Pensions vs.

schools: PK-12 schools

January 5, 2012

State spending on teacher retirements soon will exceed aid to downstate and suburban schools
The problem
Escalating teacher retirement expenditures are siphoning away state money before it makes its way to Illinois classrooms. Without pension reform, teacher retirement spending will dominate the share of dollars available for state education funding, and dramatically reduce how much money is allocated to childrens learning. As schools are squeezed for funding, this could lead to cutting programs, increased class sizes or teacher layoffs. State education spending is made up of much more than what is spent daily to run Illinois schools. Included in the states total spending appropriations for education are annual contributions to teachers retirements and retiree health care. A portion of the states annual pension obligation bond payments allotted to the teachers pension system must also be taken into account. It is these burgeoning, non-operating costs that are set to dramatically change the funding dynamics of PK-12 education. In Illinois, state education funding is divided into two geographic regions: the city of Chicago and suburban and downstate Illinois (defined as the entire state of Illinois, less the city of Chicago). This report examines state education funding suburban and downstate schools. In all instances in which this report refers to state education funding or a similar concept, it is referring only to state spending on non-city of Chicago schools. In the coming years, state pension payments to the suburban and downstate teachers pension system, the Teachers Retirement System, or TRS, are set to skyrocket. In turn, this threatens to displace or crowd out resources for core government services including education funding for school districts. Retirement spending for suburban and downstate teachers has gradually increased over the years, and pension crowd out isnt a new phe-

Tax & Budget Brief

Graphic 1. Where new state dollars for PK-12 education were spent (fiscal years 2006-2011)

Source: Commission on Government Forecasting and Accountability, Illinois State Board of Education, Chicago Public Schools and Illinois Policy Institute calculations.

Amanda Griffin-Johnson is a Senior Budget and Tax Policy Analyst with the Illinois Policy Institute.

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Graphic 2. Projected state retirement spending on suburban and downstate teachers by expense

By the time a child born in 2011 graduates from high school, the state is poised to spend more on teacher retirement benefits than on aid to PK12 schools

Source: Commission on Government Forecasting and Accountability, Illinois State Board of Education, and Chicago Public Schools and Illinois Policy Institute calculations

nomenon. Many applaud increases to state education funding. However, over the past five years, 71 cents out of every new dollar set aside by state government for PK-12 education instead went to cover the rising costs of teacher retirement. The crowding out effect will only get worse as state contributions to TRS quickly begin to ramp up. But contributions to TRS are not the only teacher retirement expense that the state of Illinois pays. Each year, state government has to make payments for pension bonds, or POBs, taken out in previous years to cover annual pension contri-

butions. In addition, the state also has to pay a portion of the costs of health insurance for retired teachers through the Teachers Retirement Insurance Program, and a portion of the State Employees Group Insurance Program. The combination of these retirement expenditures is staggering. By the time a child born in 2011 graduates from high school, the state is poised to spend more on teacher retirement benefits than on aid to PK-12 schools (see Graphic 3). The Commission on Government Forecasting and Accountability, the Illinois General Assemblys economic and

Graphic 3. Projected state funding for suburban and downstate PK-12 education: retirement funding vs. aid to schools

Source: Commission on Government Forecasting and Accountability, Illinois State Board of Education, Chicago Public Schools and Illinois Policy Institute calculations. Assumes that total education funding (aid to schools and retirement spending) will grow at 2.3 percent, which is the rate the Commission on Government Forecasting and Accountability estimates revenue will grow at in coming years. See appendix for more information.

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fiscal research organization, estimates that new revenue for the state will grow at 2.3 percent annually.1 If overall education spending the total of aid to schools and retirement funding also grows at that rate, then pension and other retirement expenditures will quickly outpace funding for schools. Should revenues or overall education spending grow at a faster rate than this, then the day that retirement costs exceed all other education spending will come later. Conversely, should revenues or education spending grow at a rate slower than 2.3 percent annually, then the day will come sooner when classroom funding will be crowded out of the state budget. But cant the state just increase education funding to make up for the growing teacher retirement expenditures? Unfortunately, that will not be an option. PK-12 education wont be the only budget item feeling the pinch. Higher education appropriations will face a similar crowd out effect from pensions for educators in the states community colleges and state universities, and the federally mandated expansion of Medicaid through ObamaCare will cost Illinois $10 billion between 2014 and 20192. Funding increases for the classroom will be few and far between in this fiscal climate. As Graphic 4 shows, even though overall state education spending will grow, the amount allotted to classrooms will be less and less as a percent of total spending. Pensions and other retirement costs will continue to eat away at operating dollars, accounting for nearly 75 percent of education spending by 2045.

Our solution

Legislators and state leaders have done everything they can to delay addressing Illinois pension crisis. The state has gone to the bond market, and now the state is nearly maxed out. Politicians have hiked taxes on families and businesses, and taxpayers are hurting. State leaders have contemplated a federal bailout, but Congress nixed that option. Medicaid, the largest portion of the state budget outside of education, will need more than $2 billion in fiscal year 2013 just to stop taking on more debt. The legislature has run out of ways to evade the pension crisis facing Illinois, and state leaders need to reform the pension systems now. There are many reforms available to legislators that would improve the states fiscal outlook. Future benefits for current employee benefits could be reduced with employees contributing at current

Even though overall state education spending will grow, the amount allotted to classrooms will be less and less as a percent of total spending.

Graphic 4. Projected suburban and downstate retirement spending vs. aid to schools

2012: $9.1 billion

2029: $13.4 billion

2045: $19.2 billion

Aid to schools: $5.639 billion

Retirement spending: $3.432 billion

Aid to schools: $6.555 billion

Retirement spending: $6.796 billion

Aid to schools: $5.129 billion

Retirement spending: $14.081 billion

Source: Commission on Government Forecasting and Accountability, Illinois State Board of Education, Chicago Public Schools and Illinois Policy Institute calculations. Assumes that total education funding (operating and retirement spending) will grow at 2.3 percent, which is the rate the Commission on Government Forecasting and Accountability estimates revenue will grow at in coming years. See appendix for more information.

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levels. Alternatively, employees could contribute more to their retirements to keep the current benefit level. While these changes would be improvements, the reform that will fundamentally reduce financial risk to taxpayers in the future is to move government workers to a defined contribution system. A defined contribution system would put state employees in direct control over their retirements and reduce liabilities facing taxpayers. The current system is plagued by irresponsible political behavior and overly optimistic assumptions. The status quo clearly doesnt work. School employees should not have to rely on politicians who have broken promise after promise. Instead, Illinois should move to a system that takes power out of the politicians hands and puts it with the employees. Taxpayers and students cannot continue to bear the burden for an overly generous benefit structure. The legislature needs to ensure that retirement benefits match the states financial reality and start taking steps to regain control of the states fiscal future. By reducing the cost of pensions, the state can save money for key services including education. form.3 The state needs to create a sustainable pension system that ensures public sector employees will have a retirement benefit, protects taxpayers from risk and puts available funds in the classroom with Illinois kids.

As parents watch their hard-earned money taxed away, they will be disappointed to learn that less and less of that money is going to their childrens school. This will not change unless pension financing is reformed.

Why this works

Pension contributions are set to rapidly increase over the next few decades, while revenue is expected to grow at a much slower rate. Without reform, retirement spending will overwhelm other state spending including spending on core services, such as education. As parents watch their hard-earned money taxed away, they will be disappointed to learn that less and less of that money is going to their childrens school. This will not change unless pension financing is reformed. Residents across the state will find that for the same amount of taxes, they will receive fewer services in education, transportation, human services and state functions across the board as the money instead goes to retirees no longer contributing to the states core services. State lawmakers must act in order to keep retirement spending from overtaking aid to schools. The political climate is ready to enact real change. In September 2011, a poll of registered Illinois voters found that 70 percent favor pension re-

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Appendix
Sensitivity analysis
The Commission on Government Forecasting and Accountability, or COGFA, projects state revenue will increase by 2.3 percent annually, and this report uses that rate to estimate future overall education funding growth. At 2.3 percent annual education funding growth, the state will spend more on teacher retirements than aid to PK-12 in fiscal year 2029. The following table shows the fiscal year in which teacher retirement spending will exceed PK-12 aid to schools at various rates of growth for overall education funding.

Graphic 5. Fiscal year in which teacher retirement spending will exceed PK-12 aid to schools
Annual PK-12 education funding growth
3.0% 2.5% 2.3% 2.0% 1.5% 1.0% 0.5% 0.0% -0.5% -1.0% -1.5% -2.0% -2.5% -3.0%

Fiscal year of upside down funding

2036 2030 2029 2027 2024 2023 2021 2017 2017 2015 2015 2015 2015 2014

Methodology

This report uses state education funding figures from the Illinois State Board of Education (ISBE)4 and adds the Teachers Retirement Systems (TRS) portion of the states annual pension obligation bond (POB) payments5 to determine the states total state PK-12 spending.

State education funding

TRS portion of POB

Total state PK12 spending

To calculate the amount of aid to schools in suburban and downstate Illinois, first the Chicago portion of total PK-12 spending6 is removed from the total state PK-12 spending. Then, retirement expenditures the sum of the states TRS contribution7, the TRS portion of POBs8, the TRS portion of the State Employee Group Insurance Program9,10,11 and the Teachers Retirement Insurance Program12 are subtracted. The resulting figure is what this report estimates as the states aid to schools in suburban and downstate Illinois.

Total state PKChicago portion of 12 spending state funds

Suburban and downstate retirement spending

Aid to schools in downstate and suburban Illinois

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Sources for historical information for the following data categories are as follows: Total state funding from ISBE 13 TRS portion of (POB) payments from Commission On Government Forecasting and Accountability (COGFA)14 Chicago portion of total PK-12 spending from Chicago Public Schools15 TRS portion of the State Employee Group Insurance Program from COGFA16,17,18 Teachers Retirement Insurance Program from ISBE19

For data in fiscal year 2011 and future years, some figures are provided by sources and some are calculated. COGFA provides data for the states contribution to TRS and POBs to fiscal year 204520. Starting with fiscal year 2011, all retiree health care expenditures are grown at 3 percent annually, and the total PK-12 education spending figure, which includes both aid to schools and retirement spending, is grown at 2.3 percent annually. All other estimates are a result of the previously mentioned calculations.

Assumptions

Total education funding (aid to schools and retirement spending) will grow at 2.3 percent. This is the rate the COGFA estimates revenue will grow at in coming years.21 Retiree health care funding will grow at 3 percent annually. This is the rate COGFA estimates the Teachers Retirement Insurance Program will grow in coming years.22 Using COGFA future state pension contribution estimates (Appendix H) vs. system estimates (Appendix B). This report uses COGFAs estimate of the states future pension contributions rather than system estimates. According to COGFA, rather than using actuarial values with asset smoothing, a much more realistic valuation of the true financial position of the various retirement systems would be based upon the MARKET value of the assets. COGFA found that [b]ased upon this more realistic value of assets, the total unfunded liabilities of the State systems totaled $85.6 billion on June 30, 2010.23

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Page 7 of 7 Endnotes
1 Commission on Government Forecasting and Accountability, Monthly Briefing, January 2011, http://www.ilga.gov/commission/ cgfa2006/Upload/0111revenue.pdf. 2 Jonathan Ingram, Overloaded: One in three Illinoisans on Medicaid by 2019? Illinois Policy Institute, 20 October 2011, http:// illinoispolicy.org/uploads/files/overloaded10-20.pdf. 3 September 2011: Pulse of Illinois, Manhattan Institute, September 2011, http://illinoispolicy.org/news/article.asp?ArticleSource=4412. 4 Illinois State Board of Education, Annual Report 2010, State, Local and Federal Resources, page 7, January 2011, http://www.isbe. state.il.us/reports/annual10/report.pdf. 5 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, March 2011, http://www.ilga.gov/commission/cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf. 6 Chicago Public School, Comprehensive Annual Financial Report 2010, December 2010, http://www.cps.edu/About_CPS/Financial_information/Documents/FYBudget2010.pdf. 7 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, Appendix H, March 2011, http://www.ilga.gov/commission/ cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf. 8 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, March 2011, http://www.ilga.gov/commission/cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf. 9 Commission on Government Forecasting and Accountability, Retiree Healthcare Contributions, Mercer, 17 May 2011, http://www. ilga.gov/commission/cgfa2006/Upload/2011-MAY-17MercerRetireeHealthcareContributions.pdf. 10 Commission on Government Forecasting and Accountability, Illinois House Bi-Partisan Task Force on Budget Reform and Spending Reductions, 23 February 2010. 11 Commission on Government Forecasting and Accountability, Illinois State Employees Group Insurance Program, Gabriel Roeder Smith & Company, January 2010, http://www.ilga.gov/commission/ cgfa2006/Upload/FY2009StateGASBvaluation.pdf. 12 Illinois State Board of Education, Annual Report 2010, January 2011, http://www.isbe.state.il.us/reports/annual10/report.pdf. 13 Illinois State Board of Education, Annual Report 2010, January 2011, http://www.isbe.state.il.us/reports/annual10/report.pdf. 14 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, March 2011, http://www.ilga.gov/commission/cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf. 15 Chicago Public School, Comprehensive Annual Financial Report 2010, December 2010, http://www.cps.edu/About_CPS/Financial_information/Documents/FYBudget2010.pdf. 16 Commission on Government Forecasting and Accountability, Retiree Healthcare Contributions, Mercer, 17 May 2011, http://www. ilga.gov/commission/cgfa2006/Upload/2011-MAY-17MercerRetireeHealthcareContributions.pdf. 17 Commission on Government Forecasting and Accountability, Illinois House Bi-Partisan Task Force on Budget Reform and Spending Reductions, 23 February 2010. 18 Commission on Government Forecasting and Accountability, Illinois State Employees Group Insurance Program, Gabriel Roeder Smith & Company, January 2010, http://www.ilga.gov/commission/ cgfa2006/Upload/FY2009StateGASBvaluation.pdf. 19 Illinois State Board of Education, Annual Report 2010, January 2011, http://www.isbe.state.il.us/reports/annual10/report.pdf. 20 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, March 2011, http://www.ilga.gov/commission/cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf. 21 Commission on Government Forecasting and Accountability, Monthly Briefing, January 2011, http://www.ilga.gov/commission/ cgfa2006/Upload/0111revenue.pdf. 22 Commission on Government Forecasting and Accountability, Teachers Retirement Insurance Program and the College Insurance Program, July 2009, http://www.ilga.gov/commission/cgfa2006/ Upload/July2009TRIP-CIPprograms.pdf. 23 Commission on Government Forecasting and Accountability, A Report on the Financial Condition of the IL State Retirement Systems, March 2011, http://www.ilga.gov/commission/cgfa2006/Upload/FinCondILStateRetirementSysMarch2011.pdf.