(Bloomberg) — New Jersey is confronting escalating bills from $2.8 billion of pension bonds, adding to pressure on Governor Chris Christie as the state struggles to finance its underfunded retirement system.

The payments on the debt, which was sold in 1997 to bolster the public-employee pension plans, are set to grow to almost $500 million in 2020 from $342 million this year, according to a Feb. 13 report released by the state treasurer. The annual cost will remain close to that level until the debt is paid off at the end of next decade.

“The pension debt service is skewed to the out-years,” said Richard Keevey, a fellow at Rutgers University in New Brunswick, New Jersey, who was budget director for former Governor Jim Florio, a Democrat. “It starts out low and rises sharply.”

The debt adds to taxpayers’ costs for teacher and state-employee retirement plans, which last year had about one-third of the assets needed to cover promised benefits, leaving an $83 billion shortfall. The deficit is pushing New Jersey to put more money into the funds and has contributed to a record eight credit-rating cuts under Christie, making it the lowest-ranked state after Illinois.

Pension costs

Christie, a 52-year-old Republican, last month proposed a $33.8 billion spending plan for the year beginning in July that contributes a record $1.3 billion to the retirement system. That’s still less than the $3.1 billion the state was scheduled to pay as Christie rolled it back to help close a projected $7.35 billion deficit.

The climbing debt bills will make it more difficult for New Jersey to free up cash for the retirementsystem, said Daniel Solender, who helps manage $17 billion as director of munis at Lord Abbett & Co. in Jersey City. The pension bonds will cost $349 million next fiscal year and climb to $397 million in the following 12 months, according to the state’s report.

“They have to make a pension payment, too, on top of the debt service,” he said.

Chris Santarelli and Joe Perone, spokesmen for the New Jersey Treasurer Andrew Sidamon-Eristoff, didn’t respond to e- mailed requests for comment on the pension debt.

Skipped payments

New Jersey’s pension-fund shortfall has been building for more than a decade as elected officials failed to set aside enough money to cover promised benefits, putting those funds toward other uses. The practice continued under Christie, a potential 2016 presidential candidate whose approval rating among the state’s voters dropped to an all-time low in a Rutgers-Eagleton Poll last month.

The bond issue in 1997, under Republican Governor Christine Todd Whitman, was intended to lower the state’s retirement expenses with a wager that the returns from investing the proceeds would be more than the debt payments. That strategy backfired after the stock market crashed in 2000 at the end of the Internet boom.

When Christie proposed his budget last month, he told reporters that all of the increase in the state’s revenue “is being eaten up by growth in three areas: pension, health benefits and debt service.”

Interest bills

Interest and principal payments on debt will rise 15 percent next year to $3.99 billion.

“Our debt bills continue to rise, putting added pressure on our budget,” said state Senator Paul Sarlo, a Democrat from Wood-Ridge who heads the budget committee. “We are required to have a balanced budget, so when our debt service goes up we have to cut spending elsewhere.’’

Investors demand additional yield to buy New Jersey debt instead of top-rated munis. Yields on an index of 10-year New Jersey bonds were 2.8 percent Monday, 0.62 percentage point more than AAA-rated munis, data compiled by Bloomberg show. That yield gap reached a percentage point of 0.64 on Feb. 18, the most since at least January 2013.

The pension bonds carry yields of as much as 7.65 percent on debt maturing in 2026. Most of the bonds can’t be repurchased from investors before they mature, which prevents New Jersey from refinancing to take advantage of lower interest rates.

Pushing the bulk of the payments toward later years of a bond issue is “fairly typical” because bills grow as long-dated debt matures, said Solender, the investor with Lord Abbett.

Marcy Block, a senior director with Fitch Ratings in New York, said New Jersey’s debt has added to its fiscal strains. In September, Fitch lowered its rating on New Jersey’s bonds and assigned a negative outlook, signaling more cuts may be ahead. The company grades the state A, its sixth-highest rank.

“They have a fairly hefty debt load through all their obligations,” said Block. “It makes their budget inflexible.”

–With assistance from Michelle Kaske in New York.

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