortizing unfunded liabilities and meeting actuarial cost requirements on a continual basis rather than waiting for funding from annual budget appropriations.17 Before this act, public pensions were not funded on an actuarially sound basis.18
Currently, the five Illinois pension funds are only 62% funded, leaving a $35 billion deficit.19 Illinois has the greatest unfunded public pension liability among all of the other states.20 Yet, the State of Illinois recently amended the Illinois Pension Code in order to reduce its pension funding obligations for FY2006 and FY2007 as well as alter its contribution structure for FY2008 through FY2010 in order to compensate for the loss of funding in FY2006 and FY2007.21 Public Act 94-004, formerly known as Senate Bill 27, fixed the State contribution level to the pension system at a flat amount, rather than keeping with the pre-existing method of actuarial calculations, for both FY2006 and FY2007.22 For instance, the State Employees’ Retirement System of Illinois requires a total State contribution of $203,783,900 for FY2006, rather than a heightened percentage of the state employee payroll,23 estimated to be approximately $690,300,000. This Act also included an increase in State contributions each year from FY2008 through FY2010 from the rate in FY2007 in order to compensate for the two year cut in funding and to help ensure that the State will return to its previous funding plan established by Public Act 88-593 for FY2011.24 The ramifications of Public Act 94-004 are widespread as the loss of approximately $3.5 billion in State contributions to the entire pension system over the next two years will result in almost $40 billion of debt due to loss of interest and investment opportunity that must be paid back into the system.25 This pension borrowing “[w]ill cost nearly $40 billion to repay – that’s approximately $3,500 for every man, woman, and child in the state!”26
Under the current Illinois state budget, funding levels for the state pension system are being drastically cut by diverting state contributions away from the pension system back to the general fund. The state budget for FY2006 reduced the State pension system contribution by $1.178 billion,27 which was then available for use as general revenue to close the gap in the state budget, as well as to allow for additional money in increased state spending from FY2005. The decrease in state pension funding for FY2006 and FY2007 provided by Public Act 94-004 will invariably put the State of Illinois even further behind in its efforts to keep up with pension funding obligations, as outlined by Public Act 88-593, by further expanding unfunded pension liabilities. The potential decrease in the funded ratio of the state pension system that could likely result may pose a risk to the State’s ability to provide promised pension benefits, thereby creating a breach of contract between the State of Illinois and Illinois’ public pension recipients.
Pension Protection Clause.
The pension protection clause in the Illinois Constitution provides that:
Membership in any pension or retirement system of the State, any unit of local government or school district, or any agency or instrumentality thereof, shall be an enforceable contractual relationship, the benefits of which shall not be diminished or impaired.28
According to the Illinois Supreme Court, the plain meaning of Article XIII, section 5 of the Illinois Constitution establishes that participation in a public pension plan creates an enforceable contractual relationship to protect the right to receive benefits and such benefits “shall not be diminished or impaired”.29 This contractual relationship is subject to the terms of the Illinois Pension Code at the time an employee becomes a member of the public pension system.30 The comments of Delegate Green, during the 1970 constitutional convention, indicate that protecting public pension benefits would be achieved by creating “a contractual relationship between the employer and the employee; and secondly, mandates the General Assembly not to impair or diminish these rights.”31 The underlying purpose of Article XIII, section 5 was “[t]o provide public employees with a basic protection against abolishing their rights completely or changing the terms of their rights by reducing their benefits after they had already embarked upon employment.”32 Thus, in cases regarding pension funding, the Illinois Supreme Court has reviewed transcripts from the constitutional convention to determine that the meaning of Article XIII, section 5 is to offer protection for pension benefits rather than pension funding.33
Although Public Act 94-004 decreases the amount of the State contribution to the state pension system and does not attempt to change the amount of benefits that pensioners are eligible to receive,34 altering the funding to the state pension system by fixing State contributions at an amount less than what would be required by the usual actuarial calculation, may put the entire public pension system in jeopardy.
In McNamee v. State of Illinois, the plaintiffs alleged that an amendment to the Illinois Pension Code that altered funding of police pensions impaired the contractual rights of pension fund beneficiaries under Article XIII, section 5 of the Illinois Constitution.35 The plaintiffs argued that pension benefits would be impaired by a less secure pension system created by the change in pension funding, but the plaintiffs failed to show that this change in pension funding would impair benefits by putting the pension system at risk of default or imminent bankruptcy.36 According to the comments of Delegate Kinney during the Sixth Illinois Constitutional Convention, “the word ‘impaired’ is meant to imply and to intend that if a pension fund would be on the verge of default or imminent bankruptcy, a group action could be taken to show that these rights should be preserved.”37
Comparatively, the current funding lapse for public pensions in the State of Illinois provided by Public Act 94-004 could potentially impair the state pension system. Illinois’ public pension system as a whole could be at risk for insolvency, which occurs if the pension fund’s asset to liability ratio were to fall below 30%.38 Insolvency would destabilize the pension system by greatly reducing its funded ratio as well as render other harmful economic effects to the State of Illinois, such as jeopardizing the State’s bond rating.39 An insolvent pension system would be unlikely to meet the benefit demands of eligible pension recipients, thus paving the way for a constitutional claim against the pension system under Article XIII, section 5.
Decreased Funding as “State Debt.”
In addition to the argument presented by Article XIII, section 5 of the Illinois Constitution, Article IX, section 9 provides another platform from which to question the constitutionality of under-funding the state pension system. In accordance with Public Act 94-004, decreasing pension funding now (in FY2006 and FY2007) in order to make up the payments in future years (FY2008 through FY2010) creates a liability that could arguably be seen as state debt. State debt is defined as:
[B]onds or other evidences of indebtedness which are secured by the full faith and credit of the State or are required to be repaid, directly or indirectly, from tax revenue and which are incurred by the State, any department, authority, public corporation or quasi-public corporation of the State, any State college or university, or any other public agency created by the State, but not by units of local government, or school districts.40
As the Tenth Circuit concluded in United States v. Austin, “The term ‘evidence of indebtedness’ is not limited to a promissory note or other simple acknowledgment of a debt owing and is held to include all contractual obligations to pay in the future for consideration presently received.”41 Since Article XIII, section 5 creates a contractual relationship between the state pension system and state pension system members to receive pension benefits, while Public Act 94-004 decreases the State’s contributions to the state pension system that are needed to help cover the cost of such benefits for FY2006 and FY2007 as well as outlines the method of making up these contributions in the future, this arrangement could be established as “evidence of indebtedness” because it involves a “contractual obligation to pay in the future.”42 Furthermore, pensioners could argue that the State’s funding cuts to the state pension system are “required to be repaid” in accordance with the Illinois Pension Code and are clearly “incurred by the State” in order to qualify as state debt.43 Deferring required State contributions to the pension system for FY2006 and FY2007 creates an obligation to refund the system in the future.
According to Article IX, section 9 of the Illinois Constitution, the creation of state debt is not to be incurred unless authorized by this section of the Constitution.44
State debt for specific purposes may be incurred or the payment of State or other debt guaranteed in such amounts as may be provided either in a law passed by the vote of three-fifths of the members elected to each house of the General Assembly or in a law approved by a majority of the electors voting on the question at the next general election following passage. Any law providing for the incurring or guaranteeing of debt shall set forth the specific purposes and the manner of repayment.45
Senate Bill 27 passed through the Illinois General Assembly with merely a simple majority, receiving 61 yea votes and 53 nay votes in the House of Representatives and 32 yea votes and 26 nay votes in the Senate, and was then signed into law by Governor Rod Blagojevich as Public Act 94-004.46 However, the Illinois Constitution clearly requires a “vote of three-fifths of the members elected to each house of the General Assembly” or approval “by a majority of the electors voting on the question at the next general election following passage” to pass a law that incurs state debt, such as Public Act 94-004.47 The effects of Public Act 94-004 are already in motion, even though the law was not passed by a three-fifths majority of the General Assembly, nor was it approved by vote of the people of the State of Illinois. Furthermore, the changes to the Illinois Pension Code made by Public Act 94-004 address the method of repayment of the decreased State contributions to the state pension system by outlining elevated contribution levels for FY2008, FY2009, and FY2010, but fail to offer any justification for the debt incurred by these changes in accordance with Article IX, section 9.48
The State of Illinois has constructed a method to make larger payments to the state pension system in later years in order to fund the reduction in State contributions for the current and upcoming fiscal years, which represents a clear choice to alter State contributions to the state pension system currently that will invariably create a funding deficit in the future.49 Such a deficit is arguably the creation of state debt. However, “[n]o Illinois case has specifically addressed whether the State incurs ‘State debt’ by reducing contributions to the retirement systems.”50 Nevertheless, the Illinois Attorney General relied upon a review of constitutional debates surrounding Article IX, section 9 of the Illinois Constitution and an opinion of a former Illinois Attorney General in order to come to the conclusion that the altered amount of State contributions to the state pension system provided by Public Act 94-004 does not create state debt.51 The Attorney General indicated that “it is clear that the framers intended for that section to restrict a State’s ability to borrow funds, via the issuance of bonds or other paper indebtedness,”52 and “[t]here is no evidence that the framers intended to extend the debt provisions beyond the commonly understood concept of borrowing.”53 The Illinois Attorney General goes on to state that:
Even assuming, arguendo, that the reduction in State pension contributions constitutes “State debt,” such debt has not been “incurred” by the State as that term is used in [A]rticle IX, section 9 [because] [t]he term “incurred,” as used with reference to a debt, means to “become liable or subject to.”54
Since what is owed to state pension system participants is benefits when they vest, and benefits have not been increased by Public Act 94-004, the State has not “incurred” any additional debt as the term is utilized in Article IX, section 9.55 In contrast, State efforts to borrow money by mortgaging property, as was the case with the proposed James R. Thompson Center mortgage-loan agreement in 2004, does incur state debt because the State would be held liable for more debt than it was prior to signing a mortgage.56
However, since the State pension system is funded in part by interest and investment income,57 the altered amount of State contributions to the pension system designated by Public Act 94-004 would have an effect on the interest earned and the principle amount of money available for investment during the years affected by Public Act 94-004, which would subsequently render long-term effects over the value of funds in the state pension system overall. For instance, the state pension system cannot assume future returns on an investment without having the assets to invest. Less interest received and lowered investment returns by the pension system today could cause the State to “incur state debt” tomorrow because the State is held responsible for the fulfillment of pension benefits to system participants when they become vested and the estimated funds from interest and investment returns are needed to fulfill this obligation.58 In addition, fewer assets in a pension system result in fewer assets available for investment because pension funds are needed to pay current pension benefit obligations. Ultimately, the State will have to pay for these benefits directly if the actuarial cost requirements of the pension system exceed the value of pension funds.59
In conclusion, the public pension funding raids by the State of Illinois as outlined by Public Act 94-004, provide the basis for the constitutional argument against the state pension system. Illinois Constitution Article XIII, section 5 provides for a contractual right to pension benefits for state pension system members, thereby allowing a cause of action against the state pension system if funding were to drop to a level that would render the system unable to provide these benefits.60 Illinois Constitution Article IX, section 9 disallows the creation of state debt without the proper vote of the General Assembly or the Illinois electorate,61 and Public Act 94-004 seemingly purports to create state debt without meeting said voting requirements, thereby violating the Illinois Constitution. In particular, the cuts in State pension funding for FY2006 and FY2007 as outlined by Public Act 94-004, (which also outlines measures for increased State contributions for FY2008, FY2009, and FY2010 in order to make up for the lack of State funding in the two preceding fiscal years) creates a future funding obligation that can be construed as state debt.62 In essence, “[t]he pension fund is not state revenue to be allocated according to political priorities, it is deferred compensation to state employees who have worked all their lives to earn it. It is their money; the state has committed to it, and it is protected by the state Constitution.”63
In 1994, Public Act 88-593 outlined a State contribution plan to help get the public pension system back on track and bring the system back up to being 90% funded by 2045.64 However, diversions away from such measures of reform, such as the pension raids under Public Act 94-004, only increase unfunded liabilities and further impede the realization of an improved funded ratio for the state pension system. In order to maintain a secure public retirement system for the State of Illinois, State contribution requirements must be met every year, rather than deferred to a later date in the future where retribution comes at a higher cost.
1. Donald L. Barlett and James B. Steele, The Broken Promise, Time, Oct. 31, 2005, at 32.
2. See 40 Ill. Comp. Stat. 5/2-101 (West 2005).
3. See 40 Ill. Comp. Stat. 5/14-101 (West 2005).
4. See 40 Ill. Comp. Stat. 5/15-101 (West 2005).
5. See 40 Ill. Comp. Stat. 5/16-101 (West 2005).
6. See 40 Ill. Comp. Stat. 5/18-101 (West 2005).
7. State of Illinois Comptroller Daniel W. Hynes, Illinois State Pension Systems Face Challenges, Fiscal Focus at 1 (Jan. 2003).
8. See Illinois Pension Code, 40 Ill. Comp. Stat. 5 (West 2005), for the regulations that govern the Illinois state pension system.
9. See generally Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005) (briefly describes how the state retirement systems are funded).
10. Nanette Byrnes, Sinkhole! How Public Pension Promises are Draining State and City Budgets, Bus. Wk. Online, June 13, 2005, at 4.
11. Steve Stanek, Illinois’ Public Pension Crisis, The Heartland Institute, May 2005, at 2, available at http://www.heartland.org/pdf/17028.pdf. The Heartland Institute is an independent, nonprofit public policy research organization based in Chicago, Illinois.
13. State of Illinois Comptroller Daniel W. Hynes, Illinois State Pension Systems Face Challenges at 2.
14. Steve Stanek, Illinois’ Public Pension Crisis, The Heartland Institute, May 2005, at 2.
15. PowerPoint presentation: Tackling a Legacy of Debt, presented by the Illinois House Republicans’ Retirement Security Task Force (Sept. 13, 2005) (on file with author).
16. Id. See also 40 Ill. Comp. Stat. 5/1-103.3 (West 2005) (formerly known as Pub. Act 88-593).
17. State of Illinois Comptroller Daniel W. Hynes, Illinois State Pension Systems Face Challenges at 3.
18. Id. at 6.
19. Byrnes, supra note 10, at 5.
20. Stanek, supra note 11, at 3.
21. See Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West).
23. Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West); 40 Ill. Comp. Stat. 5/14-131(e) (2005).
24. See Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West).
25. PowerPoint presentation: Tackling a Legacy of Debt; See State Rep. Robert W. Pritchard, Report to the District on June 26, 2005 (Nov. 13, 2005) http://www.pritchardstaterep.com/districtupdate062805.htm.
26. State Rep. Robert W. Pritchard, Report to the District on June 26, 2005 (Nov. 13, 2005), available at http://www.pritchardstaterep.com/districtupdate062805.htm.
27. See generally Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West) (describes changes in the amount of state contributions to the pension system for FY2006, which is set at a flat amount of $938 million rather than the actuarial figure of $2.117 billion in accordance with the Illinois Pension Code, representing a loss of $1.178 billion).
28. Ill. Const. art. 13, § 5.
29. Houlihan v. City of Chicago, 714 N.E.2d 569, 575 (Ill. App. Ct. 1st Dist. 1999); McNamee v. State of Illinois, 672 N.E.2d 1159, 1162 (Ill. 1996) (quoting Ill. Const. art. 13, § 5.).
30. McNamee, 672 N.E.2d at 1162; In re Marriage of Menken, 778 N.E.2d 281, 284 (Ill. App. Ct. 2d Dist. 2002). See also Di Falco v. Board of Trustees of the Firemen’s Pension Fund of the Wood Dale Fire Protection District No. One, 521 N.E.2d 923, 925 (Ill. 1988); Kerner v. State Employees’ Retirement System, 382 N.E.2d 243, 247 (Ill. 1978), cert. denied, 441 U.S. 923 (1979).
31. Felt v. Board of Trustees of the Judges Retirement System, 481 N.E.2d 698, 700 (Ill. 1985) (quoting Comments of Delegate Henry I. Green, 4 Record of Proceedings, Sixth Illinois Constitutional Convention 2925.).
32. Miller v. Retirement Board of Policemen’s Annuity, 771 N.E.2d 431, 438 (Ill. App. Ct. 1st Dist. 2002) (citing Felt at 700 and Comments of Delegate Helen C. Kinney, 4 Record of Proceedings, Sixth Illinois Constitutional Convention 2929.).
33. McNamee, 672 N.E.2d at 1161; People ex. rel. Illinois Federation of Teachers v. Lindberg, 326 N.E.2d 749, 751 (Ill. 1975), cert. denied, 423 U.S. 839.
34. Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005).
35. McNamee, 672 N.E. 2d at 1160-61.
36. Id. at 1166.
37. Id., quoting 4 Record of Proceedings, Sixth Illinois Constitutional Convention 2926 (comments of Delegate Kinney). See also Sklodowski, at 379.
38. See State Rep. Robert W. Pritchard, Report to the District on June 26, 2005.
39. State Rep. Robert W. Pritchard, Report to the District on June 26, 2005.
40. Ill. Const. art. 9, § 9(a).
41. United States v. Austin, 462 F.2d 724, 736 (10th Cir. 1972).
42. United States v. Austin, 462 F.2d 724, 736 (10th Cir. 1972). See also People ex. rel. Sklodowski v. State, 695 N.E.2d 374, 379 (Ill. 1998), for an explanation of the contract to benefits for pension system members. See Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West), for a description of the decreased State contributions to the public pension system for FY2006 and FY2007 and the increased contribution levels established for FY2008, FY2009, and FY2010 in order to make up for the funding shortage in FY2006 and FY2007.
43. Quoting Ill. Const. art. 9, § 9(a); See Illinois Pension Code, 40 Ill. Comp. Stat. 5 (West 2005), for the regulations that govern the Illinois state pension system.
44. Ill. Const. art. 9, § 9(a).
45. Ill. Const. art. 9, § 9(b).
46. S. 27, 2005, 94th Gen. Assem., Reg. Sess. (Ill. 2005), Illinois General Assembly voting history for SB0027. Senate vote tallies were taken from the third reading in concurrence with a House amendment, which was the Senate’s final vote. This bill passed both the House (by 54% of votes cast) and the Senate (by 55% of votes cast) on May 29, 2005 and was signed into law as Pub. Act 94-004 on June 1, 2005.
47. Quoting Ill. Const. art. 9, § 9(b). If it is found that Pub. Act 94-004 does create state debt, this law does not comply with the criteria of this section of the Illinois Constitution because the law was not passed by a three-fifths majority in either house of the General Assembly, nor was it put to a vote of the electorate.
48. See Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West) for the changes to the state contribution levels to the Illinois state pension system in the Illinois Pension Code.
49. See Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West).
50. Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005).
51. See Id.
52. Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005) (referring to 3 Record of Proceedings, Sixth Illinois Constitutional Convention 1926-1934, 2095-2111; 5 Record of Proceedings, Sixth Illinois Constitutional Convention 3848-3872, 3896-3907.).
53. Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005).
54. Id., referring to Black’s Law Dictionary 768 (6th ed. 1990) for the definition of “incurred”.
56. See Id., referring to Op. Ill. Att’y Gen. No. 04-003 (June 2, 2004).
57. See generally Pensions: Constitutionality of General Assembly Reducing Scheduled State Contributions to the Retirement Systems, Op. Ill. Att’y Gen. No. 05-005 (June 30, 2005) (briefly describes how the state retirement systems are funded).
59. See generally Ill. Const. art. 13, § 5 (protects the receipt of pension benefits for state pension system participants).
60. Id. (defines membership in a state pension system).
61. See generally Ill. Const. art. 9, § 9 (prohibits the creation of state debt unless certain procedures are followed).
62. See generally Act of June 1, 2005, Pub. Act 94-004, 2005 Ill. Legis. Serv. (West) (describes changes in the amount of state contributions to the state pension system over the next five years).
63. Robert Rosemier and Irene Rubin, Pension Fund Requires Professional Manager, Pantagraph (Bloomington, ill.) (Oct. 2, 2005), 2005 WLNR 16214897.
64. See generally 40 Ill. Comp. Stat. 5/1-103.3 (West 2005) (formerly known as Pub. Act 88-593, describes a payment plan to fund the pension system to achieve 90% funding of pension system liabilities).
Victoria M. Cosentino is a third year law student at Northern Illinois University College of Law. B.A., cum laude, University of Illinois at Urbana-Champaign in 2003; J.D. expected May 2007.