CT ends longstanding dispute with federal tax officials over big state pensions

Connecticut has resolved a longstanding dispute with the Internal Revenue Service regarding six-figure state pensions that exceed federal caps — but it doesn’t mean aggregate benefits will be going down anytime in the near future.

The voluntary correction program Connecticut agreed to will, however, preserve the tax-exempt status of the pension system, which several state officials insisted was at risk over the past decade.

“This IRS-approved plan guarantees the integrity of the state’s pension plan and protects its critical tax treatment,” said Comptroller Kevin P. Lembo, who announced the deal Wednesday. The comptroller’s office administers pension payments to state retirees.

Though full details weren’t available, a summary provided by Lembo’s office indicates some roughly 60 pensions under review will be adjusted downward, others upward, and still others — though above IRS limits — will be “grandfathered” and accepted into the system.

The conflict is centered on a Connecticut pension system that dates back to the late 1930s and federal limits on states’ pension calculations — most of which sprung up in the 1990s. 

Currently, those IRS rules would cap most state pensions between $230,000 and $285,000. Most state pensions are nowhere close to that. According to the legislature’s nonpartisan Office of Fiscal Analysis, the average pension for all state retirees is $38,284.

But some retirees, particularly those who held high-paying administrative or academic positions and began service prior to 1990, can earn far more.

For example, the state paid a $349,443 pension in 2019 to retired University of Connecticut business professor John Veiga, according to the comptroller’s pension transparency website. And former UConn President Harry Hartley’s pension last year was $251,588.

For years, state auditors charged Connecticut was paying hundreds of thousands of dollars annually — sometimes millions — more than it should, by exceeding these caps.

Auditors John Geragosian and Robert Kane reported in May that Connecticut paid $1.1 million more than it should have annually to retirees during the 2015 and 2016 fiscal years.

But Connecticut collectively bargains how it saves and calculates pensions, and labor unions repeatedly insisted the IRS cap does not apply as broadly as the auditors assert.

Former state Treasurer Denise L. Nappier had urged all parties to resolve the matter swiftly, warning federal tax officials wouldn’t indefinitely tolerate the situation. In 2014 she threatened to warn Connecticut bond investors that the state’s pension system was at risk of losing its federally qualified ranking because of this. The treasurer oversees investment of state pension funds.

“Until this issue is fully assessed and addressed, eliminating any threat to the tax-exempt status of the pension funds,” Nappier wrote in a letter to the State Employees Retirement Commission, “I will not rest easily.”

Lembo, who inherited this predicament when he took office in 2011, began to limit certain — but not all — pension payments above cap limits while also insisting Connecticut negotiate a solution with labor unions and the IRS.

But matters progressed slowly over the years and the State Employees Retirement Commission, which is comprised of state and union representatives, went through multiple legal representatives to find a solution.

A full analysis of all pensions affected by the new deal, and related changes in benefit payments, was not available Wednesday.

But Lembo said the “overwhelming majority” of the tentative limits he began imposing on some high pension payments in 2011 were deemed appropriate by federal tax officials through this settlement.

Still, other high-value pensions in excess of IRS caps won’t be reduced. 

In those instances, if it involved payments that the comptroller’s office has reduced since 2011, retirees will be entitled to recoup those lost funds — about $845,000 in total — and receive larger pension payments going forward.

State Treasurer Shawn T. Wooden, who succeeded Nappier in 2019, praised Lembo for resolving the matter.

“Losing our qualified status would have been detrimental to the state,” Wooden said. “Non-qualified funds do not receive the same favorable tax treatment as qualified retirement plans, and so, it’s critical that our state meets the IRS’s income and service guidelines in order to protect Connecticut’s pensioners’ benefits. Since coming into office, I have been committed to minimizing risks and maximizing returns, and these actions today help us to continue on that path.”