Starting the day with a bang, the Illinois Supreme Court released their ruling on two Chicago pension reformation plans, finding them unconstitutional, saddling the city with increased pension payments and making another set of municipal tax increases a near certainty.

Link To Supreme Court Ruling

“Though disappointing, this ruling does not change my commitment to ensuring employees and retirees have a secure retirement without placing the full burden on Chicago taxpayers,” Mayor Rahm Emanuel said in a statement.

While the decision was a unanimous 5-0 ruling, Justices Charles Freeman and Anne Burke did not participate in the decision. Their districts both entirely lie within the City of Chicago. Justice Burke is also married to City Council Finance Committee Chairman, Ald. Ed Burke (14). Ald. Burke did not respond to Aldertrack’s request for comment on the pension ruling.

The Mayor’s pension plan was to reduce annuity benefits for public employees, then ramp up pension payments and put both funds on a path toward financial stability.

But there was no guarantee state courts would find it constitutional, so the Mayor and City Council took a series of risky bets last October when they approved the FY2016 budget, and with it a record $543 million property tax increase.

The first risk was when the Mayor’s Office based projected Municipal Employees (MEABF) and Laborers (LABF) pension payments on the law being upheld. Second, Mayoral staff based projected Police and Fire pension payments on the bet that state government would enact a bill to amend that payment schedule. That hoped-for bill, SB777, has passed the legislature, but has languished in legislative purgatory for over a year, passed by the Assembly, but unsigned by Gov. Bruce Rauner.

Amanda Kass, of the Center for Tax and Budget Accountability, called it a “fundamental misstep” and said that both laws were “very much up in the air” when the budget passed last October. “The city was hedging its bets on long shots,” she told Aldertrack yesterday, and that the record property tax increase was nowhere near what city pension funds needed.

During October’s budget process, several aldermen asked for worst case scenario plans, and suggested a bigger property tax hike might have been better. But the Mayor’s financial team, led by Budget Director Alex Holt and Chief Finance Officer Carole Brown, urged that their budgeted pension payments were safe bets for the time being.

At the time, the City Council’s newly formed Office of Financial Analysis, led by Ben Winick, agreed, concluding that the Mayor had little time to assess other options. “A number of other alternatives have been suggested [like a financial transactions tax, service tax, or commuter tax], and many of them warrant further discussion. But given the timing of when these liabilities are coming due, and the legal impediments to enacting them, the feasibility of assuming those changes to make the legally required pension contributions for 2015 and 2016 would not be a responsible course of action for the City to take.”

In the short-term, the city will actually need to make smaller pension payments, putting roughly $100 million less than originally planned for the FY 2015 payment into the Municipal Employee and Laborer Funds. Yesterday’s ruling means the city has to only make its statutorily required payment, based on a fixed multiplier, not the ramped up funding plan it pushed for in the law just struck down.

So what happens to the extra cash?

“The increased funding is set aside, and the City will make a final decision on how to utilize the additional funds once we’ve determined the next steps for the municipal and laborers pension funds,” Molly Poppe, a spokesperson for the city’s Budget Office told Aldertrack.

Explanation of Supreme Court Case & Ruling

The law the state’s highest court struck down, P.A. 98-641, would have increased city funding and employee contribution rates, while reducing annual increases for current and future retirees for the MEABF and LABF. The attorneys representing the city’s pension funds had argued the changes provided a “net benefit” to the beneficiaries by preventing the two funds from going insolvent in the next decade, and that in the long run, beneficiaries would benefit from a healthier and more stable pension fund.

Members of the two funds, which represent 79,000 city employees and non-teacher employees of CPS, argued the cuts infringed on their right to receive a pension, because under the Illinois constitution, public pension benefits cannot be “diminished or impaired.”

In their decision, the state’s highest court ruled that the city’s “net benefit” argument started from a “flawed premise,” because benefits are already protected under the state’s constitution. “The fact that some of its provisions are directed at improved funding cannot overcome the fact that constitutional rights of employees and retirees would be violated.”

The court also agreed with a lower court ruling that said the city’s argument didn’t hold up, because it had been warned, for years, that the current formula it uses to calculate its contributions was not sufficient to cover benefits, yet “the method of funding remained static.”

For example, in 2014, the city made a $180 million payment to the MEABF, which was based on that fixed multiplier of 1 or 1.25 times the total annual employee contributions. The “actuarially required” amount determined by the pension fund–the amount it needed to pay out owed benefits–was $839 million, a $659 million gap.

“The pension protection clause does not guarantee any particular method of funding, but, rather, guarantees the right to be paid,” the court opinion explained. The drafters’ original intent was to protect benefits, while giving the General Assembly the authority to take the necessary steps to fund the pension obligation.

Ruling May Hurt City Bond Ratings

The Civic Federation said the decision wasn’t a victory for anyone, because it doesn’t address the funds’ projected insolvency and “adds additional financial pressures to an already distressed City government.”

“The ruling also limits the options available to financially strained local governments throughout the State,” the Civic Federation said in an emailed statement, “and points to the need for a constitutional amendment to clarify the State’s pension protection clause. This should be yet another wakeup call to every member of the Illinois General Assembly and the Governor.”

There will likely be an immediate impact on the city’s credit rating. Credit agencies Moody’s and Fitch warned last spring that if the law was struck down, the city’s credit rating could take another hit. In a statement released Thursday morning, Moody’s said it “will continue assessing Chicago’s actions to address unfunded pension liabilities, including any initiatives specifically aimed at the plans affected by today’s court decision.”

Cook County Government Took Action To Avoid Pension Problems

In the 2016 budget, Cook County opted to contribute more to its employee pension fund (County Officers’ and Employees’ Annuity and Benefit Fund of Cook County) than what’s required by law. Commissioners approved a 1% sales tax hike in the summer of 2015. In addition to the $195 million pension payment required by law, the county will put an extra $270.5 million in revenue from that sales tax hike toward pensions to hit actuarially required targets.

The county pension fund is currently 57.5% funded, with a $6.5 billion unfunded liability.

There is a one year intergovernmental agreement with the County’s Pension Fund that allows those extra payments starting in April, but ratings agency Fitch said the move leaves “the county vulnerable to potential litigation from taxpayers challenging the increased payments.”

The first increased payment will be made April 29. As to whether the additional pension payments might open the county up to a lawsuit, Frank Shuftan, Communications Director for Cook County Board President Toni Preckwinkle said, “it is speculative and responding at present would be equally speculative.”

“Our finance staff is reviewing today’s Supreme Court decision to determine how it impacts efforts to ensure long-term fiscal viability for the Pension Fund that serves County employees and retirees,” Shuftan said. “The Court’s decision appears to settle some elements of the law while leaving others open. We will continue our collaboration with all stakeholders to identify appropriate, constitutionally sound measures to restore and preserve the Fund’s long-term solvency.”