Pension Reform Shockwaves Andrew Malahowski, Franczek Radelet P.C. Eric DePorter, LaGrange Highlands District 106 Wednesday, May 15, 2013, 11:30-12:30

Agenda Current IMRF and TRS framework Proposed pension reforms and constitutional issues The latest proposals and implications for school districts

Current IMRF and TRS Framework Eligibility: – IMRF: Individuals who are employed in a position normally requiring at least 600 hours of work per year, in a position not requiring certification – TRS: Teachers, support staff, and administrators in a position requiring certification (also certain TRS, ISBE, and other employees) Social Security Coordination: – IMRF: Members participate in Social Security – TRS: Members do not participate in Social Security

Current IMRF and TRS Framework IMRF: – Tier I = 1 and 2/3% x FRE x first 15 Years of Service + 2% x FRE x additional Years of Service; unreduced pension at age 60 or with 35 years of service; reduced pension at age 55. – Tier II = 1 and 2/3% x FRE x first 15 Years of Service + 2% x FRE x additional Years of Service; FRE capped at $109, adjusted for inflation; unreduced pension at age 67 or with 35 years of service; reduced pension at age 62. TRS: – Tier I = 2.2% x FAS x Years of Service; unreduced pension at age 60 or with 35 years of service; reduced pension at age 55. – Tier II = 2.2% x FAS x Years of Service; FAS capped at $109, adjusted for inflation; unreduced pension at age 67; reduced pension at age 62.

Current IMRF and TRS Framework “Bells and whistles”: – IMRF Early Retirement Incentive; disability; sick days for service credit – TRS: Early Retirement Option; disability; sick days for service credit Retiree health care: – IMRF: None; each employer must offer “extended COBRA” pursuant to Section 367j of the Illinois Insurance Code – TRS: The Teachers Health Insurance Security Fund provides state subsidized coverage for retirees

TRS Early Retirement Option Set for legislative review in 2013 If not renewed by 6/30/2013, automatically repealed If not renewed, only available for members who are age 55 on or before 6/30/2013 (with one exception), and whose last day of work is no later than 6/29/2013 If renewed, member and employer contributions will likely increase: – Commission on Government Forecasting and Accountability (COGFA) recommended that the member contribution increase from 11.5% per year to 14.4% per year – COGFA recommended that the employer contribution increase from 23.5% per year to 29.3% per year

Who Pays for IMRF and TRS IMRF: – Employee (4.5%; no retiree health care contribution) – Employer (varying employer contribution rates set by actuary, average of 12.09% for 2012; no retiree health care contribution) – Accelerated payments for end-of-career salary increases in excess of 6% – No State contributions TRS: – Employee (9.4% % THIS) – Employer (0.58% % THIS) – Additional employer contributions for end-of-career salary increases in excess of 6% – State contributions ($2.7 Billion in FY13)

Funding and Investment Returns – IMRF: Was 100% funded when the recession started in 2008 and already has begun its recovery; funding at 70.4% at year-end 2008; funding at 80.2% at year-end Experienced a 24.3% return in CY2009, 13.4% in CY2010, and -0.5% in CY2011. IMRF utilizes an actuarial assumed rate of return of 7.5%. – TRS Was already in trouble prior to the recession, and continues to slide; funding at 63.8% in 2007; 56.0% in 2008; 52.1% in 2009; 48.4% in 2010; 46.5% in 2011; 42.1% in Experienced a -22.7% return in FY2009, 12.9% in FY2010, 23.6% in FY2011, and 0.76% in FY2012. TRS reduced its assumed rate of return from 8.5% to 8% in 2012.

Common Questions “Is there a real problem?” “Why don’t we just terminate/freeze the plan and provide a defined contribution plan like private companies?” “Why don’t we just raise taxes/start taxing retirement income/raise revenue from other sources?” “Can this be fixed without benefit reductions?” “Who do we blame?” “What should we try?”

Constitutional Issues Illinois Constitution Article XIII, Section 5 “Membership in any pension or retirement system of the State, any unit of local government or school district, or any agency or instrumentality thereof, shall be an enforceable contractual relationship, the benefits of which shall not be diminished or impaired.” United States Constitution Article 1, Section 10 “No State shall... pass any... Law impairing the Obligation of Contracts...”.

Constitutional Issues In Peters v. City of Springfield, 57 Ill. 2d 142, 152 (1974), the Illinois Supreme Court noted that the “purpose and intent of the constitutional provision was to insure that pension rights of public employees which had been earned should not be ‘diminished or impaired.’” On the other hand, there is a significant amount of lower court and historical authority for the proposition that benefits cannot be changed from the moment the employee first enters the applicable pension system. – Kraus v. Board of Trustees, 72 Ill. App. 3d 833, 849 (1st Dist. 1979) (applying constitutional protections as of the moment the individual “became an employee”).

Constitutional Issues Illinois precedent supports the idea that pension benefits are guaranteed under principles of contract law. – Felt v. Board of Trustees, 107 Ill. 2d 158, 162 (1985) (“the general intendment of section 5 was to protect the pension benefits of public employees by first creating ‘a contractual relationship between the employer and the employee….’”). – 4 Proceedings 2925 (Mr. Green: “Now this amendment does two things: It first mandates a contractual relationship between the employer and the employee; and secondly, it mandates the General Assembly not to impair or diminish these rights.”).

Some Specific Questions May the State require employees to contribute a greater portion of their salary in order to receive the same pension benefits? May the State provide for a lesser benefit to be earned in future years of service, or is the employee guaranteed the formula of benefits in place when she began employment? If a benefit (e.g., COLA) was increased after the employee started working, may it be reduced to its original level?

Some More Questions What constitutes the “diminishment” or “impairment” of a benefit? Is there some threshold level? If the State wishes to reduce a pension benefit, must it offer an additional benefit to compensate? Can the “contract” for pension benefits be modified if necessary to allow adequate funding of pensions without depriving the State of the ability to fund other important programs (e.g., hospitals, prisons, roads, etc.)?

Pension Reform Options Employee Contributions Automatic Annual Increase (“COLA”) Retirement Age Definition of “Salary” and Limitations on Pensionable Earnings Rate of Accrual Cash Balance or Defined Contribution Plans Shift Funding Responsibility to School Districts Retiree Health Care State Funding “Guarantees” Early Retirement Option

One Recent Proposal Senate Bill 1 (House Amendment 1): – Pensionable salary cap – COLA decrease and delay – Increase in retirement age – Increase in employee contributions – “Funding guarantee” and other funding reforms

Other Proposal(s) and/or Solution(s) TBD* *As of the publication date of this presentation, there are over a dozen different reform proposals that are being considered (some seriously; others not so much). Therefore, this will be the aleatoric portion of the presentation.

Contact Information Andrew Malahowski Franczek Radelet P.C