Illinois Issues: The Next Pension Time Bomb

Mar 30, 2016

Illinois has more than $100 billion in pension debt. So far, attempts to fix it have been mostly illegal.

Editor's note March 31, 2016: A recent study puts the state’s Tier II pension system back under scrutiny.

The report, which comes from nonprofit education consultant Bellwether Education Partners, focuses on teacher pensions in Illinois. The unfunded liability of the Teacher’s Retirement System of the State of Illinois makes up more than half of the state’s projected $113 billion in pension debt.

In an effort to begin to address the unfunded liability, lawmakers approved a less generous retirement benefit package for public employees hired after 2011. The report notes that teachers hired under the new system, known as Tier II, will actually lose money on their pension contributions, when compared to their benefits, for the first two decades of their careers.

The report says that because it takes 10 years to vest in the system and become eligible for a pension, more than half of new teachers will never collect benefits. Teachers hired before 2011 vest in five years. Contributions taken out of the Tier II system are hit with a withdrawal tax, so teachers who don’t vest would actually be better off if the money had never gone into the system.

“The state plan assumes, and depends upon, the fact that the majority of teachers will not stay long enough to collect full benefits. Under the current plan, more than half of new teachers will not qualify for any pension benefits at all,” the report says.  “In many cases, new and future teachers pay more in contributions than their pension benefits are worth; they are essentially subsidizing the state’s debt.”

The report also notes that Tier II benefits will likely run afoul of federal law, and the state could be required to offer Social Security benefits to employees not currently enrolled in Social Security. This group includes teachers and public university employees.

In light of these findings, we are highlighting this Illinois Issues story on the Tier II system, which took an in-depth look at these concerns. This story was originally published in July of 2015. Included in this updated post is a new interview with one of the authors of the Bellwether Education Partners report. 

Teachers comprise the largest college-educated workforce in this country. They generally accept lower pay to teach than they might earn in other fields, based on their education levels. Sure, they probably do so because they like their jobs. But they also make the sacrifice because teaching has historically come with a tradeoff of good benefits — time off in the summer, regular holiday breaks and pensions.

In Illinois, the final leg of that benefits proposition has cracked.

The National Council on Teacher Quality reviewed the state of teacher pensions across the country in a 2015 report, highlighting Illinois as one of the most egregious examples of states combating a crisis on the backs of new teachers. Starring in the hypothetical scenario are two teachers in the Springfield Public School District — both have similar credentials and start and stop teaching at the same ages, 25 and 55. Amy started in November 2010, Allison just two months later, in January 2011.

Based on the school district’s salary schedule and the NCTQ’s calculations, Allison will end her 30-year teaching career with barely more than $243,000 in pension wealth. Amy’s pension, on the other hand, will be valued at nearly $550,000. Both women contributed the same portion of their pay toward retirement, and they were on identical salary schedules throughout their careers. That means they both had about $200,000 automatically deducted from their paychecks and funneled to the retirement system while they were teachers. But Amy will have a much more comfortable retirement.

Allison, hired in 2011, joined a second tier of public sector employees who are still required to pay the same portion of their salary toward retirement but who get a substantially lesser benefit from the system. In fact, their benefit might be so little as to be illegal under federal law.

How did Illinois get here? Illinois has five retirement systems for its various groups of employees: teachers (not including those who work in Chicago Public Schools), state employees, state university employees, judges and members of the General Assembly. Across all five funds, the state has $111.2 billion in unfunded liability, meaning its promises of future benefits exceed its projected savings by more than $111 billion. The Teachers’ Retirement System is the largest single system in the state and the one that accounts for 55 percent of total assets and liabilities, according to the Center on Government Forecasting and Accountability. TRS’ unfunded liability alone is $61.6 billion.

Sen. Michael Noland, a Democrat from Elgin, was one of the original cosponsors of the legislation that created Tier II. He says he didn’t support elements of the new benefit structure, including raising the retirement age to 67, but overall he says Tier II was a way to make the best of a bad situation.

“Basically what this came down to was ... at the time, the notion of whether we were going to have to break the promises that we had already made with the Tier I and/or create a new normal moving forward,” Noland says.

Critics of teachers and other public sector employees will say the reason for the gargantuan gap between what the pension systems should have and what they do have is too-sweet benefits. Conservatives might also jump in and say public sector unions have negotiated pension benefits to a level that taxpayers can’t afford and workers don’t deserve. But Ralph Martire, executive director of the Center for Budget and Tax Accountability, says it is clear that benefits did not cause the problem.

“It’s irresponsible action by elected officials,” Martire says. The head of the Chicago-based, bipartisan, nonprofit think tank does not hold back when discussing Illinois’ pension problems or the legislative proposals ostensibly aimed to fix them.

Benefit levels for Illinois public sector workers are not extravagant when compared to their peers in other states. To the contrary — benefits for new teachers are among the worst in the nation, given how much teachers put into the retirement systems. The problem, Martire argues, is that employee contributions are only part of the equation and politicians have consistently voted to skip the state’s contributions.

“The unfunded liability in the pension system is a symptom of the state’s fiscal problems,” Martire says. “It didn’t create them.”

Time for a history lesson. The unfunded liability in the pension system was about $17 billion in 1995, when the legislature decided it should put a payment plan in place to shrink the gap. Until that point, the government had hired workers, promising them they’d get certain benefits upon retirement but essentially writing IOUs to the pension system instead of actually making payments.

The state honestly just assumes that over time the unfunded liability will go away because new teachers are paying into the system to subsidize that debt.

  Accountants have kept track of those IOUs, counting the missed payments as debt that must be repaid. Illinois is one of the few states that protect the benefits of public employees in its constitution. It was never an option to renege on the promised benefits. So in 1995, legislators approved a debt repayment plan that would make the pension system 90 percent funded by 2045. Only they created a “ramp” that required low payments in the initial years and steadily larger payments over time. Essentially, they continued underfunding the system for more than a decade.

Martire calls the repayment schedule “political shenanigans” that let sitting politicians avoid necessary tax increases and “kick the can down the road.” Then, once it came time for bigger payments, legislators tried to figure out again how they might get out of paying the bill. And just because the state Constitution specifically says public pension benefits cannot be “diminished nor impaired,” but that doesn’t mean legislators didn’t try that route. After reducing benefits for all new employees, creating a second tier in the benefit structure, the legislature approved Senate Bill 1 in 2013. It would have cut the pensions of active and retired state workers.

Then-Gov. Pat Quinn signed legislation calling for cuts to pension benefits for employees and retirees. The Illinois Supreme Court tossed out the law earlier this year.
Credit Harvey Tillis / Illinois Information Service

Noland was among the minority of legislators who voted against this fix, saying promises made need to be promises kept. In the end, the Illinois Supreme Court struck down that solution, announcing its ruling this past May and leaving the state with its only debt-reduction strategy being reduced benefits for Tier II employees.

State statute requires teachers pay 9.4 percent of their salary toward the pension system from every paycheck. Teachers hired after 2011, however, have a different benefit structure. In fact, pension contributions from new teachers, like the fictional Allison from the NCTQ report, end up subsidizing the benefits of teachers, like her colleague Amy.

Chad Aldeman, an associate partner at nonprofit education consulting group Bellwether Education Partners, calls Illinois’ pension plan for new teachers one of the worst in the country. “The state honestly just assumes that over time the unfunded liability will go away because new teachers are paying into the system to subsidize that debt,” Aldeman says.

Only, the system may not be legal. Public school teachers in Illinois don’t pay into Social Security. Neither do the schools that hire them. The federal government allows this for public sector workers only if they receive benefits that exceed what they would get from the federal retirement program. Tier II workers haven’t started retiring yet, but some analysts are sure that once they do, their benefits will not be enough to qualify them for the Social Security exemption.

Then the state might find itself in the middle of another lawsuit.

Sen. Daniel Biss, a Democrat from Evanston, introduced a resolution in April urging the Teachers’ Retirement System and State Universities Retirement System to request an official ruling from the IRS about whether Tier II pension benefits for their participants are generous enough to exempt employees from Social Security. During a press conference announcing the resolution, Biss referenced the repayment plan from the 1990s that has left the state pension systems with exploding collective debt. He called that pension bill “wildly supported” at the time and cautioned lawmakers against making the same mistake again. “We must think of the consequences literally for decades to come,” Biss said. 

Despite the Supreme Court’s recent ruling, Gov. Bruce Rauner has advocated expanding Tier II to existing workers, reducing the retirement benefits they were promised upon being hired to match the lower levels. During his budget address, he described the current system as “unsustainable” and “unfair” to taxpayers. “Government employees deserve fair and competitive benefits, but we cannot continue to raise taxes on all Illinoisans in order to fund the retirement benefits of a small fraction of our residents,” he said.

Rauner contends that because the plan does not reduce benefits already earned, it is constitutional. There are plenty of lawmakers who say they doubt this assertion. And if the proposal were to pass, there would certainly be a legal challenge that would likely end up before the state’s Supreme Court.

Rep. Elaine Nekritz and Sen. Daniel Biss were key to the passage of SB 1. After it was ruled unconstitutional, they called for an IRS review of Tier II.
Credit Brian Mackey / WUIS/Illinois Issues

If the plan ultimately became law, it would save the state a lot of money, but those savings would evaporate if the state were one day forced to disburse more generous benefits or reimburse the Social Security system. And the money that could have been going into the system year after year, earning interest and investment income, would be gone.

Biss’ resolution, which the Senate approved at the end of May, asks the legislature to hold off on any pension initiatives until the retirement systems get feedback from the Internal Revenue Service. The goal is to avoid the illusion of a pension solution that merely obscures a continuing problem.

Sara Wetmore, vice president and research director at The Civic Federation, points out that the Tier II system was approved so quickly — it passed through both chambers in a single day — that lawmakers didn't get to see detailed projections of its impact from pension system actuaries. “They passed this so quickly that there really wasn’t any way for anybody to know if there would be any problems in the future,” Wetmore says.

The Civic Federation, a Chicago-based nonpartisan policy research organization, supported the legislation that created Tier II as a first step towards tackling pensions costs. “We certainly never said that it was a panacea, only really a good step in the right direction.”

But Wetmore says her organization recognizes that there could be problems with Tier II down the road. While The Civic Federation has not taken a stance on Biss’ resolution, Wetmore says that lawmakers should take steps “in order to ensure that Tier II remains legal.” She adds that any future debate over changes to pensions should include actuarial data from the systems, so legislators would know the potential outcomes of their decisions.

They passed this so quickly that there really wasn't any way for anybody to know if there would be any problems in the future.

Dan Montgomery, president of the Illinois Federation of Teachers, called guidance from the IRS a formality. He says it is clear that Tier II benefits are among the worst in the nation. No matter what the IRS says, legislators shouldn’t be satisfied with the current system. “We shouldn’t be striving for the bare minimum,” he says.

But unions have been kept so busy trying to maintain benefits members are supposed to be guaranteed, they haven’t been able to spend much time advocating for greater benefits for new employees. And union leaders say that many of those new employees don’t even know they should be advocating for themselves.

Michael Williamson, president of the LEAD 300 teachers union in Carpentersville-area Community Unit District 300, says he finds new teachers are preoccupied with figuring out how to manage a classroom and don’t pay much attention to pensions — especially those who are fresh out of college and decades from retirement. “Our members who are 22, 23 — pensions aren’t real to them,” Williamson says.

For many of those teachers, pensions will never become real. It takes 10 years of service for Illinois teachers in Tier II to “vest” in their plan. In most states, vesting in a pension plan marks the point at which employees become eligible to collect employer contributions to their retirement. According to the National Council on Teacher Quality’s pension report, Illinois teachers are some of the only ones nationwide who must vest before they are even able to recover all of their own contributions. And most teachers don't even stay in the field that long. Money they never become eligible to collect simply stays with the system.

Beyond threatening an individual's retirement security, insufficient public pensions also put communities at risk as they reduce the number of retirees with stable, healthy incomes. In 2014, there were 132,886 members of the Teachers’ Retirement System sprinkled throughout the state. The vast majority were Tier I teachers, guaranteed decent benefits and cost of living adjustments that allow their income to keep up with the growing cost of their expenses.

By 2024, TRS estimates Tier II employees will outnumber their predecessors. Eventually, they will begin to retire, with limited benefits and no access to social security, increasing the probability they will need income-based government aid.

But Martire and the Center for Tax and Budget Accountability have a proposed solution. It includes raising the income tax, expanding the sales tax base, and overhauling the debt repayment schedule for the pension systems. Right now, the state estimates the “real cost” of pensions is about $1.4 billion per year but it spends $6.8 billion. The difference between the real cost and the total payment is all debt. Rather than requiring steadily increasing debt payments like the legislature approved in the 1990s, the CTBA recommends “level-dollar” payments, which mimic a standard mortgage. The state would pay the same amount every year, which, with inflation, would actually mean the cost of pensions becomes a smaller and smaller portion of the state budget.

Noland filed legislation with all of these elements in February. He says Senate Bill  1260 treads familiar ground, mirroring a plan once introduced by Rev. James Meeks when he was in the House. But the measure hasn’t made it out of committee. There are a number of legislators who support the solution, and it would be difficult to find one who does not think that the state must address its pension crisis. The question is whether a majority of them will focus their time and energy on finding a legal option to do that — instead of coming up with more ways to avoid the bill.

Illinois Issues is in-depth reporting and analysis that takes you beyond the headlines to provide a deeper understanding of our state. Illinois Issues is produced by NPR Illinois in Springfield.