Hartford - The pension-funding sins of Connecticut's past are now catching up to us, threatening the state's fiscal stability and the comfortable retirements of future retirees.

That was the message to state legislators last week from Benjamin Barnes, secretary of the state Office of Policy and Management and Gov. Dannel P. Malloy's top budget official, although he spared his audience the fire and brimstone.

But what the show lacked in hellfire, it made up with red-ink.

Connecticut has one of the lowest pension funding levels of all 50 states. According to the most recent audit, the State Employees Retirement System, which covers more than 42,000 retirees, had $11.7 billion in unfunded liabilities last year.

The audit found just 44 percent of the money that's needed to meet the state's future obligations, far below the general guideline of 80 percent.

If nothing is done, Barnes said, "It gets spectacularly ugly."

The state's required annual contributions could grow from the current $1 billion to a peak of $4 billion in two decades. And that doesn't include the other contractual payments for retiree health care and teachers' pensions.

For taxpayers, the stakes are high. Every dollar that the state preserves for pensions is a dollar lost for services such as education, social programs and road work, and growing pension costs could force the state to hike taxes and fees.

Straining under its own payment schedule, Rhode Island's legislature and governor last month approved a sweeping and highly controversial overhaul of that state's pension system that cuts some benefits for retirees as well as workers.

But Connecticut's pension promises to retirees - unlike Rhode Island's - are believed to be firmly bound by legal contracts.

"We committed to giving them pensions under the law; we can't take that away from them," Barnes said.

As the governor's budget chief laid out the depths of Connecticut's obligations, he made an opening argument in what could become the administration's phase II strategy for reining in the pension systems' escalating costs to the state.

He called for doing the opposite of what Connecticut has done for decades: Pay more into its pension funds now to ward off future pain.

Barnes said it is too early to unveil the full details of the idea, but it would likely involve placing budget surpluses into the pension account and, through the fund's relatively strong return rates, would help to smooth out the rising contribution schedule.

The Original Sin

One could say that the first phase of Malloy's pension revamp happened this year when the state reopened the costly 20-year retirement and health care agreement that was signed in 1997 by former Gov. John G. Rowland.

That renegotiation captured a projected $21.8 billion in cost-savings over two decades, including $8.3 billion in pension savings. The next step would involve revisiting that 1997 deal between Rowland and the unions, along with one from 1995.

The two agreements allowed the state to make smaller pension contributions, which offered up-front "savings" for state government. Larger contributions were put off to the future, including a $4 billion balloon payment in 2032 that Barnes warns about.

Rowland was not the first or last governor to find "savings" by adjusting the state's contributions to its pension funds.

The Original Sin of the State Employees' Retirement System was the period of three to four decades, after its creation in 1939, when state officials didn't set aside money in a trust for investment and large-scale accumulation.

The idea at the time was that the retirements were safe because state government would never go out of business and could always raise taxes.

Connecticut stuck to a "pay as you go" method that required only the payment of current retirement benefits. By 1971, when the state enacted the ominous-sounding Public Act 666 mandating an actuarial contribution schedule, the system was nearing $1 billion in unfunded liabilities.

Fast cash

For politicians in a budget crunch, cutting back on pension contributions can, when money is needed, be an easy route to fast cash. The full repercussions aren't felt for years.

"Most people don't even notice these things until the chickens come home to roost," said William Cibes, Jr., a former state budget director.

The state began making big cuts to its scheduled contributions in 1989 when revenues plummeted in the economic downturn. The Hartford Courant reported that from 1989 to 1995, the state should have made $3.1 billion in contributions to the state employees' fund, but only put aside $2.1 billion.

To reduce payroll, the state offered early retirement incentive programs to workers in 1989, 1991, 1997, 2003 and 2009. While the early retirements saved money in the budget, they burdened the pension system as more people were drawing benefits and fewer were paying in.

The 2009 labor deal under former Gov. Jodi M. Rell contained both a retirement incentive program and pension contribution deferrals. The deferrals totaled nearly $315 million over three years.

Budget documents show that reducing early contributions under Rowland produced approximately $150 million in savings for his debut budget. The maneuver freed up revenue that, combined with union concessions, helped finance the governor's first-term tax cuts, including the introduction of a popular $100 property tax credit.

But it stunted the fund's long-term prospects, as there was less money for the state treasurer to invest. Connecticut's pension fund averaged a 6.8 percent annual market return rate from 1993 to 2009, according to a report by the State Post-Employment Benefits Commission, a panel appointed by Rell.

"You save a dollar, but it costs you $20 in the future," said Michael Cicchetti, a former budget official who chaired the commission.

The state's actuaries told union officials that the Rowland administration's desired contribution method was a generally accepted way to finance pensions, said Bob Rinker, executive director of CSEA/SEIU Local 2001, who was part of the State Employees Bargaining Agent Coalition during those negotiations.

Still, the unions would have preferred to stick with the steadier method which then existed, Rinker said. But the benefits that Rowland dangled were tough to resist.

"When he offered us a 20-year pension and health care agreement, it was hard to keep the members away from the ballot box," Rinker said.

On the side

The 1995 and 1997 labor agreements also contained what one former state official calls a "side deal" between the governor and the unions that permitted the state to make smaller annual contributions than normally would be required.

Under this arrangement, the fund's actuaries make an initial calculation of the state's annual contribution and then reduce that amount based on "interpretations" of the two deals.

These reductions totaled $105.5 million last year, and have likely exceeded $1 billion since the late 1990s, according to the post-employment commission's report.

"It was something that the commission in its work really brought to light," said Cicchetti. "Not a lot of people were aware of the effect that these agreements had on the annual payment."

A twist to the story is that some union officials, including Sal Luciano, executive director of Council 4 AFSCME - the largest state employees union - say the Rowland administration "misapplied" the language of the two deals and erred by cutting back on the state's contributions.

"They shouldn't have been taking those additional reductions," said Matt O'Connor, spokesman for the unions' bargaining coalition, speaking for Luciano. "Ultimately we would like to see this problem rectified."

Rowland did not reply to requests for comment for this story.

j.reindl@theday.com