Experts: Illinois lawmakers wrong to back 80% funding level for pensions

Illinois’ 90% funding target already violates best practices, but some have proposed going even lower. That’s a bad idea based on a myth, according to the American Academy of Actuaries.

Illinois plans to pay 90% of its pension debt by 2045, but some are calling for the target to be lowered to 80% or even 70%.

Mistake, say the experts.

Illinois pension debt is the worst in the nation at $313 billion, according to Moody’s Investors Service. The state’s pension crisis is the result of a poorly designed retirement system that overpromises benefits relative to employee contributions. Reckless funding games by Illinois politicians have compounded the debt. Still, some groups continue to push for further violations of best practices in pension funding.

A recent report from the American Academy of Actuaries explains why 100% is the only acceptable funding target for a pension plan, warning against the myth that an 80% target can achieve financial health.

Illinois currently has a funding goal for its pension programs of 90%. Illinois pensions have not been able to reach anything close to this number in practice. The pension systems don’t have the money to pay out the benefits that have been promised, putting state workers at risk in the long term. Some organizations have proposed reducing the funding target more, with the Illinois Municipal League supporting an 80% target and the Center for Tax and Budget Accountability advocating for a 70% target.

These proposals are short-sighted, but some are pointing to a slight drop in pension debt this year as justification for reduced funding. Unfunded liabilities in the five state pension systems that cover university employees, state workers and most teachers outside of Chicago shrank by $2.1 billion in the past fiscal year, dropping from $141 billion in 2020 to $139.9 billion in 2021. In the long run, Illinois’ pension crisis is as severe and threatening as ever.

This year’s temporary improvement in pension fund balance sheets is the direct result of a flood of federal pandemic aid, not state policy changes. That funding helped markets recover, leading to outsized pension investment returns for most large funds in excess of 20%. But big boom years are often followed by corrections, and Illinois’ long-term investment performance shows pension managers should view the abnormally large returns as an outlier and a temporary improvement that will not continue.

Illinois’ aggregate pension funding ratio still sits perilously close to a point of no return at 42.4%. People who argue for lower target funding ratios are misunderstanding the difference between a funding target and a one-time measurement of the current funded ratio.

An 80% funded status is relatively healthy only because most public pension funds in the U.S.  carry debt and few are 100% funded. Funded ratios are a snapshot of the current condition of the pension fund at a specific time, while a funding target is a future goal that determines how much must be paid to pensions annually. A funded ratio of 60% is considered a very unhealthy fund and 40% is considered a “point of no return.”

Illinois’ current 90% funding target already violates best practices in pension funding, according to the American Academy of Actuaries. Even Illinois’ 90% goal knowingly shorts its contributions by 10%, leaving the state with a targeted funding level that would still leave its retirement systems in debt.

That target began with the infamous Edgar ramp in 1994. That plan put the state on a 50-year repayment trajectory through 2045, but with too low a target and backloaded payments. Championed by then-Gov. Jim Edgar, the plan was supposed to solve the state’s $15 billion pension shortfall at the time. That shortfall is now more than 20 times higher about halfway through the intended repayment schedule.

For private-sector pension plans, federal law uses an 80% funded ratio as a trigger point for certain automatic reforms. All of those private sector plans are required to target a 100% funding ratio for their contribution policy.

Because Illinois already spends more on state and local pensions as a share of revenue than any other state, more than double the national average. It lacks the fiscal capacity to reach 100% pension funding without structural benefit reform. The Illinois Policy Institute’s “hold harmless” plan – which requires a constitutional amendment to unlock changes to future, unearned benefits – achieves this by 2045 while preserving already-earned benefits for workers and retirees.

Reckless funding games helped create Illinois’ pension crisis. Refusing to learn from past mistakes and continuing to ignore best practices will make the problem worse. Only real reform can protect taxpayers from the crushing effects of pension debt and save public servants from seeing their retirements vanish.