Bonds

S&P Global Ratings upgraded Illinois by one notch Thursday for ongoing progress in chipping away at its debts and rebuilding its rainy day fund.

The action — lifting $26.5 billion of general obligation bonds to A-minus from BBB-plus — puts the state back into the single-A category for the first time in seven years and follows single-notch upgrades in July 2021 and May 2022 that reversed a years-long downward trajectory.

The state’s mounting fiscal strains and two-year budget impasse dragged its rating down to one notch above junk in June 2017.   

“The upgrade on the GO debt reflects our view that Illinois’ commitment and execution to strengthen its budgetary flexibility and stability, supported by accelerating repayment of its liabilities, rebuilding its budget stabilization fund to decade highs; and a slowing of statutory pension funding growth, will likely continue during the outlook period,” said S&P’s lead analyst on Illinois Geoff Buswick.

The upgrade comes one week after Gov. J.B. Pritzker unveiled a fiscal 2024 budget package that anticipates tax revenues will hold up in the coming year, allowing the state to spend more on education and human services while also making another supplemental pension contribution and a deposit to the rainy-day fund.

Over the last three years, with the help of an infusion of billions in federal COVID-19 relief and ballooning tax collections, the state paid off $8 billion in overdue bills — reducing accounts payable to $963 million — paid off short-term cash and inter-fund and federal borrowing, built up a depleted budget stabilization fund to $1.9 billion, and made $500 million in supplemental pension contributions.

All told the state expects to have paid off $10 billion of various forms of debt through fiscal 2024.

“A key consideration in the upgrade was the state’s recent actions in both addressing longstanding obligation repayments and rapidly repaying obligations taken on during the pandemic-induced recession,” S&P said.

The full funding of statutory pension contributions, which has not always been the case, will reduce future growth in the payment and the supplemental contributions being made mark the first since the 50-year funding scheme was approved in 1995, S&P said.

The third pending action to address previous obligations that contributed to the upgrade is the proposed cash defeasance of $450 million in remaining tobacco bonds, S&P said. The state issued tobacco bonds to pay down bills, but Pritzker has proposed tapping a recent settlement with tobacco companies to pay off the bonds, freeing up ongoing Master Settlement funds to support Medicaid.

The continued build-up of the rainy-day fund is a credit positive, particularly if a recession is included in the revenue estimates. In terms of the fiscal 2024 proposed budget, this BSF balance would be 3.9% of total general fund expenditures or 5.1% of operating expenditures, S&P said.

“Our continued fiscal responsibility and smart budgeting will save Illinois taxpayers millions from adjusted interest rates, and my partners in the General Assembly and I look forward to building on that success,” Pritzker said in a statement on the upgrade.

S&P dropped the state out of the single-A category in 2016 when it cut the rating to BBB-plus from A-minus.

It tumbled to BBB-minus, one cut away from junk, in mid-2017 amid the ongoing, two-year-old budget impasse. Fitch Ratings and Moody’s Investors Service kicked Illinois GOs out of the single-A category in October 2015, according to a ratings chart from the Commission on Forecasting and Accountability.

Illinois is now on par with New Jersey although New Jersey carries a positive outlook. Only Kentucky is also rated in the single-A category at A with a positive outlook, according to S&P.

Illinois trades at the widest spread among states with its 10-year at a 163 basis point spread to the Municipal Market Data’s AAA benchmark and 125 bps more than the single-A benchmark.

Along with the GO rating, S&P raised state appropriation-backed bonds to BBB-plus from BBB and moral obligation bonds to BBB-minus from the junk level of BB-plus. The state’s sales-tax backed Build Illinois bonds and Metropolitan Pier and Exposition Authority expansion bonds rose to A from A-minus.

S&P noted transparent reporting both from the comptroller and the Governor’s Office of Management and Budget and said it expects that to be sustained or improve. The state is notoriously late with its audited results, but Comptroller Susana Mendoza has begun releasing interim audits and posts key financial metrics on the comptroller’s website.

The state’s burdensome $35 billion retiree healthcare tab and unfunded pension liabilities of $139 billion — with a weak funded ratio of just 44% — still weigh heavily on the state’s balance sheet and ratings. The state’s statutory funding scheme — that aims for a 90% funded ratio in 2045 and falls short of an actuarial level — offsets the state’s positive fiscal trajectory.

“Even with this credit-strengthening trend, the state’s pension and other postemployment benefit liabilities remain significant credit pressures,” S&P said.

The state could further climb the ratings ladder if pension, OPEB, and BSF funding levels remain on an upward trajectory while shrinking the structural deficit.

“We are shoring up the rainy-day fund and my rainy-day fund bill, HB2515/SB2443, which I hope to pass this session, will make regular payments into that fund and the Pension Stabilization Fund a regular requirement — hopefully ushering in more upgrades,” Mendoza said in a statement.

While the state’s budget is balanced on a cash basis, S&P doesn’t consider it structurally balanced — even in the absence of one-time revenue use — if it doesn’t make actuarially determined contributions to pensions.

Pritzker unveiled a $49.6 billion general fund fiscal 2024 budget that taps most of $49.9 billion of expected revenues in the fiscal year that begins July 1, leaving a $303 million balance.

While the healthy pace of growth that has swollen tax coffers is expected to slow in the coming fiscal year, strong collections have exceeded prior estimates and the administration revised upward the level of revenues expected in the current fiscal year by $1.24 billion to $51.4 billion.

The $1.24 billion comes on top of a $3.7 billion surplus from last November’s forecast.

GOMB also raised its revenue estimate by $2.3 billion to $49.9 billion for fiscal 2024. While better than expected in November, it’s down 2.8% from what’s now expected to be collected in the current fiscal year.

The proposed budget calls for using $50 million to further pay down accounts payable and a supplemental $200 million pension payment above the $9.8 billion statutory contribution from the general fund.

The proposed budget would send another $138 million from the anticipated $303 million fiscal 2024 ending balance to the rainy-day fund. The rainy-day account would also receive $45 million in what marks the first installment of the unemployment trust fund repayment of a $450 million 10-year state loan.

Those additions along with a $1.17 billion deposit coming from a fiscal 2023 surplus would bump the rainy-day fund to over $2 billion by the close of fiscal 2024. Fiscal 2023 ends with a $194 balance and fiscal 2024 with a $165 million balance after the rainy-day deposits in both years.

Critics contend the state needs to do far more to tackle the pension quagmire as the reliance on statutory formula over an actuarial one allows the unfunded tab to grow in down investment years.

Fitch rates Illinois GOs BBB-plus with a stable outlook and Moody’s rates them Baa1 with a stable outlook.  

“The governor’s executive budget proposal continues some recent positive fiscal trends including an additional proposed supplemental pension contribution this year and ongoing commitment to add to the state’s reserves,” Fitch’s head of U.S. state ratings Eric Kim said in an email earlier this week.

“With an uncertain economic outlook, the revenue forecast is particularly important and we will be closely watching income tax collections for the rest of this year, particularly in April, to gauge the reasonableness of the governor’s revenue forecast,” Kim said.

“The proposed budget, like those of the past couple years, puts additional funds into the state’s budget stabilization account and makes additional, though modest, payments to the state’s pension plans,” Moody’s lead Illinois analyst Matthew Butler said in an email.

“These actions are positive from a credit standpoint,” he added. “Like all states, Illinois is exposed to uncertainty and potential volatility in revenue, and declines in revenue relative to current expectations could make it more challenging to follow through on these proposals.”

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