The Chicago Transit Authority retirement plan had a $1.5-billion hole in its stash of assets in 2007. At the height of a four-year bull market, it didn't have enough cash on hand to pay its retirees through 2013, meaning it was underfunded by 62%.
The CTA, which manages the second-largest public transit system in the United States, had to hope for a huge contribution from the Illinois state Legislature. That wasn't going to happen.
Then the authority found an answer.
"We've identified the problem and a solution," said CTA Chairwoman Carole Brown on April 16, 2007. The agency decided to raise money from a bond sale.
A year later, it asked Illinois Auditor General William Holland to research its plan. The state hired an actuary, did a study and, on July 17, concluded that the sale of bonds would most likely result in a loss of taxpayers' money.
Thirteen days after that, the CTA ignored the warning and issued $1.9 billion in bonds. Before the year ended, the pension fund was paying out more to bondholders than it was earning on its new influx of money. The CTA was falling further behind.
Public pension funds across the United States are hiding the size of a crisis that's been looming for years. Retirement plans play accounting games with numbers, giving the illusion that the funds are healthy.
The paper alchemy gives governors and legislators the easy choice to contribute too little or nothing to the funds, year after year.
The misleading numbers posted by retirement fund administrators help mask this reality: Public pensions in the United States had total liabilities of $2.9 trillion as of Dec. 16, says the Center for Retirement Research at Boston College. Their total assets are about 30% less than that, at $2 trillion.
With stock market losses this year, public pensions in the United States are underfunded by more than $1 trillion.
That lack of funds explains why dozens of retirement plans in the United States have issued more than $50 billion in pension obligation bonds during the past 25 years -- more than half of them since 1997 -- public records show.
The quick fix for pension funds becomes a future albatross for taxpayers.
In the CTA deal, the fund borrowed $1.9 billion by promising to pay bondholders a 6.8% return. The proceeds of the bond sale, held in a money market fund, earned 2% -- 70% less than what the fund was paying for the loan.
Pension bonds portend the possibility of steep tax hikes.
By law, states must guarantee public pension fund debts.
"What appears to be a riskless strategy is actually very risky," says David Zion, director of accounting research for New York-based Credit Suisse Holdings USA Inc. "If the returns on the pension bond-financed assets don't exceed the cost of servicing the debt, the taxpayers bear the brunt."
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