Indiana session wraps by passing budget, anti-ESG pension bill

A $44.5 billion two-year budget and legislation that imposes environmental, social, and governance investment rules on Indiana's public pension systems await Indiana Gov. Eric Holcomb's signature.

Lawmakers wrapped up their session Friday after passing the budget in HB1001 after the House and Senate resolved differences in their versions of the budget that followed Holcomb's earlier this year. The previous week, the Republican majority passed the ESG rules laid out in HB1008. Both arrived on his desk Monday.

"First and foremost, we balanced our 10th straight budget which enables us to strategically prioritize key areas in health, education and workforce that will elevate Indiana to the Next Level," Holcomb said in a statement referencing his budget priorities.  

Bloomberg News

The budget speeds up by two years the gradual reductions in the individual income tax rate adopted last year so that the current rate of 3.15% will fall to 2.9% by 2027. It was lowered this year from 3.23%.

The budget pours more than $1 billion into an expansion of school vouchers, puts $263 million toward healthcare initiatives and $100 million towards mental health services. The state will put more than $500 million from the national opioid settlement toward substance abuse programs.

The budget establishes a formal "deal closing" economic development fund funded with $500 million while also allowing for an additional $250 million-per-year tax credit cap and putting $150 million toward a revolving fund for site acquisition.

The budget provides funding to complete a new Westville Correctional Facility, a new state archives building, co-location of the state's blind and deaf schools and a new state park inn at Potato Creek State Park. The budget provides $120 million for capital projects at several public universities.

The budget included Holcomb's proposal to direct $500 million for the second round of the Regional Economic Acceleration & Development Initiative, or READI, that connects communities to build sustainable partnerships for growth.

As negotiations hit the homestretch, an additional $312 million was appropriated for kindergarten through 12th grade schools after concerns were raised that districts were being shortchanged amid the additional funding for vouchers.

Lawmakers shifted funds that had initially been slated to help pay down the pre-1996 teacher's pension fund's $8.8 billion of unfunded liabilities, reducing a planned $1 billion supplemental appropriation to $700 million.

Democrats criticized the size of the education voucher program spending.

"Expansion of vouchers at that magnitude is despicable," said Rep. Greg Porter, D-Indianapolis.

The budget establishes the 16-member "Funding Indiana's Roads for a Stronger, Safer Tomorrow" task force, dubbed FIRSST, to consider revenue sources that would support an equitable road funding plan for a future in which the prevalence of electric vehicles undercuts fuel tax collections.

Additional spending in the final version of the budget was permitted by a rosier forecast released in April that lifted expected general fund revenues through the next biennium that begins July 1 by $1.5 billion compared to the December forecast.

The update lifted current year revenues to $21 billion from the $20.6 billion anticipated in the prior forecast. Fiscal 2024 revenues are now expected to total $21.9 billion, up from $21.3 billion, and the state now expects $22.4 billion of revenue in fiscal 2025, up from $21.9 billion.

The state collected $21.2 billion in general funds in fiscal 2022 and $19.4 billion in fiscal 2021.

Projections for sales tax, individual and corporate income taxes, and gambling taxes all were raised with corporate taxes raised by double-digit percentages in the next two years. The individual income tax projections were revised by 1.7% this year, 2% next year, and 3.7% upwards in fiscal 2025.

The forecast continues to anticipate "tighter monetary policy, persistently high inflation, and a global slowdown is projected to lead to decelerating economic growth for the FY 2023-25 period."

The budget ends the next budget cycle with a $2.7 billion projected surplus.

The ESG pension legislation received final approval April 24 following a series of tweaks that stripped out requirements that would have carried a daunting price tag.

If signed by the governor as expected, the pension system would be required to divest from and terminate some investment relationships when the funds abide by various ESG policies.

Under the legislation, the board of the Indiana Public Retirement System is barred from investments with the purpose of influencing any social or environmental policy or attempting to influence the governance of any corporation for nonfinancial purposes.

"This bill is about keeping politics out of our investments," Rep. Ethan Manning, R-Logansport, who is the lead author, said ahead of the final vote. "ESG investing has inserted politics and ideology into investments where they don't belong."

Manning said the legislation is needed as current policies allow investment managers to boycott arms manufacturers and fossil fuel like coal plants — including Indiana-based companies — to further their own policies.

The Republican-backed HB1008 surfaced earlier this year and was advancing before briefly stalling after a report from the Legislative Services Agency warned of a potential $6.7 billion hit to investment returns over the next 10 years.

The state treasurer must compile a list of investment managers referred to as service providers that have made an "ESG commitment" with supporting documentation and send it to the Indiana public retirement system's board.

The board is prohibited from entering a contract or modifying, amending, or continuing a contract with a service provider that has made an ESG commitment unless taking the action violates the board's fiduciary duty to the system's participants and beneficiaries. The legislation exempts private equity funds and bank holding companies and does not cover a defined-contribution plan.

The original $6.7 billion projected blow would have threatened higher employer contributions from governments and hurt the funds' health. It's currently at a collective funded ratio of nearly 90% with a $3.7 billion unfunded liability and $42 billion in investments.   

A legislative analysis of the final version no longer lists any fiscal impact although it does say the legislation would  "increase administrative workload for the INPRS staff and the board" and that "INPRS may have increased trading costs and workload to change an investment manager or proxy advisor who violates the provisions of the bill due to an ESG commitment."

Those increased costs could be made up by lower fees or a higher rate of return by switching to a different manager.

If signed by the governor, it takes effect July 1. The legislation passed along party lines. Republican control the legislature and Holcomb is a Republican.

Indiana Democrats pushed back during legislative debate arguing there's no need for the bill as funds already are guided by state rules that put investment performance first and they charge that it's the GOP that has inserted politics into investment management by jumping on the anti-ESG bandwagon seen in other states.

Anti-ESG policies and legislation have swept across Republican-led states targeting pension fund investments, rating agencies and underwriters. The Indiana Capital Chronicle reported Manning as saying that he would "absolutely" consider legislation extending the anti-ESG concept to bond transactions as other states have done.

Since 2021, 18 states have proposed or adopted legislation or regulation limiting the ability of the state government to do business with financial institutions that restrict funding to certain industries, like firearms or fossil fuel, based on ESG criteria, according to law firm Morgan Lewis.