Coronavirus may add to strains for already frail Chicago pension funds

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The net liabilities of Chicago's four employee pension funds went up in 2019.

The COVID-19 pandemic, not reflected in the funds' recently released valuation reports, only threatens to make things worse.

The frail funds won’t see any potential investment and demographic pains — which could pressure funded ratios and city contribution levels — from the coronavirus reflected until 2020 closes.

The collective net pension liabilities of the four funds rose to $31.8 billion in 2019 from $30.1 billion in 2018 and $28 billion in 2017 as rising contributions and investment returns failed to keep pace with costs and actuarial changes, according to the reports. The funded ratios ranged from 18% to 42%.

All recorded strong investment returns for the year but they all fell short of assumed returns because the results are smoothed over multiple years for actuarial purposes which dulls the impact of sharp one-year movements. That could also help lessen the blow of a COVID-19-related hit to investments.

City contributions will rise to $1.81 billion for 2021 from $1.68 billion, on par with previous expectations. Chicago must come up with an additional $300 million when the 2022 payment rises to a projected $2.13 billion when the municipal and laborers funds join the police and firefighters funds in setting contributions on actuarial basis to target a 90% funded ratio in the coming decades.

The police fund’s net pension liability rose to $11.6 billion in 2019 from $10.4 billion in 2018 for a net position of 21.38% compared to 21.82% in 2018.

The firefighters’ net pension liability rose to $5.4 billion from $5.2 billion for a net position of 17.57% compared to 16.57% in 2018.

The municipal employees’ net pension fund rose to $13.2 in 2019 from $12.9 billion in 2018 “primarily due to contributions received during the year being less than the cost of benefits accrued during the year and interest on the unfunded liability,” reads the actuarial report. The net position moved to 23.64% compared to 23.29% in 2018.

The laborers’ NPL mostly held steady at $1.588 billion for 2019 compared to $1.598 billion for 2018 for a net position of 42.78% compared to 40.64% in 2018.

The ability of the funds to remain on a track to reach 90% funded ratios between 2055 and 2058 is clouded as the reports warn of the uncertain impact of the pandemic on the funds’ health that could be impacted by market turmoil and potential demographic changes.

“It is important to note that this actuarial valuation is based on plan assets as of December 31, 2019. Due to the COVID-19 pandemic, market conditions have changed significantly since the valuation date,” the municipal fund report warns. “Given the low funded ratio, the fund is still at risk of potential insolvency if an economic recession or investment market downturn were to occur in the near term.

“This report does not reflect the recent and still developing impact of COVID-19, which is likely to influence demographic experience and economic expectations, at least in the short term,” reads the police fund valuation.

The reports all underscore the funds’ weak condition and long road ahead to healthy funded ratios with some warning that a cut in city funding could endanger solvency.

The city has increased contributions to all four funds in recent years. Plans to raise the city's contribution levels were adopted under former Mayor Rahm Emanuel and signed off on by state lawmakers.

The new schedules don’t begin to make a dent in unfunded ratios for years and still fall short of standards that would lead to what’s known as an actuarially determined contribution, or ADC.

The pension burden weighs heavily on Chicago’s balance sheet and is the primary driver for its junk rating of Ba1 from Moody’s Investors Service.

“The sharp economic decline and expected revenue deterioration, along with pressures related to the pandemic, will make the city's path to structural balance more challenging,” S&P Global Ratings said in an April report moving the city’s outlook to negative from stable on its BBB-plus rating. “Ramping up to full actuarial pension funding will likely be more difficult as well, because equity market declines could necessitate escalating contributions.”

Mayor Lori Lightfoot, who adhered to the statutory funding schedule in her first budget, recently warned of a $700 million tax hit in the current budget and a more than $1 billion gap in the 2021 plan. While saying all options remain on the table to deal with the 2021 gap, Lightfoot previously pledged to avoid the use of asset reserves or to push off pension contributions as her finance team seeks to move toward structural balance. The administration planned to discuss the pension results later this week.

Policemen's Annuity and Benefit Fund of Chicago
The police fund finished the year with an unfunded tab of $11.09 billion up from $10.4 billion and the funded ratio deteriorated to 22.3% from 23.8%, according to valuation report prepared by Gabriel, Roeder, Smith & Co. “The key reason for the increase includes changes in actuarial assumptions,” reads the report.

The unfunded liability typically is closely linked to the net pension liability but the NPL uses a market valuation of assets while the unfunded accrued liability uses an actuarially smoothed assessment and it’s used to set contributions.

The fund saw a return of 16.31% on investments but after smoothing was just 4.76% compared to an assumed return at the time of 7.25%.

The city must levy for 2021 a payment of $786.8 million for the following year up from $737.5 million this year. That’s short of an ADC of $1 billion. While the contributions going forward are set at an amount to reach 90% by 2055 they still fall short of an ADC.

“This is a severely underfunded plan….underfunding the fund creates the risk that the long-term investment return cannot be supported, minimal investment income is available to pay benefits, or worse, that benefit obligations cannot be met from the trust,” the report warns.

Because normal costs are not covered for another decade, the unfunded liability is projected to hit a high of $12.2 billion in 2030 and then should begin to taper.

“This actuarial valuation assumes that the city will be able to make future contributions on a timely basis. We did not perform an analysis of the ability of the city to make future contributions. Failure to receive City contributions on a timely basis could jeopardize the sustainability of the Fund," the report said.

Firemen’s Annuity and Benefit Fund of Chicago
The unfunded tab of $5.1 billion compared to an unfunded liability of $5 billion the previous year. The funded ratio on an actuarial basis showed slight erosion at 18.2% compared to 18.4% for 2018, according to the actuarial valuation report for 2019 prepared by The Segal Group Inc.

“FABF is a severely underfunded plan. Even under the statutory funding schedule, the funded ratio is projected to remain below 50% through 2044,” the report warns.

The fund saw a 19.6% return on investments. After smoothing the rate of return was 5.9% compared to the assumed rate at the time of 6.75%.

The city must levy $367.1 million in 2021 to make its 2022 contribution, down slightly from $371.3 million this year. Like the police fund, the firefighters funding scheme is now designed to reach a 90% funded ratio by 2055. The $371.3 million statutory contribution for this year is short of a $466.6 million ADC.

The fund warns the city against any cut in pension contributions and the dire impact that could have on an already weak system along with pandemic risks.

“If contributions fall significantly short of that schedule, insolvency is almost inevitable. Even if contributions follow this schedule and future experience matches the current assumptions, we project the unfunded actuarial accrued liability will not be paid off,” the report warns. “Due to the COVID-19 pandemic, market conditions have changed significantly since the valuation date."

Municipal Employees' Annuity and Benefit Fund of Chicago
The unfunded liability rose to $13.3 billion from $12.6 billion in 2018 for a funded ratio of 23.20% down from 24.96%, according to the valuation prepared by Segal.

The funded ratio eroded to 23.2%, compared to 25.0% in 2018.

The city must levy in its 2021 budget for a $576 million contribution due in 2022, up from $499 million this year. The current contribution of $499 million falls $668 million short of a nearly $1.2 billion ADC.

“Each year there is a contribution deficiency leads to an increased deficiency in all future years,” the report warns.

The fund saw an investment return of 16% but after smoothing the actuarial rate of return was 5.6%, which falls short of fund’s assumed rate of 7%.

Laborers' & Retirement Board Employees' Annuity & Benefit Fund of Chicago
The unfunded liability rose slightly to $1.55 billion from $1.47 billion on and the funded ratio moved to 42.6% from 44.68%, according to the valuation performed by GRS.

The funded ratio is projected to decline from 42.6 % in 2019 to 41.3 % in 2022 and then increase gradually to 90 % in 2058 but 50 % ratio isn’t achieved until 2047.

The city must levy in the 2021 budget for an $84 million payment to be made the following year. The $72 million contribution levied for this year’s contribution falls short of a $156 million ADC.

The fund saw an 18.3% investment return but when smoothed was lowered to 5.24%, short of the fund’s 7.25% assumed rate of return.

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