(August 19, 2010) — The State of New Jersey has settled claims that it fraudulently misled municipal bond investors while underfunding the state’s two biggest pensions covering teachers and other state employees in the first Securities and Exchange Commission (SEC) case against a state.

New Jersey agreed to settle the case without admitting or denying charges. While the state was not required to pay any civil penalties, it was ordered to cease and desist from future violations, the SEC said.According to the US regulator, New Jersey offered and sold more than $26 billion of municipal bonds in roughly 79 deals between August, 2001 and April, 2007. On Wednesday, the SEC said in a statement that documents for the billions of dollars in bond offerings during the period “created the false impression” that the $36 billion Teachers’ Pension and Annuity Fund and the $10.6 billion Public Employees’ Retirement System, both of Trenton, were adequately funded, concealing the fact that the state couldn’t make contributions without raising taxes or cutting services. As a result, the SEC said, investors were not provided adequate information to evaluate the state’s ability to fund the pensions or assess their impact on the state’s financial condition.

The funds under scrutiny are the largest of seven funds in the $66.9 billion New Jersey retirement system. To meet its pension obligations, New Jersey will now be forced to raise taxes and slash services.

According to the SEC, New Jersey resorted to accounting tricks to avoid increasing taxes to fund a 2001 benefits increase in the two plans. “Issuers of municipal bonds must be held accountable when they seek to borrow the public’s money using offering documents containing false and misleading information,” Elaine C. Greenberg, chief of the SEC’s Municipal Securities and Public Pensions Unit, said in a statement. “New Jersey hid its financial challenges from the very people who are most concerned about the state’s financial health when investing in its future.”

As the first state to ever face securities fraud charges by the SEC, the suit reflects greater effort by the agency to catch and crack down on fraudulent practices in the $2.8 trillion municipal bond market — the regulator focused on New Jersey, but the SEC is conducting several investigations into what other states disclosed about their deteriorating finances. According to the Pew Center on the States, US state pensions were underfunded by at least $500 billion in 2008.

“All issuers of municipal securities, including states, are obligated to provide investors with the information necessary to evaluate material risks,” said Director of the SEC’s Division of Enforcement Robert Khuzami in a statement. “The State of New Jersey didn’t give its municipal investors a fair shake, withholding and misrepresenting pertinent information about its financial situation.”

Following the SEC inquiry, New Jersey hired disclosure counsel to evaluate its bond documents, stepped up disclosure training and has changed the way its pension payments are reflected in its bond documents to eliminate the issues cited by the SEC, vowing to avoid any future violations, according to a press release from the state attorney general’s office.