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Illinois' upcoming $500 mln bond sale gets near-junk rating

CHICAGO, April 5 (Reuters) - Moody's Investors Service on Thursday rated $500 million of bonds Illinois plans to sell this spring one notch above junk, citing the state's big unfunded pension liability and chronic budget deficits.

The credit rating agency assigned the state's current Baa3 rating to the general obligation bonds. Illinois' first bond issue this year will be sold competitively with the proceeds earmarked for capital and information technology projects, according to a state official familiar with the sale. A pricing date was not available.

Moody's said the rating outlook remains negative, "based on our expectation of continued growth in the state's unfunded pension liabilities, the state's difficulties in implementing a balanced budget that will allow further reduction of its bill backlog, and elevated vulnerability to national economic downturns or other external factors."

It warned the rating could be downgraded to the junk level if Illinois' unpaid bill backlog increases, pension funding is reduced, or if the state is unable to manage impacts from a future recession, trade war or reductions in federal funding for Medicaid.

Illinois, the lowest-rated U.S. state, sold $6 billion of GO bonds in October to reduce an unpaid bill backlog that ballooned to a record $16.67 billion last year. It also sold $750 million of GO bonds in November to fund capital projects and information technology.

Investors are demanding higher yields for Illinois bonds than for GO bonds issued by other states. Illinois' so-called credit spread over Municipal Market Data's benchmark triple-A yield scale has widened from 177 basis points in early January to 208 basis points as of Wednesday. (Reporting by Karen Pierog Editing by Matthew Lewis)