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Effect of police and fire pension consolidations on property taxes remains uncertain

Illinois Gov. J.B. Pritzker announces a plan to consolidate more than 600 pension funds for suburban and downstate police officers and firefighters at the State of Illinois Building in Chicago on Oct. 10, 2019.

Four years after Gov. J.B. Pritzker signed a landmark consolidation of police and firefighter pensions with a promise of delivering property tax relief across Illinois, the measure’s effect on taxes remains murky while the constitutionality of the law itself is under challenge.

The legal question is now before the Illinois Supreme Court, which is expected to rule shortly on whether the law violates a state constitutional guarantee that public employee pension benefits “shall not be diminished or impaired.”

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Whether the consolidation of hundreds of suburban and downstate police and firefighter pension funds reduces the property tax burden for homeowners and businesses, however, may take longer to become clear, and would depend on a host of political and economic factors.

“Required pension contributions could go up, even with the benefits of consolidation, because funding levels deteriorate because of other factors — because people are living way longer than expected, because actuaries’ assumptions are totally off,” said Amanda Kass, a public finance and pensions expert at DePaul University.

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“Potentially, you could have a situation where taxpayers don’t see true property tax relief, but their property taxes aren’t as high as they would have been had there not been consolidation,” Kass said.

That scenario is unlikely to appease residents in a state with some of the highest property taxes in the country, she said, given “the expectation that’s been sold … that people are going to see a decrease.”

The promise of tax relief was an essential part of Pritzker’s sales pitch for the consolidation, and the pension change has been one of the governor’s go-to responses when pressed on what his administration is doing to address high property taxes.

The idea is so central that the state raised it in defending the law before the state Supreme Court, explaining in a brief filed this fall that the law was “designed to reduce total expenses and increase total investment returns across all funds, thereby lowering the tax burden on local municipalities and their residents, who are ultimately responsible to pay all promised benefits.”

Before Pritzker capped a whirlwind first year in office by signing the measure in late 2019, there had been discussion in Springfield for decades about combining the hundreds of local pension funds charged with securing the retirement of tens of thousands of police officers and firefighters across the state.

Much like the state’s more-publicized problem with $141.4 billion in unfunded pension liabilities, local governments across Illinois have seen their budgets squeezed by soaring debt in their retirement funds for first responders. The year Pritzker signed the consolidation, unfunded liabilities across roughly 650 funds totaled more than $13 billion, according to a recent report from the legislature’s bipartisan Commission on Government Forecasting and Accountability.

At the time, the $15.8 billion in total assets held by those funds was only enough to cover about 55% of liabilities, according to the report, down from a peak of 77% funding in 1999 and well short of the funding target of 90% by 2040 that’s set in state law.

Even before the consolidation took full effect last year, when assets were transferred to the statewide funds, those numbers had improved, with unfunded liabilities dropping to just under $11 billion and the funding level reaching 65% in the state’s 2021 budget year.

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A variety of factors contributed to low funding levels over the years, from inaccurate actuarial assumptions and poor market performance to inadequate contributions from municipal governments and benefit enhancements approved by the General Assembly.

Shortly after taking office, Pritzker put together a task force to tackle the seemingly intractable problem. Months later, its recommendation to pool the investments of each individual fund — which any town with at least 5,000 residents and one full-time police officer or firefighter is required to have — was adopted with bipartisan support in the legislature and embraced by municipal officials and leaders of police and fire unions alike.

Chicago’s police and fire pension funds are not part of the consolidation.

In combining the funds, the state also did away with restrictions on the types of investments that could be made depending on the size of the fund and eliminated the need for local pension boards to hire their own fund managers.

While each fund maintains its own account under the consolidation, investment decisions now are overseen by two statewide boards, one for police and one for firefighters.

Local boards, with some members appointed by municipal leaders and some elected by active police and firefighters and retirees, continue to administer benefits.

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The argument in favor of consolidation was that pooling assets into two large funds would reap better returns by opening up a wider range of investment opportunities while also reducing administrative costs. In turn, that would hypothetically lead to lower costs for municipalities and, eventually, lower property taxes.

The law, however, must withstand the constitutional challenge pending before the state’s highest court.

That challenge hinges largely on whether taking away the power of local pension boards to make investment decisions represents a change that diminishes or impairs retirees’ benefits.

The lawsuit challenging the consolidation, filed in February 2021, was brought by 18 local pension funds and about three dozen active or retired police officers and firefighters. Two lower courts have ruled against the argument that participants’ diluted role in electing representatives to make investment decisions under the new law violates the state constitution’s pension protection clause. A circuit court also dismissed the pensions funds from the case, finding they lacked standing.

Prior to consolidation, each local board was composed of five members: two appointed by the mayor or village president, two elected by active police or firefighters, and one elected by retirees.

“In other words,” attorneys for the plaintiffs wrote, “no one from outside the municipality or its local police and fire department had any say in who would be a member of the board of trustees for that municipality’s local police or fire fund, and in turn, no one from outside the municipality had any say in who would be responsible for management of the fund’s assets.”

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While the local boards still exist with the same composition, they’ve lost all authority over investment decisions, which are now made by managers for the two statewide funds.

Each fund is overseen by a nine-member board. The police board is made up of three members elected by active officers, two elected by retirees, three chosen by local municipalities, and one representative of the Illinois Municipal League appointed by the governor. The fire board is similarly composed, except retirees elect only one representative, with the remaining seat going to a person recommended by the Associated Fire Fighters of Illinois union and appointed by the governor.

“As a result, the Act substantially impacted and diluted each police officer’s and firefighter’s voting rights and ability to determine who their personal retirement assets are invested,” attorneys for the plaintiffs wrote in a court filing.

They also argued that the requirement to transfer assets to the combined funds violates state constitutional protections for property rights.

In its argument to the high court, the state rejected as “unsound” the argument that the constitution’s pension protections extend to ancillary issues such as voting rights.

Illinois Supreme Court precedent has established the constitutional pension protections, while “ironclad,” extend only to payments promised to participants in the retirement systems, not to changes to state law that affect their funding level, the state argued in its filing defending the law before the Supreme Court.

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“The investment of local fund assets, which likewise affects the level of local fund assets but has no effect on the payments (retirees) are entitled to receive, is constitutionally no different,” the state argued in its brief. “And because those investments are not constitutionally significant, the Pension Protection Clause cannot lock in a procedure for choosing who makes them.”

The Supreme Court has cited that clause in striking down previous legislative attempts to shore up underfunded public pensions, most notably a 2013 law that would have reduced benefits for retired teachers and state workers. But during arguments in November, several justices appeared skeptical of the contention that those protections extended to issues such as the weight of a person’s vote in electing members to a board that oversees investments.

In questioning, Chief Justice Mary Jane Theis noted that previous rulings found protections covered issues such as “health care, disability, life insurance, survivor annuity” but not issues involving the funding of the retirement systems themselves.

Theis’ line of questioning suggested the court’s test for whether a change to pension law violates the constitution could be whether it has an impact on, as she said, “what does the monthly check look like?”

The court has not set a date for issuing its opinion.

In the meantime, after some delays prompted by the legal wrangling, the two newly created pension systems have consolidated the assets of nearly all of the police and fire pension funds across the state.

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Aside from the legal issues, the timing of consolidation proved inauspicious, aligning with the start of the COVID-19 pandemic and the attendant volatility in the markets.

The firefighter funds began pooling assets in October 2021, and the police funds in March 2022.

From inception until June 30, 2022, the firefighters saw a negative rate of return of 12.6%, while police saw a 10% loss, according to the report from the legislature’s forecasting commission. Pension fund officials point to the down economy during that time period and note that they outperformed the broader stock market.

Returns stabilized the following year, with the fire fund seeing 9.6% growth in the year that ended June 30, 2023, and police seeing 8.2% returns. Both did better than their assumed rates of return.

Despite a slow and at times rocky start, the consolidation is beginning to live up to its promise, officials with both funds said.

The Firefighters’ Pension Investment Fund, for example, outperformed the portfolios of the pre-consolidation funds to the tune of $40.4 million in the last budget year, while annual costs are $34 million lower, said William Atwood, the fund’s executive director.

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“What I’ve said all along is that the ultimate program evaluation of consolidation is pretty straightforward: Are there improved returns and are there lower costs?” Atwood said. “And to date that’s holding true.”

Overall, the contributions required from local governments to the fire fund have been lower than before consolidation, Atwood said.

Officials with the Illinois Police Officers’ Pension Investment Fund likewise expressed confidence that they will be able to consistently produce better returns at a lower cost, due in large part to the size of the combined fund compared with its much smaller predecessors.

As of mid-December the police fund had nearly $10 billion in assets, while the firefighter fund had more than $8 billion.

Before consolidation, the largest individual fund had about $300 million in assets.

“We get substantial economies of scale and scope, and we now have the ability to really … meaningfully build into, over time, asset classes that were not available to especially the smaller funds … and an investment complexity that maybe (would) not have been appropriate for a smaller fund,” said Kent Custer, chief investment officer for the police fund.

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Those better returns and lower costs may eventually translate to a consistent reduction in the contributions municipalities have to make to the funds, but that will take time to prove out, said Brad Cole, executive director of the Illinois Municipal League, who served on Pritzker’s pension task force and helped write the law.

The Illinois Municipal League “has always said if you want property tax reform, you’ve got to have pension reform,” said Cole, who also sits on the boards of both funds but expressed the views of local government lobbying organization.

Whether better returns and lower administrative costs will allow local governments to reduce property taxes depends on a variety of factors, Cole said, including whether lawmakers in Springfield decide to enhance pension benefits in the future.

“So it’s not just as simple as saying this is going to reduce fees and increase earnings,” he said.

Pritzker, meanwhile, put the onus on local governments to pass any pension savings on to taxpayers.

“The governor points to this reform as just one way he’s worked to alleviate the burden on local property taxes, but ultimately those rates are decided at the local level,” Pritzker spokesman Alex Gough said. “Local governments are already seeing reductions in the payments they are required to make into the system. Whether they are returning those savings to local taxpayers or spending those savings elsewhere is a question for local governments.”

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dpetrella@chicagotribune.com


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