If the FY2008 Budget remains as passed and vetoed, then:

1. CENTER FOR TAX AND BUDGET ACCOUNTABILITY70 E. Lake Street  Suite 1700  Chicago, Illinois 60601 direct: 312.332.1049 Email: rmartire@ctbaonline.orgPensions and the State Budget Prepared by:Ralph MartireExecutive DirectorThursday, September 20, 2007; 4:00 pm – 6:00 pm University of Illinois at Chicago Chicago Rooms B & C Student Center West 828 S. Wolcott Street Chicago, IL 1

2. 2

3. If the FY2008 Budget remains as passed and vetoed, then:  Pension contributions will increase from the FY07 level to just over $1 billion to $2.018 billion in FY2008  That would mean the percentage of the GRF devoted to the pensions would increase from the FY2007 level of 3.9% to just over 7% of FY2008 3

4. GRF Expenditures by Category, 1995 - 2006 **Notes: Health care includes Medicaid and state employee health insurance Sources: State of Illinois' Traditional Budgetary Financial Reports and Fiscal Focus Illinois' FY2006 Budget National Association of State Budget Officers Comptroller Fiscal Focus, January 1997 CPI and ECI based on Bureau of Labor Statistics 4

5. 5

6. Figure 3: 2006 Funded Ratio and Share of Debt of the Five Illinois Retirement Systems[1] [1] Ibid – FY 2006 numbers reported by the Illinois Commission on Government Forecasting and Accountability. 6

7. Systems Share of $40.7 billion Unfunded Liability 7

8. 8

9. 9

10. HOW DID ILLINOIS GET HERE?

11. Comparable State & Local Government Annual Retirement Benefits 11

12. Average State & Local Government Employment Annual Retirement Benefits 12

13. Illinois State Retirement Benefits 13

14. Participants in the Illinois Pension Plans 14

15. FY 07 Comparison of Pensions Systems Normal Cost 15

16. FY07 Normal Costs of the Five Illinois Retirement Systems 16

17. 17

18. IS SWITCHING TO A DEFINED CONTRIBUTION SYSTEM THE ANSWER?

19. Defined Contribution—Reality • Because of Illinois constitutional restraints, switching to a defined contribution system does not and cannot reduce the state's current $40.7 billion unfunded liability. The sole way to cover this liability is to design a rational program that does not back load costs like current law. • Defined contribution systems have significantly higher annual administrative costs than fully funded defined benefit systems. If Illinois moved to a defined contribution system for all current participants in the five Illinois state pension systems, that change would cost taxpayers from $275 million to $610 million per year in additional administrative costs. • If contribution rates remained the same, defined contribution systems can be expected to generate significantly lower retirement benefits. For example, when Nebraska switched to a defined contribution system, the average benefit was only $11,230 per year compared to $16,797 per year under the defined benefit system. • In the defined contribution setting, investment returns belong solely to an employee who makes the investment in his or her retirement account, and are not available to reduce the employer contribution. Frequently fully funded defined benefit plans attain high enough investment returns that public sector employers are able to reduce the amount of normal cost paid from tax collections, freeing taxpayer revenue to cover services. This was the experience of the Illinois Municipal Retirement Fund (IMRF). As of December 31, 2006, IMRF was 100.5 percent funded on an actuarial basis, because of this rates will fall from an average10.4 percent in 2006 to 9.72 percent this year, saving taxpayers millions. 19

20. Defined Contribution—Reality • Defined contribution systems have the advantage of creating fiscal discipline that is absent from a defined benefit system. Due to their construction, defined contribution systems would force the state to make the required employer contribution into the employees account on a per pay period basis, rather than offering promises of future benefits, as under the current defined benefit system. • From an employee's perspective, a defined contribution system would have two advantages over a defined benefit system: (i) the benefits would be portable from job to job; and (ii) an employee could access his or her defined contribution account for emergencies pre-retirement (although subject to tax penalties, in certain situations). • The three main disadvantages of a defined contribution system are: (i) reduced and uncertain retirement benefits; (ii) lesser investment returns; and (iii) market risks. • On balance, when funded in a fiscally responsible manner, a defined benefit system permits the public sector to provide its workers with better retirement benefits at lower overall cost to taxpayers. 20

21. The Illinois Structural Deficit (How Revenue Growth will not Keep Pace with the Cost of Current Services) 21

22. Growth in State Issued Revenue and General Obligation Bond Debt: 2000-2006 $25.000 $22.820 $22.241 $21.809 $20.812 $20.000 $15.000 $9.543 $10.000 $8.444 $7.684 $5.000 $0.000 2000 2001 2001 2003 2004 2005 2006 22

23. Since 2000, the percentage of general fund revenues going to pay off debt has risen from under 4% to over 7% of total revenues. That means almost $2 billion of all general funds WENT to paying off debt and interest in the last, complete Fiscal Year (2006) instead of going to fund public services. 23

24. General Obligation and State-Issued Revenue Debt as a Percentage of General Fund Revenues 8% 7.08% 7% 6.40% 6.06% 6% 4.73% 5% 4.42% 4.02% 3.83% 4% 3% 2% 1% 0% 2000 2001 2002 2003 2004 2005 2006 24

25. Debt Comparisons: Illinois v. Other States • Illinois has more total debt than only two other states, California and New York. • In 2004, Moody’s reported Illinois owned 7.5% of the total national debt. • In 2006 Fitch Ratings assigned a negative rating outlook to Illinois based on the state’s continued financial constraints, as evidence by a budgetary basis fund balance deficit that has existed for many years. In addition, Fitch Ratings notes that barring a significant revenue increase or a substantial reduction in expenditures Illinois will be unable to follow its own plan to contain the growing billion dollar unfunded pension liability. “This intractable problem, including cash flow pressure is able to impair credit quality despite the breadth and wealth of the state’s large economy.” • The National Association of State Budget Officers report that when per capita debt is more than $1,200, as is Illinois, it becomes unmanageable for the state. • Illinois has more than double debt per capita than the national average. 25

26. Tax-Supported Debt Per Capita: Illinois Ranks 6th Nationally in Debt Per Capita which is More Than Double the National Average $2,500 $2,019 $2,000 $1,500 $999 $1,000 $500 $0 Illinois National Average 26

27. Illinois also ranks high nationally when comparing tax-supported debt as a percentage of personal income. Again, the state has almost double the national average. • Moody’s rates Illinois lower than 30 states in its credit rating. Thirteen states rank similar to Illinois and three are given credit ratings lower than Illinois. 27