Chicago goes to court over pension fund intercepts

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A Chicago lawsuit argues that the state comptroller is improperly intercepting city grant revenue to cover pension fund claims of contribution shortfalls.

“The city has suffered and will continue to suffer irreparable harm as a result of the funds' false certifications and the comptroller's acceptance of those certifications as a basis for intercepting state grant funds that would otherwise be paid to the city,” according to the complaint the city filed last week in Cook County Circuit Court against Chicago's police, municipal, and laborers’ funds and Illinois Comptroller Susana Mendoza.

The city and its pension system have been locked in a tax collection dispute over the last nine months about whether the city is on the hook for the annual contribution level laid out in statutes or the actual revenues collected, which typically fall short of the levied amount.

The city believes the difference is reflective of a loss in collections between the city's tax levies and the actual collections from those levies, and the funds must absorb that loss. The disagreement has neither been settled nor adjudicated, the city says.

“The funds have falsely certified that there has been such a final determination ... there has been no fair and impartial hearing before a fair and impartial tribunal establishing a debt owed to the funds,” reads the lawsuit. “The comptroller's actions are a violation of the due process clause of the Illinois Constitution.”

The state attorney general’s office will represent the comptroller.

The comptroller’s office says it is simply following the law.

“This is a dispute between the city and its pension funds,” said comptroller spokesman Abdon Pallasch. “The comptroller’s only role is to follow its statutory obligations to withhold state funds or in Chicago’s case, state grants, if the pension funds certify to this office that the city owes them money.”

“The city can ask lawmakers at any time to change the state law” if they disagree with the intercept mechanism, Pallasch added.

The pension funds did not respond to a request for comment.

The comptroller has so far withheld $11.2 million of which $3.3 million has been distributed to the firefighters’ fund and $7.2 million has been withheld toward police claims, with $6.6 million so far distributed to the fund, according to Pallasch.

The comptroller received a claim for $4.6 million on March 29 from the municipal fund and is currently withholding $2.8 million. The protest and review period has not concluded that would allow for distribution. The laborers’ fund filed a claim for $2.5 million on April 25 and no funds have yet been withheld.

Under Mayor Rahm Emanuel’s overhaul of pension funding, the police and fire contributions ramp up between 2016 and 2020 to an actuarial level the following year to reach a 90% funded target by 2055. The muni and fire funds’ five-year ramp began several years later and will reach 90% funded by 2057.

The dispute is playing out as incoming Mayor Lori Lightfoot, who takes office May 20, must come up with nearly $280 million next year to cover the shift to an ARC for the police and firefighters and another $310 million in 2022. The city’s net pension liability stands at $28 billion with the system collectively funded at a 26.5% ratio.

The city lawsuit is the latest legal action spurred by an updated pension code that allows pension funds to intercept state funds to cover shortfalls in actuarially based or statutorily contributions by filing claims with Mendoza’s office.

Local public safety pension funds outside Chicago and the Illinois Municipal Retirement Fund can seek the diversion of tax funds that flow through the state under revisions made to the pension code. In Chicago’s case, its four funds can seek only the diversion of grant funds under statutes specifically enacted for the city. The city received $269 million in state grants last year and the 2019 budget projects $299 million.

Mendoza began enforcing the intercept mechanism early last year.

The distressed south Chicago suburb of Harvey first drew attention to the issue in April 2018 when it challenged the diversion sought by its public safety funds, who had legal judgments to support their shortage claims.

Harvey argued in a lawsuit its property could not be garnished to satisfy a judgment under state law; that the funds were needed for critical services; that a portion was pledged to bondholders with greater rights than the pension fund; and that future levies had been appropriated to meet the judgment.

The comptroller’s office countered throughout the Harvey litigation that it was only enforcing state law. Harvey’s legal arguments were never resolved by the court as the litigation ended with a settlement between the city and its public safety funds divvying up the suburb’s share of state funds.

Chicago was first hit with a diversion claim filed by the firefighters’ fund with the comptroller last September. The police fund followed in December and the municipal fund and laborers’ fund have more recently submitted claims.

The firefighters’ claims are not dealt with in the new lawsuit as they are the subject of separate litigation initiated by the fund last year that seeks to resolve the tax dispute. The firefighters are asking the court to order the city to make the full payment amounts set in statute. The city has filed a counterclaim asking the court to find that it’s met its obligations and provide a credit for already withheld funds that have been sent to the firefighters.

“Historically, the city has never added a loss in collection factor to its property tax levy for the fund, and any loss in collection has at all times been absorbed by the fund. There has been no practice of having the city make up for the loss in collection through a supplemental payment to the fund,” the city argues.

In the new lawsuit, the city outlines how it filed a protest to the intercept claim, as permitted under the intercept rules, on the police certifications for contribution years 2016 and 2017. The comptroller denied the protest, stating that the police fund's certifications were all that it required, the city's lawsuit says.

“Based on this and other communications, the city believes further requests to the comptroller objecting to intercepts would be futile,” says the lawsuit. “The comptroller has failed to follow its own rules and regulations, which require prior notice, an opportunity to be heard and a final determination that a debt is owed before state grant funds can be withheld for pension debts. This is contrary to statutory authority.”

The city is asking the court to block the distribution of any withheld grants and to halt further intercepts on behalf of the three funds “unless and until there has been a final determination, by a court or other impartial tribunal, including all appeals, that the city owes the funds any additional pension contributions beyond what it has already contributed.”

The city also wants any withheld grant monies not yet distributed to be released to the city and to order the funds to “withdraw their incorrect certifications to the comptroller, including but not limited to their certifications that there has been a final determination of a debt.”

Before the dispute began, Chicago warned in its 2018 annual financial analysis last August that “should the recapture provisions of the pension code be invoked as a result of the city’s failure to contribute all or a portion of its required contribution, a reduction in state grant money may have a significant adverse impact on the city’s finances.”

The firefighters’ lawsuit could provide direction on the status of the contribution shortage claims and whether the city is obligated to pay the statutory amount or collected tax amount.

It argues that “the plain language” of the city’s pension legislation requires the city “to contribute to the fund an amount equal to $199 million in fiscal year 2016 and an amount equal to $208 million in fiscal year 2017,” with the shortfall reflected in the claims filed with the comptroller.

The court’s decision on the firefighters’ case stands to impact future city contribution levels going forward, but it’s unclear what impact it could have the intercept for other municipalities, especially those like Harvey where actual property tax collections are weak.

The city’s lawsuit could have a wider impact if the court concludes that the process used by the comptroller is flawed and violates due process laws, but it’s uncertain how far the court might go in its rulings and whether they would extend to conclusions on the intercept process. While the Chicago pension funds claims are being made by the funds alone, some claims, like the ones filed in the Harvey case, were certified by the courts.

So far only funds from Harvey, North Chicago, and Chicago have triggered intercepts for their public safety funds, with a handful of others triggered for IMRF shortages.

The widespread use of the intercept that some researchers and market participants feared could result in local government fiscal strains has not occurred. The intercept also has sparked worries that bondholders’ legal claims will fall behind pensioners as distressed governments try to preserve funding for critical services.

A Friday hearing date has been set on the new Chicago lawsuit and the case is being heard by Judge Neil Cohen. The case is titled city of Chicago v. The Chicago Policemen’s Annuity and Benefit fund, the Municipal Employees Annuity and Benefit Fund, and the Office of the Comptroller of the state of Illinois.

Judge Sophia Hall is presiding over the firefighters’ case titled Retirement Board of the Firemen’s Annuity and Benefit Fund of Chicago and The Firemen’s Annuity and Benefit Fund of Chicago v. Chicago. That city filed an amended counter-complaint last month and that lawsuit is in the filing/discovery stages.

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Lawsuits Public pensions State and local finance Susana Mendoza City of Chicago, IL Illinois