By: Mark Glennon*
An unprecedented appellate court decision this month ordered an Illinois city to approve a property tax levy specifically for its firefighters’ pension. That city, Harvey, already has effective tax rates of 5.7% for residential and 14.3% for commercial properties.
It’s a historic decision that may be the first of similar ones to come — eventually — for many of Illinois’ 600-plus local police and firefighter pensions.
The full decision by the First District Appellate Court of Illinois is linked here.
The Illinois Supreme Court had earlier made clear that benefits owed by pensions to retirees cannot be reduced under the Illinois Constitution. It had also made clear that, if a fund were to run dry, retirees could directly sue the municipality sponsoring the pension. However, no Illinois court had ever specifically ordered a tax to fund pensions.
Little known, however, was that Illinois courts also had indicated pensions need not run entirely dry before they would act. Now one court has acted by ordering a tax levy and payment of damages.
The court affirmed an injunction issued by the trial court requiring Harvey “to approve a line-item property tax levy specifically for the Pension Fund, which would be sufficient to meet the annual actuarial requirements” — basically, an “ARC” payment equal to normal costs plus an amount sufficient to get the pension to 90% funding by 2040.
It also awarded damages to the pension of about $15 million, consisting mostly of the difference, for previous years, between the actuarially required contribution and the lower amount Harvey actually contributed. How that damage award will be collected from Harvey isn’t clear. If it’s not directly included in the amount of the property tax assessment ordered by the court, it seems that deficiency would be indirectly reflected in future contribution requirements to be covered by that assessment, unless it’s somehow paid separately.
The appellate court decision turned on whether Harvey’s firefighter pension was “on the verge of default or imminent bankruptcy.” That’s the standard it applied for determining when it may step in to order a property tax levy.
The court based its decision partially on the financial state of the city, too. So, courts apparently are supposed to play the role of financial analysts for municipalities as well as pensions when they decide whether to start forcing taxes.
To put this more simply, we have a court now ordering blood out of a turnip. Harvey is broke and property in Harvey is already obscenely overtaxed. But it’s the very fact that Harvey is a bloodless turnip that helps makes it subject to court-ordered tax. Because they can’t pay, they have to pay, according to the court’s thinking.
This step raises many questions that would be difficult or impossible for any court to answer. Few of those questions are answered in the 82-page opinion, which is a garbled mess.
The initial, obvious question is this: Just how bad off does a pension have to be before a court will start ordering taxes for it? Is Harvey uniquely bad or will other towns and cities, now or later, meet its fate?
Harvey, unquestionably, presented an extreme set of facts. Graft and mismanagement have long plagued the city and it is far beyond insolvent. In recent years it underfunded its pension to an extreme, even by Illinois standards.
On the other hand, its most recent actuarial report, according to the court, says the pension was 27% funded and many of Illinois’ municipal police and firefighter funds are bleeding down towards that level. Chicago’s four pensions combined are only 21% funded.
Chicago and most other Illinois municipalities, however, are in infinitely better shape than Harvey.
Still, we simply don’t know how sick a pension will have to be to trigger a similar ruling.
For starters, what on earth does the court’s standard mean — “on the verge of default or imminent bankruptcy”? The opinion quotes one of the testifying experts saying the Harvey pension was seven to nine years away from insolvency. Some of Chicago’s pensions have been predicted to run dry that soon, too. In fact, here’s what the most recent actuarial report says, in boldface, for Chicago’s largest pension, MEABF: “The Fund is in imminent danger of insolvency. Without increased funding, the Fund is projected to become insolvent within the next 9 years (during 2025).”
The standard itself derives from a comment made by a delegate at the 1970 Illinois Constitutional Convention. Should that really be taken literally? In its opinion the court actually referenced the dictionary definition of “verge” to figure out what that standard means. Good grief.
A perfectly reasonable case could also be made that pensions are effectively doomed long before they’re as bad off as Harvey’s. I’m quite sure most actuaries would agree with my view that those under 50% funded are toast, except in very prosperous communities that could make up the deficiencies. Well, the average pension in Illinois is under 50% funded, as one of the testifying experts quoted in the opinion says.
Then there’s the damage claim the court approved. Here, they clearly blew it. Harvey tried to explain that the annual differences between an ARC payment and the payment actually made shouldn’t be added up because a deficiency in one year raises the ARC payment in subsequent years. The court didn’t understand, apparently. Will future courts likewise not understand? That would expose the countless Illinois municipalities that underfund their pensions to massive damages claims as their pensions bleed down.
And you could certainly argue that ARC payments aren’t sufficient to begin with. Targeting 90% funding, as ARC payments do, is just assuming away part of the problem, and ARC payments are based on widely criticized assumptions about rates of return and other matters. Actuary Mary Pat Campbell posted an interesting piece just this week on why even pensions that receive full ARC payments often end up underfunded anyway.
Keep thinking about this path the court has put us on and you’ll come up with more questions. Does the precedent apply to all municipalities or just home rule ones? Do property tax caps now in place trump the court’s decision or vice versa? Are there implications for the state’s own pensions? I don’t know.
Many of these questions probably will end up in other courts. Unless the General Assembly steps in or the Illinois Supreme Court reverses and sets an entirely different course, a morass of litigation lies ahead. The First District court bears little blame for this because it was mostly just applying the statutes and precedent laid out for it by the General Assembly and Illinois Supreme Court.
A final note on the humanitarian aspects of all this.
The notion that something will be fixed by ordering higher property taxes on a city like Harvey, already in a death spiral partly because of its rates, should be taken as an insult not just to the intelligence of Illinoisans but to their consciences.
The stories of pension excess — which are all too common and contributed heavily to the crisis — soon will be matched by stories of desperation. Where will retirees in broke towns with pensions that run dry turn? There is no answer.
Comprehensive, real pension reform should have been undertaken years ago. It has to be orderly, rational, free of extensive litigation and focused on protecting not just taxpayers but reasonably sized pensions retirees truly need. Today in Illinois we have only two legal routes for accomplishing that reform — a state constitutional amendment to delete the pension protection clause (which might not work because of federal constitutional issues) or federal bankruptcy.
Time compounds the crisis. Will we never get on with it?
*Mark Glennon is founder of Wirepoints. Opinions expressed are his own.
UPDATED 8/23/19 to add the quote from the MEABF actuarial report.