In March 2013, the SEC announced that it had charged the State of Illinois with securities fraud for misleading municipal bond investors about the state’s approach to funding its pension obligations. This marks the second time that the SEC has charged a state with violating federal securities laws in their public pension disclosures. The SEC charged New Jersey in 2010 with misleading municipal bond investors about its underfunding of the state’s two largest pension plans.
An SEC investigation revealed that Illinois failed to inform investors about the impact of problems with its pension funding schedule as the state offered and sold more than $2.2 billion worth of municipal bonds from 2005 to early 2009. Illinois failed to disclose that its statutory plan significantly underfunded the state’s pension obligations and increased the risk to its overall financial condition. The state also misled investors about the effect of changes to its statutory plan. Illinois, which implemented a number of remedial actions and issued corrective disclosures beginning in 2009, agreed to settle the SEC’s charges.
According to the SEC’s order, the state established a 50-year pension contribution schedule in the Illinois Pension Funding Act that was enacted in 1994. The schedule proved insufficient to cover both the cost of benefits accrued in a current year and a payment to amortize the plans’ unfunded actuarial liability. The statutory plan structurally underfunded the state’s pension obligations and backloaded the majority of pension contributions far into the future. This structure imposed significant stress on the pension systems and the state’s ability to meet its competing obligations—a condition that the SEC determined worsened over time.
The SEC’s order found that Illinois misled investors about the effect of changes to its funding plan, particularly pension holidays enacted in 2005. Although the state disclosed the pension holidays and other legislative amendments to the plan, Illinois did not disclose the effect of those changes on the contribution schedule and its ability to meet its pension obligations. The state’s misleading disclosures resulted from various institutional failures. As a result, Illinois lacked proper mechanisms to identify and evaluate relevant information about its pension systems in its disclosures. The SEC cited, for example, that Illinois had not adopted or implemented sufficient controls, policies, or procedures to ensure that material information about the state’s pension plan was assembled and communicated to individuals responsible for bond disclosures. The state also did not adequately train personnel involved in the disclosure process or retain disclosure counsel.
According to the SEC’s order, Illinois took multiple steps beginning in 2009 to correct process deficiencies and enhance its pension disclosures. The state issued significantly improved disclosures in the pension section of its bond offering documents, retained disclosure counsel, and instituted written policies and procedures as well as implemented disclosure controls and training programs. The state designated a disclosure committee to assemble and evaluate pension disclosures. In reaching a settlement, the Commission considered these and other remedial acts by Illinois and its cooperation with SEC staff during the investigation. Without admitting or denying the findings, Illinois consented to the SEC’s order to cease and desist from committing or causing any violations of Sections 17(a)(2) and 17(a)(3) of the Securities Act of 1933.