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UPDATE 1-Chicago mayor's pension plan would hike taxes, cut benefits

(Adds release of plan details by mayor's office, union reaction)

CHICAGO, April 1 (Reuters) - Chicago Mayor Rahm Emanuel proposed raising property taxes and reducing retirement benefits for some city workers in order to ease a severe pension funding problem, according to details of the plan released by his office on Tuesday.

Under the plan, the city would collect $250 million more in property taxes over five years while workers' current 8.5 percent contributions to the city's municipal and laborers retirement systems would rise an additional 2.5 percent over five years. Annual 3 percent compounded cost-of-living pension increases would also be tied to inflation and skipped in certain years.

In addition, the city would tap separate funds for its airports and utilities to cover pension funding increases for workers in those departments.

Chicago warned that the two systems face insolvency within nine to 17 years. The funding shortfall is $8.4 billion for the municipal system and $1 billion for the laborers system, according to city documents.

A coalition of public labor unions, We Are One Chicago, blasted the plan as unfair to current and retired workers.

"The city's proposal is an unconstitutional approach that makes onerous cuts to the pension benefits of nearly 50,000 active and retired public servants," the group said in a statement.

Recently enacted pension changes for Illinois teachers and state workers are being challenged in court on the grounds that the state constitution prohibits any impairment of retirement benefits for public sector workers.

Because pensions are governed by state law, Chicago will seek legislative approval for the plan.

"The plan strikes the right balance of reform and revenue and serves as an honest framework in which everybody gives something, so that no one has to give everything," Emanuel's office said in a summary of the plan.

Last month, Moody's Investors Service dropped Chicago's credit rating one notch to Baa1, citing a massive and growing pension liability that remains a threat to the city's fiscal solvency. Prior to that downgrade, Moody's slashed Chicago's rating three notches in July.

(Reporting By Karen Pierog; Editing by Dan Grebler)