Jim Spiotto

“Only 62 cities, towns, villages and counties have filed Chapter 9 since 1954. And they’ve been small ones, except for Bridgeport, Connecticut, in 1991, Orange County in 1994, Vallejo in 2008, Harrisburg last year but they got dismissed, Boise last year and then Jefferson County. Then Stockton and San Bernardino this year. They don’t want to give up the right to fund infrastructure locally and borrow money locally at a low cost. And if you file Chapter 9, access is either going to be limited or you’re not going to have it. That’s why I’m not surprised there have only been three. They’re for the most part only small municipalities. Big cities have to work with the state to try to find a solution. If they go into bankruptcy, the stigma of that could be fatal to them.” ~ Jim Spiotto, Chapman & Cutler

Spiotto II: What’s the most common misconception people have about Chapter 9 bankruptcy? A: “People don’t realize until they get in it how complicated, time-consuming, and uncertain it is, and it costs money. Vallejo spent more than $10 million in attorney fees. That’s $10 million you could have paid to creditors. It’s there as a last resort. It will get you results, but you probably won’t like it. It’ll probably take longer than you thought, and it’ll probably be far less efficient than you thought. But you will get there. In other countries, states and municipalities just kind of melt away.” 

 

Missed Connections

Monticello, Minnesota (not Virginia) is facing a potential default of the bonds it issued for its broadband network (The subject was put to referendum in 2007 and it passed with a 74% majority in favor of the system.) -- a system once envisioned as a potential model for other local governments to follow, but it’s system that today is failing to generate enough revenues to service $26.4 million of tax-exempt revenue bonds issued in 2008, and it is challenged by stiff competition from private competitors that lowered their prices to keep customers. With the system’s revenues falling short, the trustee has been drawing from various bond reserves to cover debt service payments. Between July 2011 and June 2012, the city, which issued the bonds and owns the system, covered debt service by loaning the project money generated by its liquor sales operations. Under no obligation to make up the shortfalls, Monticello, located just north of the Twin Cities, informed the trustee of its intention to halt that practice in June as it sought out a restructuring. Without any agreement between bondholders and the city on a restructuring, and with the city in default on bond terms for failing to raise rates to a level sufficient to cover debt service, trustee Wells Fargo Bank NA last month obtained a court order allowing it to not make a payment last Saturday for $883,000: the trustee is preserving existing reserves to cover various expenses which could include a potential legal battle with the city. The city’s decision to stop supplementing debt service prompted the trustee’s decision to undertake a trust instruction proceeding in Hennepin County District Probate Court. Proceeds of the bond were used to finance the city’s costs of acquiring and construction a fiber optics broadband communications network to provide cable television, internet access, and telephone services to businesses and residents; but the system entered July with just one-third the number of customers projected in the bond offering documents. The system was mostly complete as of March, providing more than 1,000 voice lines, 1,000 video connections, and nearly 1,400 internet connections. While the city is not under obligation to repay the bonds from any source other than the system’s revenue, the indenture does require it to establish rates and charges from its users to cover debt repayment. City financial reports note that the city failed to comply with that provision for the fiscal year ending Dec. 31, 2011. Such a move would likely cause more customers to turn to the competition. The reports showed the system’s expenses exceeded revenues by more than $2.6 million in fiscal 2011. Monticello reported in its own notices posted on EMMA earlier this year that it was “actively undertaking all reasonable actions and exploring all available options to make the system” financially successful while continuing to provide high quality services to its customers. Monticello is exploring strategic options with the goal of reducing costs, improving revenues, restructuring or refinancing debt.

Waiting for 60 Minutes to Own Up

It is just about two years since the infamous Meredith Whitney’s 60 Minutes declaration that we “could see fifty to a hundred sizable (municipal) defaults” that would result in billions of dollars’ in losses for municipal bond holders. Neither 60 Minutes nor Ms. Whitman have apologized, and now Ms. Whitman apparently wants to double down. Trying to profit again on the backs of state and local leaders, she has a new book, Downgraded, scheduled for publication this spring. Ms. Whitney, whose, Joe Mysak notes, “prognostications about local leaders and governments have bordered on the outrageous, despite the egregious sums she has charged,” is now expanding her efforts for profit, having told attendees of a Grant’s Interest Rate Observer conference last April (“The Municipal Finance Crisis – Just Wait,” and subtitled, “The bifurcation of states will dictate contraction and expansion of regional economies over the next two decades,” that by her calculations, the Coasts, especially California and New York, lose. The Dakotas, Kansas, Nebraska, Iowa, Oklahoma, and Texas will win. Mr. Mysak, a long-time, tell-it-as-it-is, astute observer, does not buy either theory of the wealthy “the sky is falling” author: “I don’t buy it, for two reasons. On the one hand, the conclusion that a “crisis’’ is either at hand (Forbes) or in the cards (Ms. Whitney) presumes that state and local officials are feckless, and won’t or can’t change course when faced with challenging situations. The only thing these officials can do, according to what might be termed the demographic determinists, is to raise taxes and, at some point, cut services to the bare-bones level and so make their locales unappealing and so spur more people to move out….I think that with some of the more hysterical headliners who choose to write about this asset class, you have to say not, ‘That hasn’t happened,’ but ‘That doesn’t happen.’ The municipal market isn’t a movie. There’s no climax car chase and big explosion at the end. What happens is that things muddle along.” What you won’t hear from Ms. Whitney or 60 Minutes: Adding in yields, the total return for the iShares Muni ETF is more than 25% over that that past two years, compared to 12% for the Vanguard Total Bond market ETF. Given the depth of the Great Recession, and the near bankruptcy of the federal government, it is a remarkable testament to how extraordinary sta5te and local leaders have managed—especially compared to Ms. Whitman’s predictions.

Wolverine Blues

Meanwhile Michigan Governor Rick Snyder and key members of the legislature intend to introduce legislation today under which financially distressed Michigan cities and school districts could choose between mediation with creditors, bankruptcy or a state-appointed emergency manager—legislation intended to replace last year’s local fiscal distress law (Public Act 4) repealed by Michigan voters last month. Five cities and three school districts in Michigan currently operate with emergency managers under a prior 1990 law, which would be replaced by the new measure. Gov. Snyder fears the repeal of Public Act 4 left the state without enough ability to rescue cities and schools (and the federal government…) from insolvency. The new financial rescue proposal would retain the state’s power to declare financial emergencies in cities and school districts, but would also give local governments the options to reach a consent agreement with the state, similar to one Detroit has: mediation, an emergency manager, or a Chapter 9 federal bankruptcy filing. Under current Michigan law, the state must approve a bankruptcy request. The proposed new law would tie a Chapter 9 filing to a full state review of city or school district finances. While the new bill would reinstate broad powers for emergency managers, local officials would have authority to approve certain decisions made by the managers, or develop alternate solutions that produce equal savings. The proposal would also permit local officials to ask the governor to remove emergency managers after a year, or dismiss them with a two-thirds vote of the governing body, such as a city council.

Detroit

Running Low on Fuel in Motor City
Motor City emergency manager, the top official in Detroit Mayor Dave Bing’s administration, told the City Council this week that getting Michigan to release bond funds is the only way to make it through the city’s latest cash crisis: “We have to take strong action to right our own house so the only lender we have available to us — the state — is comfortable in release of the bond proceeds,” said program manager William “Kriss” Andrews, who oversees the consent agreement Detroit inked with Michigan earlier this year to avoid an emergency manager; “We’re all capable of running it better than this, and the sooner we get help the sooner we get it fixed,” he added. The meeting came with the council to discuss Detroit’s precarious fiscal position and the steps needed to make it through the end of the calendar and fiscal years. In addition to approving measures required by Michigan to win bond proceeds from a state-controlled escrow account, the council also needs to approve a budget amendment that will allow the city to file its annual audit by the end of the year to secure the latest installment of state revenue aid. The council will meet Wednesday to vote on the budget amendment, which features a payment plan to address a $29 million shortfall in the city’s annual pension contribution. The 2012 budget apparently did not include the payment, and the city has scrambled over the last two weeks to cobble together a plan with Detroit’s enterprise agencies, including the water, sewer and transportation departments, to make the payment to avoid a hit to the general fund, finance director Cheryl Johnson told the council. The pension payment will allow the city to complete its 2012 Comprehensive Annual Financial Report on time. A timely CAFR filing is needed to win release of the latest installment of state revenue aid. Meanwhile, Bing is expected to meet with the council Dec. 11 for another special session that could include a new vote on a controversial contract hiring of public finance firm Miller, Canfield, Paddock and Stone PLC as special counsel to oversee the consent agreement. The contract is one of three so-called milestones Michigan is requiring to release $30 million of bond proceeds from a bond transaction last August. Without approval, the state has said it will not release the funds on Dec. 20 as scheduled. The council already rejected the three-year contract, but Bing has asked for a new vote. Even if Detroit wins release of the $30 million, a shortfall remains. The most recent fiscal forecast, released last month, projected a $47 million shortfall by next July without new revenue sources. The city’s only option is to continue to meet the state’s requirements for releasing more bond proceeds, Andrews told council members. Mr. Andrews noted: “The cash hole is deeper than any of us would prefer,” Andrews said. “We’re going to have a little greater difficulty in pulling in all of the bond proceeds beyond that $30 million. The only thing we can do is exercise the maximum self-help so our lender, the state, is confident we’re acting appropriately and responsibly, and will release more rather than fewer of the proceeds. I see that as the only avenue to get through this.”

Motor City II
Michigan State Treasurer Andy Dillon met with Detroit elected officials to discuss an expected fresh review of Detroit’s finances, the possible appointment of an emergency financial manager, and the role Detroit Mayor Dave Bing and other elected officials would play, according to local reports. Marshall Dillon reportedly said the city must implement a series of immediate changes to avoid the appointment of such a manager. A state spokesman said a new review, which could take up to 30 days, would likely begin next week. That could lead to the appointment of an emergency financial manager, who could ask the governor to approve a Chapter 9 bankruptcy filing. Mayor Bing was set to meet with the council next week to urge passage of a measure hiring Miller Canfield Paddock and Stone PLC as the city’s legal counsel for the consent agreement. The contract is one of several requirements from the state before it will release bond proceeds.

Rhode Island Pensionary Red

As the Ocean State heads to court this morning to defend its landmark pension overhaul law against a challenge from public sector unions, it’s not clear the state will sport a united front. Gov. Lincoln Chafee this week expressed his view that the state should explore “reasonable settlement options,” while Treasurer Gina Raimondo wishes to remain steadfast: “We should litigate that case forcefully. The law is on our side and we have a very good case.” The kerfuffle is over the legal challenge to the Rhode Island Retirement Security Act of 2011, which Gov. Chafee signed into law a year ago last month, new law that created a hybrid plan merging conventional public defined-benefit pension plans with 401(k)-style plans. It also included a suspension of cost-of-living adjustment increases for retirees and raises the retirement age for employees not yet eligible for retirement. The new law was guesstimated to cut Rhode Island’s $7 billion unfunded pension liability by roughly $3 billion over 20 years—and the state’s hard-pressed cities and towns $1 billion over the next two decades. Five public-sector unions are challenging the law in the Rhode Island Superior Court.

Innovative Distress Study

In response to the number of municipal bankruptcies and ongoing local fiscal distress in the Golden State, the California treasurer’s office has embarked on a project aimed at predicting municipalities’ likelihood of default. Treasurer Bill Lockyer has hired San Francisco-based research organization Public Sector Credit Solutions and San Jose State University economist Matthew Holian to head up the effort, which aims to create a “default probability model for city bonds” by means of a model which will generate “numeric scores” that will seek to quantify the likelihood of defaults, with the projected model and default predictions for more than 200 California cities expected to be ready by next May. The Treasurer hopes the project will help give the state an early warning of local governments in financial distress and help “raise red flags” at the state level. The effort is also intended to help make the financial conditions of municipalities more transparent to investors and the public. Subsequently, in an effort comparable to the focus underway at George Mason University at our Center for State and Local Leadership, California will work to create a “response system” to help assist troubled municipalities. The California effort will test the tensions between the state and its cities—the state constitution largely prohibits the state from meddling in cities’ financial affairs, and the effort appears to be outside of any partnership with the California League of Cities. The calculation for each city will be based on financial data found in the city’s financial statements, budgets, and projections—with the key data focused upon being interest expense, revenue, and annual change in revenue. 

Pensionary Potential Pitfalls

If the California Public Employees’ Retirement System prevails in having courts define San Bernardino’s obligations to the pension fund as immutable in the city’s bankruptcy case, it could have widespread ramifications including sweeping bond downgrades, according to Matt Fabian, managing director of Municipal Market Advisors (MMA): “With recent rating agency actions taking a dimmer view on California general fund obligations generally, we suspect success by Calpers would trigger sweeping downgrades across the state…We also assume a strong pullback by lenders, perhaps exceeding the rating impact, implying steep funding costs for issuers attempting to sell new lease debt.” If CalPERS succeeds, lease-backed debt such as certificates of participation may be untenable, the report said. Protections afforded pension funds in the California state constitution have also hampered efforts by the state and cities to reform the benefits of current employees. MMA estimates California local governments have about $33 billion in outstanding COPs, plus more unsecured, general fund backstopped debt, noting: “If pension obligations cannot be adjusted—even in bankruptcy—this debt will be effectively subordinated to a permanently-extendable obligation to Calpers.”

San Bernardino

The California city’s road to federal bankruptcy protection is now confronted by a major state obstacle from the city’s largest creditor, the California Public Employees’ Retirement System or Calpers. The city, which filed its plan in U.S. Bankruptcy Court last Friday, outlining how the city will conduct its finances while it works its way through the bankruptcy process, also filed documents responding to objections to its eligibility for bankruptcy from Calpers and a city employees union, with the city arguing that the city union and Calpers objections are without merit and were filed “despite ample and compelling evidence of the city’s eligibility for Chapter 9 relief.” Calpers had filed its motion the day after the city council voted to approve its request for Chapter 9 protection and requesting relief from an automatic stay that prevents it from suing the city in state court over $6.9 million in missed payments. Calpers asserts that a federal bankruptcy court does not have the jurisdiction under Chapter 9 bankruptcy code to order the city to pay its bills, but the state court does: “This legal action would allow us to collect the employer contributions from San Bernardino which are required by state law, to maintain the integrity of the San Bernardino pension plan for its public employees and retirees,” CalPERS chief executive officer, Anne Stausboll, said in a statement. San Bernardino’s pendency plan would defer $12.9 million in Calpers payments until fiscal 2013-14 to help close the insolvent city’s $48.5 million budget gap. The plan also mentions negotiations with Calpers’ actuarial staff to reamortize its pension fund liability over the next 30 years for a fresh start for a $1.3 million savings per year. San Bernardino, however, plans to make some payments to Calpers in fiscal 2012-13 and is working to negotiate repayment with the pension fund, according to court documents filed by the city.

Catch-22. In the Chapter 9 case involving Stockton, insurance companies filed motions against the city as it remained current on its Calpers payments while defaulting on its bonds, but San Bernardino is saying in its pendency plan that it does not have sufficient resources to fund the bankruptcy case and cover expenses that protect the public health, safety and welfare of its citizens (e.g. essential services). The guru of municipal bankruptcy, in response to a question from Bloomberg this week aptly replied:

“You can impair contract obligations where it’s necessary for a higher public good. That’s why you can condemn property. The higher public good is that we’re not going to forfeit essential public services to pay for pensions that are not affordable. That’s part of the legal basis. You could set up a quasi-judicial body that makes fact determinations. Both the city and the state and the unions could present their sides and they’ll make the determination.”

San Bernardino submits its spending plan this a.m. The City believes its plan will resolve the chief complaint of the California Public Employees’ Retirement System, according to its papers filed in U.S. Bankruptcy Court. Calpers is seeking to sue San Bernardino over missed pension payments as well as asking U.S. Bankruptcy Judge Meredith A. Jury (really) to dismiss the city’s Chapter 9 petition. Should Judge Jury grant either request, Calpers would be free to sue San Bernardino in state court to seize property or find some other way to collect the debt the pension fund is owed. Calpers spokesman Brad Pacheco said he couldn’t immediately respond to a request for comment on the filing. In August, San Bernardino became the third California city to file bankruptcy in less than three months. 

Pensionary Disclosures

GFOA, in a new best practice document, wrote that state and local government issuers with pension obligations that could either affect their ability to pay debt service or hurt their financial condition should consider disclosing more pension information in their official statements. The document, recently approved by GFOA’s executive committee, says that for more extensive pension disclosures issuers should refer to guidance published in May by the National Association of Bond Lawyers. NABL worked on that guidance for more 15 months with a dozen muni market groups, including GFOA. Traditionally, most state and local governments have taken the pension-related information in their comprehensive annual financial reports, or CAFRs, and replicated that in their official statements, according to John Tuohy, deputy treasurer of Arlington County, Va., who worked on the GFOA best practice document. The organization now writes that if state and local governments’ pension obligations could be material to their debt service payments or could otherwise affect their creditworthiness, they may need to go further with their disclosures. The GFOA document recommends issuers develop procedures for determining the level of pension information that needs to be disclosed in their official statements. It says state and local governments should ask themselves a series of questions, including if the debt service on the proposed bond issue would be dependent on the same revenue source or sources as the pension obligations. Other key questions are whether there are pension-related legal restrictions or requirements that would place pension funding senior to debt service payments and whether there are pension-related trends that would be material to investors. The GFOA document says that if the answers to these questions show pension obligations could adversely affect the ability to pay debt service, then issuers should refer to the NABL paper, particularly its Appendix D, and should consider other sources for additional disclosures. These may include the pension plan’s actuarial reports, legal and legislative actions affecting pension plans or obligations, and pension information included in the government’s adopted budget.

Chocolateville

Former Central Falls Mayor Charles Moreau agreed to a plea agreement admitting guilt to federal charges that he accepted illegal gratuities from a friend and political supporter who received lucrative work from the city boarding up abandoned buildings. Earlier Mr. Moreau resigned as mayor, a post to which he was first elected to in 2003; he now faces a prison sentence. Between 2007 and 2009, the friend, Mr. Bouthillette, a businessman who specializes in post-disaster cleanup work, boarded up at least 167 Central Falls homes, reaping “unreasonable profits, amounting to hundreds of thousands of dollars,” according to federal court papers. As a “reward,” Mr.  Bouthillette “on three occasions corruptly gave Mayor Moreau things of value,” according to the federal information, charging the two men with two counts of fraud. Mr. Bouthillette helped former Mayor Moreau buy a new furnace for his house in Central Falls, provided free renovations to his home in Lincoln, and, in April 2010, provided free flood remediation work at the Lincoln home after heavy spring flooding that year. The information describes how Moreau circumvented competitive-bidding rules by declaring that each vacant home was an “emergency.” Moreau directed city officials to find vacant buildings to be boarded up, and identified buildings himself. He reduced the time the city gave property owners to board up their own homes from seven days to 24 hours. Some homes were boarded up even though people were still living there. Others were re-boarded by Mr. Bouthillette at Moreau's direction, even though the owners had already had their own contractors board the building. Under the plea agreement, Moreau agrees to pay a fine of at least $6,400. For his part, Mr. Bouthillette agrees to contribute $160,000 to the government, which “shall be used to make grants for educational, public safety, social services or housing programs in Central Falls that redress the harm caused by the defendant's criminal conduct,” and he agrees to relinquish to the city any further monies he is owed for boarding up properties, which is estimated to be about $277,000. The young upstart clashed several times with the experienced former mayor during two marathon debates on Sunday afternoon at the Forand Manor and Wilfrid Manor on opposite sides of the city. 

Meanwhile, James Diossa, a city councilman,  won a big victory in Central Falls' nonpartisan mayoral primary on Tuesday and will move on to face former Police Chief James Moran in the general election next month. Mr. Diossa had  battled with ex-Mayor Thomas Lazieh over the Donald W. Wyatt Detention Facility which has not provided the city with a dime in almost four years. In the past, the jail used to pay the city as much as $525,000 for allowing it to operate in the city. Lazieh boasted that he was responsible for bringing the facility into the city and creating jobs. Diossa went right after the former mayor, blaming him for signing off on a deal that required the bondholders to get paid before the city.

Municipal Sewerage Distress

A proposal by Jefferson County to factor corruption into future sewer system rate increases is setting the stage for another legal fight with the trustee for the system's $3.2 billion of defaulted sewer warrants. The county, in addition to corruption that increased costs of rebuilding the system, is proposing to factor in a new valuation of system assets that could be significantly less than the outstanding debt. Those elements, as well as an overhaul of the system rate structure anticipated to result in an estimated 5.9% increase in revenues, were set to be considered when county commissioners held their only public hearing on rates for the first time since at least 2008. The proposed rate increase is one of the first major steps the county has taken since filing the largest municipal bankruptcy in the nation last November with more than $4 billion of outstanding debt. Bank of New York Mellon, trustee for the sewer warrants, in its court filing, wrote that it wants a detailed financial examination of sewer system records, because the county has not clearly explained income and expenses of the system since regaining control of it in January from a state-court appointed receiver. The bank also objected to the county’s complex plan for evaluating future rate increases, and objected to considering them based on the value of the system as well as past corruption. Rates should be based on claims for paying the outstanding debt, according to the bank: “To the extent the county’s own fraud, graft, corruption, waste, and gross incompetence in the construction of the system resulted in the county spending more money than it might have otherwise spent on the system but for such misconduct, it is unimaginable that the warrant holders who loaned the money to improve the system should bear the consequences of the county's actions.” BNY Mellon also complained that the county’s proposal lacked detail. Federal bankruptcy Judge Thomas Bennett has been asked to consider the trustee’s request for a financial examination during a regular hearing scheduled for next Thursday. In the nonce, Judge Bennett scheduled an expedited hearing to consider Jefferson County’s motion to bypass lower courts and appeal directly to the 11^th Circuit Court of Appeals.

Wolverine Reversal

Michigan voters this week voted to overturn last year’s state law that gave state-appointed emergency managers broad powers to cut spending and avoid bankruptcy for financially stricken cities and school districts, repealing Public Act 4. That law, requested by Governor Tick Snyder, allowed the state to intervene more quickly to prevent insolvencies or have more power to reverse financial collapse. The law was intended to replace a 1990 statute that gave emergency managers less authority. Public Act 4 allowed managers to assume the powers of mayors, city councils, and school boards, to fire employees, sell assets, and cancel union contracts. When the referendum was placed on the ballot in August, Michigan had four cities and three school districts under emergency managers. In the wake of the vote, Governor Snyder warned that overturning the state’s controversial emergency management law could lead to municipal bankruptcies for some of the state’s most troubled jurisdictions: “Bankruptcies could have a greater likelihood of happening…We could have a situation of not having a manager who can do their work more effectively and faster, and the probability of municipal bankruptcy could increase because that could be the only option left to them: I still think there are a lot of negative consequences of municipal bankruptcy, if you look at places like California.” No local government has ever declared bankruptcy in Michigan, which has a high number of struggling cities and school districts. The voter-rejected law, Public Act 4 significantly broadened the state’s authority to intervene in troubled communities as well as the powers of emergency managers, giving them the ability to terminate or unilaterally amend labor contracts. The disputed—and now rejected—law had been suspended since late August, when the state election board approved the repeal question for the ballot. Michigan is currently operating under its previous, less powerful, law for fiscally stressed governments, Public Act 72. (There are currently eight governments in state-controlled emergency management status.) PA 72 itself is not without trials and tribulations: opponents filed a lawsuit last month arguing that the revival of the previous law is illegal. A hearing on the case is set for after Thanksgiving. Faced with such a potential loss, Gov. Snyder said a court-mandated overturn of PA 72 would pose a big problem for the state: “Then there would be no emergency manager law, and that would be a concern….That would really cause me to say that we need to be having a legislative discussion because we need some tools.” The emergency manager of Detroit Public Schools, Roy Roberts, warned last week that he would leave the position if the law were overturned. Under PA 4, Roberts controlled DPS’ fiscal and academic polices, but he controls only the fiscal side of the district under current law. Gov. Snyder said he plans to meet soon with top legislative leaders to discuss the possibility of new legislation that would replace some of the powers of Public Act 4—including the less controversial, but still-effective provisions of PA 4 such as an early-warning system for when local governments are facing fiscal stress.

Let's Get the Pit out of Pittsburgh!

Pittsburgh, once in significant fiscal distress, is now seeking removal from the state’s “distressed” status. Scott Kunka, the Three River city finance director, notes: “In 2004, we were on the verge of missing payroll and our bonds were junk…We have made systematic improvements, have gotten upgrades from the bond rating agencies, have balanced budgets and a large surplus, and have reduced our debt.” The city yesterday was scheduled to formally appeal to Pennsylvania’s Department of Community and Economic Development to remove its stigma. More importantly, the PFM Group, which serves as the city’s Act 47 coordinator, notes: “There’s a strong management team at City Hall on the budget side.” Pittsburgh has reduced its debt from $824 million in 2006, when Mayor Luke Ravenstahl took office, to $581 million, and expects to lower it to $490 million in 2014, according to Mr. Kunka. Over nine years, the mayor and city council have embraced changes required by the Act 47 plans in 2004 and in 2009, when the city updated its plan. It has reached labor agreements with eight of nine city unions and downsized municipal government by 25% from January 2000 to January 2012, scaling down some city services and putting out others for competing bids from private providers. Pittsburgh has also worked out shared-services agreements with neighboring communities.  The city and its recovery coordinators anticipate completely paying off existing debt by 2026, meeting best-practice standards. In addition, the city has lowered its debt as a percent of its operating budget from 24% to about 18%, and expects to lower the ratio to 14% by 2017 or 2018. Last January, Moody’s and S&P revised their outlooks to stable from negative after city officials visited the rating agencies in New York and pitched upgrades. Moody’s rates the city’s general obligation bonds A1, while Fitch Ratings and S&P assign A and BBB, respectively. The law firm also participating with oversight responsibilities of the Steel City under Act 47 has cited Pittsburgh’s structurally balanced operating budget with recurring revenues consistently outpacing expenditures: “After weathering a deep recession while preserving its operating balance and reserves, the financial outlook for the City of Pittsburgh is positive.” Fred Reddig of the state department of Community The hearing, rescheduled from last week after Hurricane Sandy hit the Northeast, will be at 3 p.m. in the City Council chambers. Fred Reddig, a DCED official and the head of the governor’s center of local government service, will preside. There is no statutory deadline for the decision, but the city could expect one by the end of November. Because of continued legacy employee costs, Pittsburgh will remain under the budget purview of the Intergovernmental Cooperation Authority, which oversees so-called second-class cities. Pennsylvania groups its cities by population tiers. A member of the law firm oversight team commented: “Overall, the Act 47 program is a partnership between the affected community and the oversight team. It’s not a receivership, like some states have. Critics say it’s hard to get out, but Pittsburgh has shown that with the right plan of action, you can get out.” Nevertheless, Pittsburgh still confronts serious challenges, notably in pension funding, which is around 59%. As of January 2009, Pittsburgh’s combined pension plans were funded at merely 34%. A law passed that year requiring the state to absorb city plans if they remained at less than 50%, would have forced a spike in Pittsburgh’s contributions. To counter that, the city boosted its pension funding levels by earmarking $736 million of parking tax revenues as a new funding source through 2041.

Saint Bernardino

Keeping in mind Ronald Reagan’s old motto, Bankrupt San Bernardino, California, officials said in a status report released Friday that they’ve eliminated about $29 million from the city’s budget deficit, and are making progress “toward fiscal stability.”

City administrators also asked a U.S. bankruptcy judge supervising their Chapter 9 case in Riverside to set a status conference within 45 days to help resolve objections to their decision to seek court supervision. “The city has made expenditure reductions that substantially reduce its staggering $48.5 million budget deficit,” resulting in “a remaining projected budget deficit of about $16.03 million for the current fiscal year,” according to City Attorney Paul Glassman in the eight-page report. Counselor Glassman wrote that city staff “are diligently working” to develop a plan for a balanced budget for this fiscal year. Among the cost savings were budget cuts, “revenue offsets” and “adjusted net transfers.” The city also said it saved money by deferring payments to the California Public Employees’ Retirement System—likely the city’s biggest creditor. San Bernardino was granted extra time by U.S. Bankruptcy Judge Meredith Jury to make its case for bankruptcy at a hearing held Monday. The city’s attorneys have filed a status report asking that the city receive more time to file a pendency plan, which the judge has granted until Dec. 21^st to hear arguments about whether the city should be eligible for bankruptcy—giving the city until Nov. 30 to respond to objections to its eligibility for bankruptcy from California Public Employees’ Retirement System and a city employees union. In the city’s brief, the city argued: “While the city has made expenditure reductions that substantially reduce its staggering $45.8 million budget deficit, the city still faces a severe cash flow crisis and structural budget imbalance….Absent Chapter 9 protection, the city would be unable to pay its employees, go into uncontrolled default of its obligations for critical city assets such as police cars, fire trucks, and refuse trucks, and could not provide basic essential services to ensure the health, safety and welfare of its citizens.” The city has made $29.7 million in cuts reducing the projected deficit for the current fiscal year to $16.03 million, according to court documents. Some consider the standard for eligibility under fiscal emergency to be that a city was managing itself well, but events beyond its control created a situation where it could not pay its bills. San Bernardino will have to convince the judge that was the case for the city when it made an end run around AB506, the state law that requires cities to go through a mediation process with creditors before declaring bankruptcy.

San Bernardino is not only making itself a test case for when a city should be eligible to file bankruptcy, but also whether or not payments to the California Public Employees’ Retirement System (CalPERS) can be negotiated. Moody’s late last week warned that that San Bernardino’s and Compton’s disputes with the pension “could open the door for courts to decide whether pension contributions can be legally suspended or modified if a California local government is in financial distress/and or bankruptcy.” San Bernardino has missed $5.3 million in payments to CalPERS since July. Compton owes the pension fund $2.6 million, but the city plans to catch-up on its payments in December through efforts including the issuance of a $10 million TRAN, according to its City Manager Harold Duffey. Before San Bernardino’s CalPERS payment suspension, the bankrupt cities of Vallejo and, more recently, Stockton had left their obligations to CalPERS unimpaired at the expense of unsecured creditors including bondholders. The judge in the Stockton bankruptcy did uphold the city’s right to stop paying health benefits to city retirees, according to the Moody’s report. San Bernardino has about $90 million of outstanding pension obligation bond debts and owes another $200 million for securities issued by the city’s now-dissolved redevelopment agency. The city missed a $3.3 million pension obligation bond payment on July 31. The city also failed to make a $1 million interest payment due Oct. 1 on 2005 taxable pension bonds. Moody’s, in its report, noted that San Bernardino’s and Compton’s disputes with CalPERS could have ramifications for other cities and their creditors: “These situations could open the door for courts to decide whether pension payments can be legally suspended or modified if a California local government is in financial distress and/or bankruptcy:” warning that if the financially troubled cities succeed in delaying or reducing their CalPERS payments, it “could incentivize other financially distressed cities to seek concessions from all creditors;” on the other hand, if cities are not required to make full pension payments while in bankruptcy, the report said, more might be left for other creditors, including bondholders. As of the end of last week, the city owed nearly $5 million to the pension fund, CalPERS spokeswoman Amy Norris said. CalPERS has filed an objection to San Bernardino’s bankruptcy, suggesting it was simply a maneuver to avoid creditors and that the city had not developed a plan to pay its expenses in the future: “It appears that the City is financing its post-petition operating deficit by incurring post-petition obligations and simply not paying its post-petition bills,” accusing the city of “digging a hole that gets deeper every day.” But San Bernardino responds that deferring pension fund payments was necessary to allow the city to pay employees and “keep providing the most basic and critical services to the community.”

Compton, which has not filed for bankruptcy but has struggled with a $40-million deficit and a lack of cash to pay bills, also fell behind on its CalPERS payments, prompting the agency to file a lawsuit against the city in September. At that time, the city owed about $2 million, which later grew to $2.7 million, but it has since paid down all but about $600,000. Compton City Manager Harold Duffey said the city will be able to bring its payments up to date in December, when it expects to receive about $5 million from a parcel tax designated to pay pension costs. The city is also hoping to secure a $10-million line of credit this month.

Jefferson County

U.S. Bankruptcy Judge Thomas Bennett this week said bankrupt Jefferson County, Alabama, does not have to immediately face a lawsuit over its decision to close the emergency room of its money-losing hospital for the poor. Judge Bennett held that the city of Birmingham cannot proceed with a lawsuit seeking to keep the emergency room open after Dec. 1, the day the county plans to end in-patient care at Cooper Green Mercy Hospital. Last August, the judge had said he was inclined to halt the case. At that Aug. 30th hearing, he told lawyers for the city that, “What I’m looking at is really an action to try to control the operations’’ of the county, which isn’t allowed under Chapter 9 of the U.S. Bankruptcy Code. In a hearing this week, Judge Bennett confirmed his decision.  The battle over the hospital is the first time the county’s health-care responsibilities have been part of its bankruptcy case. The county has focused on cutting bond debt tied to the county’s sewer system and replacing a wage tax that brought in more than $60 million a year before it was voided by a state court.

JeffCo

Jefferson County, which is under Chapter 9 federal bankruptcy, intends to appeal U.S. Bankruptcy Judge Thomas Bennett’s refusal to let the county reduce payments to bondholders. Judge Bennett had ruled in June that the county cannot cut the payments so it can spend more on its aging sewage system or pay legal fees. Lawyers for the county said in a filing this week they will appeal the ruling. Bondholders are owed more than $3 billion, debt that is backed by the payments made by business and residents in Alabama’s biggest county. The county filed the biggest municipal bankruptcy in the U.S. after elected officials and creditors failed to implement a proposal to cut the sewer debt by about $1 billion.

Harried in Harrisburg

According to a state official, the state’s capitol city, Harrisburg, has enough cash to last through November. The official noted that delaying payments to some vendors could help Harrisburg make it through the end of the year. The official, Fred Reddig of the Department of Community and Economic Development, which oversees the state’s distressed communities, also said the city may issue some tax anticipation notes (TANs) in January if banks are willing. Mr. Reddig said Harrisburg, which remains under state Senate is scheduled to begin hearings on the incinerator bond financings tomorrow.

Wolverine Test

Michigan Treasurer Andy Dillon has indicated he will be disappointed if voters overturn the state’s emergency management law — the strongest in the nation. Nevertheless, he said if Wolverine voters reject the law next month, it would not spark a string of municipal bankruptcies or turn the Michigan local government landscape into one resembling California’s (see above). To date, the law has been used to solve the most pressing problems facing the state’s most stressed jurisdictions. Should the law be overturned, Mr. Dillon stated the state’s previous emergency management law, combined with a few new models, should be sufficient. Mr. Dillon (not to be confused with Marshall Dillon) spoke after he, Gov. Rick Snyder, and state budget director John Nixon met with all three major rating agencies in New York City in an ongoing effort to regain Michigan’s triple-A rating. This year’s meeting comes ahead of a roughly $100 million general obligation bond deal set tentatively for Nov. 8, two days after voters will weigh in on whether to repeal the EM law, known as Public Act 4, as well as five other major ballot initiatives with the potential to have a big impact on the state’s future. One measure would make collective-bargaining rights part of the constitution, and another would require a two-thirds legislative supermajority for any tax increases. There are currently seven Michigan jurisdictions under emergency management, with an EM expected to be named soon in an eighth, Allen Park. Mr. Dillon said the state is preparing to exit three stressed cities: Ecorse, Pontiac, and Benton Harbor. The emergency managers in those cities tapped PA 4 to implement a swath of changes that address core costs, like labor contracts. In Allen Park, he said an emergency manager lacking the powers of PA 4 would likely have a difficult time because one of the biggest problems is a police and firefighter contract that is “virtually impossible for the city.” In Detroit, Mayor Dave Bing relied on powers in PA 4 to order more than $100 million of wage and benefit cuts to current contracts over the summer. Detroit operates under a consent agreement with the state instead of an EM. The agreement has some ties to PA 4 but would not be overturned if the law is overturned. Top state officials would likely push for a new law that features the use of consent agreements and financial advisory boards for fiscally stressed communities if PA 4 falls, according to Dillon.

Early Warning System

California Treasurer Bill Lockyer reports the state is working on the development of an early warning system to prevent more municipal bankruptcies through early detection of signs of financial trouble. He compared the goal to stress testing, “where we try to determine what are the right metrics to cause red flags, alarm, some form of friendly discussions with experts, external advisers about what might be done to avoid a potential crisis.’’ Stockton, San Bernardino, and Mammoth Lakes have sought Chapter 9 protection, stoking investor concerns that more will follow as finances worsen and bankruptcy’s stigma fades. Mr. Lockyer said he does not expect the trend to continue: “I agree with those who have said probably not, there may be some, not very many.” The early-detection system is a collaboration among the treasurer’s office, the controller, the Legislature, and officials in Los Angeles and San Diego, according to Mr. Lockyer. Lawmakers would have to approve the plan. Analysts at the conference said they are taking a closer look at the willingness of California cities to repay their debt in light of the bankruptcies. “It is difficult to assess a city just based on the numbers,’’ said Melanie Tung, senior municipal research analyst at Wells Capital Management. “Management, the willingness and ability to pay – those are measurements that we have looked at and are trying to examine more closely as we look at credits now in this environment.” Treasurer Lockyer stated he did not believe California municipalities are becoming less willing to repay their debt: “Just the opposite.’’ As per the above, however, Moody’s and S&P appear to differ in their predictions of further municipal bankruptcies in California. Gabriel Petek, an S&P analyst , said he does not anticipate a “tsunami’’ of filings, noting the communities in bankruptcy are a fraction of the 482 cities in the state: Of the 201 communities that S&P rates, he noted: “we believe that those that are at most risk of encountering this level of financial distress are already at the very low end of the rating spectrum.” Moody’s, as per the above, seems more pessimistic.

California Undreamin'

Moody’s Investors Service hit 54 California local credits with either downgrades or by placing them on review for downgrade, citing the economic strains in the state. The rating agency Monday put the general obligation bond or issuer rating of nine cities on review for possible downgrade, placed the lease-backed obligations of 27 cities on review for possible downgrade, and downgraded nine pension obligation bond issues or similar financings, stating: “The actions reflect a combination of fundamental economic pressures in the state, the different way in which various revenue sources have been affected, and the factors that influence a city’s ability and willingness to pay the obligations backed by these revenue sources.”

On October 9, 2012, we announced a number of rating actions and reviews affecting the debt obligations of 32 cities and one pooled financing in California. Most of these actions are negative – downgrades and reviews for downgrade – and the majority affect securities that are solely paid from these cities’ general funds and do not benefit from a specific, pledged revenue source. The actions reflect a combination of fundamental economic pressures in the state, the different way in which various revenue sources have been affected, and the factors that influence a city’s ability and willingness to pay the obligations backed by these revenue sources.

This week’s rating actions come after Moody’s said in August that it would review the credits of 95 California cities. Moody’s said some cities are suffering due to the dramatic impact of the housing market bust on parts of the state and the rigid constraints on how municipalities can raise revenue. Some of the larger cities affected include Fresno, which saw two of its bonds downgraded to Baa2 and 12 of its credits put on review for downgrade. In addition, Sacramento had its issuer rating put on review for downgrade along with five of its other securities. Oakland had five of its credit obligations tagged for downgrade review. But, the agency placed San Francisco and Los Angeles on review for a possible upgrade to “reflect strengths that may not be adequately reflected in their current ratings, including their relative resiliency during the economic and property market downturns.” Some of the most troubled California bonds, according to Moody’s, include debt issued by Inglewood, Petaluma, Santa Ana and Azusa. Lease-backed obligations, unlike GO bonds, are not backed by voter-approved property taxes and are paid out of a city’s general fund.

The agency noted two critical points: 1) Pension obligation bonds are also paid out of a city’s operating budget and thus must compete with essential services, such as libraries and public safety contracts, and 2) The most significant of these constraints fiscal constraints on California cities is the state’s constitutional ban on raising ad-valorem property tax rates to pay for operations, while cities must also seek voter approval to increase any tax, fee or charge to pay for general operations.: “These constraints, combined with some California cities’ relatively steeply rising costs, will likely result in their recovering more slowly than their peers nationally, even if the state’s economic recovery tracks the nation’s.” Moreover, Moody’s noted, that “cost-cutting fatigue” may be weakening the willingness of the state’s cities to use their general funds to pay for pension obligation bonds and make lease payments.

Moody’s also noted in the report that the recent bankruptcy filings in Stockton and San Bernardino may signal some reluctance to pay for debt obligations in the municipal market since they reflect generally tight budgets, as opposed to such failing enterprises as convention centers, arenas or other specific projects that have caused previous municipal bankruptcies or defaults: “Though we do not expect many cities to follow Stockton and San Bernardino into bankruptcy, as long as the economic recovery remains sluggish, the risk has increased that some California cities will make this choice.” 

San Bernardino

The SEC has launched an “informal inquiry” of San Bernardino, Ca.’s finances and ordered the city to preserve bond documents and communications with underwriters. The nature of the agency’s inquiry to the city in Chapter 9 is not detailed in its October 11^th epistle, but directs city officials to preserve all records of securities offerings and written communications with underwriters, fiscal advisers, and credit ratings companies. The action follows the agency’s announcement last July that it may sue Miami over whether it provided adequate financial data to investors when it borrowed through the muni market. In San Bernardino, the county Sheriff’s Department said a probe of possible criminal activity in City Hall had begun several months before the city sought Chapter 9 court protection on Aug. 1. Earlier investigations led to agreements with New Jersey, which settled SEC claims in 2010 that the state misled investors by masking the underfunding of its biggest pension plans, and an accord with San Diego over similar issues. San Bernardino, the third California city to enter bankruptcy this year, relied on a variety of budgetary maneuvers to stay solvent, such as redirecting money from restricted accounts, according to its interim city manager. Mayor Patrick Morris this week stated that the SEC inquiry is “fine.” Mayor Morris, a former judge in criminal and family law courts, said he is aware of no criminal conduct in city finances: “As a trial jurist, I never want to predict…I know of nothing.” San Bernardino failed to make a $1 million interest payment due Oct. 1 on 2005 taxable pension bonds, according to an MSRB filing yesterday by trustee Wells Fargo Bank. The city has about $90 million of outstanding bond debts, according to budget documents, and another $200 million owed to holders of securities issued by the city’s now-dissolved redevelopment agency. The San Bernardino council voted in July to skip payments of $3.4 million to holders of pension debt as well as $2.2 million owed for retiree health care.

Pensions

Judge Joyce Draganchuk of Ingham County has ruled that a 2011 law requiring members of a state employee pension fund to contribute 4% of their pay toward the fund is unconstitutional. Judge Draganchuk wrote that Public Act 264 infringed on the constitutional authority of the Michigan Civil Service Commission to set compensation for state employees: “By mandating that members contribute 4% of their compensation to the employees’ savings fund, the Legislature reduced the compensation of classified civil servants -- an act that is within the sphere of authority vested in the Civil Service Commission.” The decision, likely to be challenged by the state, had been expected to save the state $5.6 billion in long-term liabilities and ensure “the post-retirement promises made to our employees can be kept.”

Pensionary Tales

Local governments in Michigan would be able to issue general obligation bonds to cover costs tied to shifting to a 401(k)-style retirement plan as well as for other-post employment benefit liabilities under legislation sent to Gov. Rick Snyder Friday. Senate Bill 1129 is an effort to aid local governments’ transition to a less-costly employee retirement system and help bring down retirement liabilities, which some local officials say threaten their fiscal stability. The measure moved quickly through the state House and Senate, which approved it last Thursday with only one change since it was introduced in early summer. “Legislation doesn’t usually move that fast, but this sailed right through,” said Samantha Harkins, director of state affairs for the Michigan Municipal League, which supported the measure. The one change broadens the measure to allow local governments to issue bonds to cover their OPEB liabilities as well as costs associated from closing their defined-benefit plans. The expanded OPEB bonding authority is a happy ending for supporters who for years have pushed for such legislation. To qualify for the borrowing, municipalities would have to agree to close their defined-benefit plans. They would have the option of switching employees to a defined-contribution plan, but could not increase the benefit levels of the closed defined-benefit plan once the bonds have been issued.

Converting to a defined-contribution plan forces the government to pay more in up-front costs, as it triggers accelerated payments under the actuarial accounting method used by Michigan. The new borrowing authority is one way to avoid that penalty, supporters said. If signed by Snyder, the new law will help local governments stabilize their long-term retirement costs, according to Ms. Harkins. “That spiking in costs is going to be difficult,” she said. “This will be a long-term cost savings not only for these communities, but also for the taxpayers who are paying for these benefits, which, in their current form, are unsustainable.” Municipalities that issue bonds under the new legislation must be rated double-A or higher and the Michigan treasurer must approve it. Issuers would be able to pay off all or part of their retirement liabilities with the borrowing. They would have to stay within current debt limits and prove that they can cover the debt payments with general-fund dollars. The bonds would be structured as limited-tax GOs with few other structural restrictions. The first serial or term maturity could not occur later than five years after the date of issuance. The measure will give local governments another tool and more flexibility to pay down their unfunded accrued liability, independent Senate Fiscal Agency analyst Kathryn Summers noted in a June analysis of the legislation. Ms. Summers noted: “However, the actual resulting fiscal impact is unknown and would depend upon the cost of the security compared to market performance, the impact (if any) on the municipality’s credit rating, and the potential risks associated with converting a ‘soft’ debt of the municipality into a ‘hard’ debt with a rigid and fixed repayment schedule.” 

California Dreamin'

California Gov. Jerry Brown has signed legislation to create the nation’s first state-administered retirement savings program for private-sector workers. The new law will establish the California Secure Choice Retirement Savings Program for more than 6 million lower-income, private-sector workers whose employers do not offer retirement plans. Under the new program, employers will withhold 3% of their workers’ pay unless the employee opts out of the savings program, which can be done every two years. It would be administered by a seven-member board chaired by the state treasurer. The board would select a professional fund manager, which could be a private investment firm or the state’s public pension system, to maintain the money. State Sen. Kevin De Leon, D-Los Angeles, introduced the bill earlier this year in response to what he called the “looming retirement tsunami” as millions of lower-wage workers face financial hardship in their retirement years. The new law will not be implemented unless the savings program is projected to be self-sustaining and exempt from federal rules that cover private-sector defined benefit plans. Such plans have to meet minimum standards under the federal Employee Retirement Income Security Act. The legislation also requires the board to submit an annual audit. It was initially opposed by businesses, insurance companies and financial services firms. 

Back to School in the Windy City

Fitch this week lowered its rating of the Chicago Public Schools--its fourth ratings blow of recent months--as the district struggles to cover the $300 million cost of a new, four-year teachers’ contract. Fitch warned that the downgrades may not be over by leaving the rating with a negative outlook. The Fitch downgrade is the second from a rating agency since the school district’s resolution of a seven-day teachers strike last month, its first strike in 25 years. Fitch wrote: “The labor agreement following the recent Chicago Teachers’ Union strike results in considerable increased costs to the Chicago Public Schools…The increases come at a time of highly stressed operations, when Fitch believes spending reductions are imperative to maintaining fiscal stability.” The district closed a $665 million gap to balance its $5.2 billion fiscal 2013 budget over the summer only by nearly draining its reserves. That leaves it little room to cover the $74 million price tag in fiscal 2013 of the four-year teacher’s contract or to manage a $330 million increase looming in its teachers’ pension payment next year. Fitch noted in its report that while the district has cut spending, dramatic changes are needed, but the school district may be hard-pressed to achieve them given its labor strife and likely political opposition to possible school closures: “The coming challenges now appear considerably greater than they have been historically.” At the center of the district’s challenges is the expiration of a state approved three-year pension holiday. The district’s already weak pension funding ratios worsened due to the deferrals and the payment will rise by $338 million to $534 million next year. The district’s teachers pension plan was 59.9% funded at the close of fiscal 2011. The increase next year puts the district on the path to reach a 90% funded ratio by 2059. Other post-employment benefits are similarly underfunded but annual payments are capped at $65 million, leaving an increasing burden for employees and retirees. Moreover, the pension increase comes as the district already faces rising debt service payments to cover borrowing that financed renovations after years of neglect. The district has also in recent years restructured debt pushing off near-term debt service and is planning on restructuring at least $100 million for fiscal 2014 relief.

Indy 500

The Hoosier Department of Local Government Finance reports that Indiana local governments have a total of $34.4 billion of outstanding debt, with the Marion County Airport Authority, Indianapolis, and the city of Carmel topping the list. Of the $34.4 billion, $18.7 billion is lease-backed debt, nearly all of which represents bonds issued by a building corporation that was created to issue the debt. School districts carry the most amount of debt, followed by special districts, then cities and towns, according to the DLGF. More than a quarter of property tax revenue goes toward paying off debt, according to the report: “Payments on local government indebtedness consume a significant portion of property taxes…For property taxes payable in 2012, 26% of the certified levies were attributable to debt service funds. Statewide, debt service levies represent $1.6 billion of the $6.3 billion in certified levies.” Indiana school districts and towns carry the most amount of debt of any subdivision in the state, with a total of $16.9 billion of outstanding obligations. Of that, more than $14.5 billion is lease payments and $172 million is federal credits, which are expected payments from the federal government to subsidize projects that qualify for federal aid. The Marion County Airport Authority, which operates the Indianapolis International Airport, ranks first among all local districts, including special districts, with $2.1 billion of outstanding debt. None of that is lease-backed debt. Indianapolis ranks second among all local governments, with $1.9 billion of debt. The city of Carmel, located outside of Indianapolis, ranks fifth among all districts, with $895.1 million of debt. Of that, $357 million is lease-backed debt. The Indianapolis public school district carries the most debt of all school districts, with $903 million of debt, nearly all of which is lease-backed. Cities and towns carry just under $8 billion, according to the report. Special districts have the second-largest amount of debt, with $6.5 billion. Counties have a total of $1.7 billion of outstanding debt. Copy of Report

New Joisey & You

New Jersey Governor Chris Christie said his administration will order spending cuts in Newark as the state’s largest city starts its 10th month without a budget. Governor Christie told reporters it is “ridiculous” that the city of about 277,000 people, 12 miles (19 kilometers) west of Manhattan, has not approved a plan for the year that began Jan. 1, and that Newark will have to agree to unspecified cuts if it wants state aid to balance its budget. (Newark Mayor Cory Booker proposed a spending plan in February, but it has not been approved yet by the City Council.) Gov. Christie went on to note: “Saying they’re late is like being kind…We are looking very carefully at this budget and I’m unsatisfied with the efforts of this administration and the city council to cut back that budget.” [Newark has lost more than a third of its population since the 1930s, has the 10th-highest poverty rate among major U.S. municipalities.] Newark Business Administrator Julien Neals in a statement said the city has reduced its workforce and is looking to end its reliance on state aid. He called the mayor’s spending plan a “step forward” and said Mayor Booker has cut 1,000 workers and trimmed department spending by more than $70 million since taking office: “Newark is confronting growing financial obligations in the face of a serious and persistent economic downturn. We will continue to work with the state and Municipal Council to end our reliance on transitional aid.” The state gave Newark a $32 million loan last year and the city ended the year with an $18 million surplus, according to Gov. Christie said. Newark has again asked for $24 million, but the Governor said he doubts it needs that much; he expects to reach an agreement with city leaders on a financial-aid package: “Last year I stepped up, the state did, and gave them a $32 million loan. What did I find this year? They had an $18 million surplus from last year on my $32 million loan, OK? Fool me once, shame on you. Fool me twice, shame on me.” Two yea4rs ago, Mayor Booker confronted an $83 million deficit in a $605 million budget as the recession cut revenue and Gov. Christie reduced aid to towns and cities. Newark raised property taxes 16%, sold 16 city-owned buildings, and eliminated about 800 jobs, including 167 police officers. The city’s 2012 application for transitional aid, which helps cities in financial distress, cited a structural deficit, increased pension and health-care costs, and a reliance on non- recurring revenue from a settlement with the Port Authority of New York and New Jersey. Mayor Booker’s spending plan called for a $10 million cut in departmental expenses, to $327 million. This year’s budget had a projected $75 million gap that was reduced to $25 million partly as a result of a tax-lien sale, fines related to red-light traffic cameras, and sales of taxi medallions, according to the aid request.

Property Tax Vacancies

The Census reports that the total number of vacant housing units in the United States grew by over 4.5 million from 2000 to 2010, a 44% increase. Unsurprisingly, vacant and foreclosed homes are not evenly distributed, but rather are disproportionately found in many older industrial cities, particularly those that have lost much of their population and job base over the past several decades. Boarded houses, abandoned factories, and apartment buildings, and vacant storefronts are a common part of the landscape in large cities like Detroit, Buffalo, and Philadelphia, and a host of smaller cities such as Flint, Gary, and Youngstown. For these cities, counties, and public school districts; they create a lasting double whammy—hammering property tax revenues and imposing significant public safety and other costs on eroded budgets.

Harried in Harrisburg

According to a state official, the state’s capitol city, Harrisburg, has enough cash to last through November. The official noted that delaying payments to some vendors could help Harrisburg make it through the end of the year. The official, Fred Reddig of the Department of Community and Economic Development, which oversees the state’s distressed communities, also said the city may issue some tax anticipation notes (TANs) in January if banks are willing. Mr. Reddig said Harrisburg, which remains under state receivership, will have a budget gap of about $15 million by year’s end: “Many municipalities need to address that cash-flow deficit early in the year and that’s where the Tan would come into play, in January, to address those liabilities that are brought forward. The Tan would deal with the deficit in the early couple of months” of 2013.” Harrisburg has about $320 million of bond debt that it cannot pay because of financing overruns to an incinerator retrofit project. The receiver’s office has also issued requests for proposals to lease or acquire the sewer and wastewater systems, and is negotiating exclusively with the Lancaster County Solid Waste Management Authority over the incinerator. Harrisburg’s largest vendor is Highmark Inc. of Pittsburgh, which provides non-prescription coverage to municipal employees. Although the city owes Highmark roughly $1.5 million, the carrier has not threatened to shut off coverage. To which Reddig warns: “The point is that the city needs to be in communication with their major creditors, much the same way you or I would need to talk with a creditor if we couldn’t make a mortgage payment. If you communicate with a vendor, it is less inclined to take action. If you let the lender know, it provides the lender some level of comfort.” Meanwhile, Harrisburg’s chief operating officer, Ricardo Mendez-Saldivia, reported that the city’s accounting firm Trout, Ebersole & Groff LLP has stopped work on the city’s 2010 and 2011 audits because the city has yet to pay the firm. Mr. Mendez-Saldivia reports that the 2010 audit is 90% finished, but only minimal work has been done on 2011. Tomorrow, the Commonwealth Court of Pennsylvania will hear oral arguments about the City Council‘s appeal of an order by Lynch to double the earned-income tax to 2% from 1%. In addition, the Pennsylvania Senate is scheduled to begin hearings on the incinerator bond financings tomorrow.

Retirement Benefits

Dane County Judge Juan Colas overturned portions of the new Wisconsin law, Act 10, affecting local governments as part of a lawsuit filed by unions in Milwaukee and Madison. The judge determined they violated free-speech rights and the equal protection clause of the state constitution, because safety personnel unions were excluded. Now, Moody’s has opined that the state court ruling overturning portions of Wisconsin’s controversial law curtailing collective bargaining rights could negatively impact local governments if it stands, Moody’s Investors Service warned. As enacted, the new law sharply limited collective bargaining rights at the state and local government level. Concurrently, the Badger State increased pension and health care premium payments for employees and cut local aid to governments to help eliminate the $3.6 billion deficit in its two-year $66 billion budget, relying on the collective bargaining changes at the local level to offset the cuts in aid. The changes were projected to save around $1 billion annually in spending by municipalities. The law stripped non-public safety unions of their right to bargain over salary and benefit issues with the exception of base wages that were capped at growth in the consumer price index. Before passage of the law last year, those issues were subject to negotiation. In its report, Moody’s noted: “Ultimate repeal of these provisions of Act 10 would be a credit negative for Wisconsin local governments, because it would slow the process of reducing public employee benefit costs by requiring negotiations with public sector unions to achieve cost savings.” While many local governments are still obligated to pay such benefits at levels set in existing contracts, Moody’s noted that many local governments have already realized significant savings during the past year. Wisconsin Attorney General J.B. Hollen appealed the Dane County decision and is asking the court to stay the lower court ruling during the appeals process. Moody’s warns that if the ruling is upheld on appeal, “Wisconsin cities, counties, villages, and school districts will have to return to traditional bargaining in order to manage personnel expenditures, a category which represents the majority of local government spending,” Madison Teachers et al v. Scott Walker, #11CV3774, Wisconsin Circuit Court, September 14, 2012.

Chocolateville

The Bill & Melinda Gates Foundation has its eye on the Central Falls public schools and area charter schools once again, touring the school district and meeting with the leaders of the charter schools. Central Falls was one of three districts to receive support from the Gates Foundation last fall to collaborate with area charters to improve student achievement. The public schools are partnering with the Learning Community, Blackstone Valley Prep, the Segue Institute for Learning and the International Charter School. Gates is exploring whether to provide grants to this partnership for, in this case, capital improvements.

Jefferson County

After approving a fiscal 2013 budget this week, Jefferson County, Ala., advised holders of its general obligation warrants they would not be paid. The county, still in bankruptcy, reported in a in a disclosure that it plans to default on the GO warrants until they are restructured under a plan of adjustment in its Chapter 9 case. Jefferson County has about $95.5 million of outstanding fixed-rate GOs insured by National Public Finance Guarantee Corp.; another $105 million of GOs are in variable-rate mode. The $15 million that would have been paid on the GO warrants in the coming year is expected to help the county pay its bankruptcy attorneys, according to published reports. Jefferson County also disclosed to investors it did not make the required payment to the Jefferson Public Building Authority for the 2006 lease revenue warrants that were sold to build a county courthouse, jail, and a 911 emergency call system; the reserves will be used to make the interest payment, the county said. It is not clear if any principal payment is due. The lease warrants are insured by Ambac Assurance Corp. The county had planned to reject the lease through the bankruptcy process. In recent weeks, attorneys said in court filings that the county was negotiating with Ambac. County Commissioners this week passed a resolution agreeing to a term sheet that would reduce annual lease payments and extend maturities.

Comin’ to you from LA, Baby

The Los Angeles City Council unanimously adopted a new retirement plan under which spouses of retired workers will no longer be eligible for city-funded healthcare. City employees will see their take-home pay reduced in years when their retirement fund takes a hit in the stock market, and employees who retire at the age of 55 after 30 years of city employment will receive pensions that are roughly one-third the amount provided to existing employees. The changes will only apply to newly hired civilian workers and will not affect the retirement benefits of police officers, firefighters, and employees at the Department of Water and Power. It will need a second vote within 30 days to go into effect. In the nonce, the council instructed city negotiators to meet with union leaders to try to find common ground and to avert a lawsuit.

Municipal Blues

U.S. District Judge Marvin J. Garbis has struck down a key provision of Baltimore Mayor Stephanie Rawlings-Blake’s overhaul of the fire and police pension system. The decision could force the city to pay tens of millions of dollars more to retirees each year. Judge Garbis held that the city’s decision to change the method for determining annual increases for retirees — resulting in less money for many — was “unconstitutional” and not "”reasonable and necessary to serve an important public purpose.” The provision was one part of a 2010 ordinance that also delayed retirement for many police and fire employees and increased their contributions to the pension system. If the ruling stands, the total cost to the city is unclear. When Mayor Rawlings-Blake introduced the pension overhaul in 2010, she said it would head off imminent fiscal crisis, saving the city at least $64 million a year. Under the adopted—but now struck-down—plan, firefighters and police officers would have been required to increase their contributions to the pension fund. Those who had worked for the city for fewer than 15 years were told they would no longer be able to retire after 20 years, but would have to work for five additional years. Retired workers also would have lost what was called the “variable benefit,” an annual increase tied to the stock market. Instead, the youngest retirees received no annual increase, and older retirees received a 1-2% annual increase. In his decision, Judge Garbis said that the law’s cost-of-living adjustments were unconstitutional in that they harmed younger retirees too severely: [The plan “had the pernicious effect of eliminating and/or reducing annual increases from retirees under 65 at the time of enactment and, consequently, significantly reducing their pensions when they became 65…it was not reasonable…There was an important public purpose to be served by the restructuring of the Plan so as to restore it to actuarial soundness and sustainability….; [H]owever, the City did not have total freedom to disregard its contractual obligations altogether.”

Pensionary Tales

The investment holdings of the 100 largest state and local public pension systems fell 1.5% from $2.76 trillion to $2.72 trillion in the second quarter of 2012, according to a U.S. Census Bureau survey released yesterday. The total cash and security holdings of these pensions, which comprise more than 89% of activity amongst public employee pension systems, fell 2.2% from the $2.78 trillion of pension fund holdings in the second quarter of 2011. Prior to the second quarter of this year, pension holdings had risen for three consecutive quarters. Total contributions to these pension systems also fell following three consecutive quarterly increases, dipping from $33.4 billion to $31.6 billion, a 5.4% decline. Total payments dropped slightly, from $54.9 billion in the first quarter to $53.4 in the second quarter, a 2.7% decline.

Bumps in the Road?

Fiscal year (FY) 2013 marks the third consecutive year that state officials are forecasting state tax growth compared with the previous fiscal year; nevertheless, it is unclear whether such growth is sustainable. According to the Nelson A. Rockefeller Institute of Government, following five quarters of declines brought on by the Great Recession, total state tax collections have risen for 10  consecutive quarters (since the first quarter of 2010); growth, however, has slowed in the last four. Overall, the state revenue situation continues to improve, but at a more tempered—and uncertain pace. Projections for FY 2013 reflect this slow growth trend as officials in nearly three-fourths of the states and the District of Columbia anticipate total tax growth between 1 and 4.9%--only two states—Georgia and Oklahoma—have forecast tax growth of more than 5% for all of the three major categories—personal income, general sales and use, and corporate income—this fiscal year. The Institute notes that there have been few notable state tax changes, which largely affect collections in FY 2013. So far, 2012 features the smallest aggregate tax cut (0.2 percent) in NCSL’s 32-year history of collecting this data.

Harried in Harrisburg

Judge Bonnie Leadbetter of the Pennsylvania Commonwealth Court last week agreed to reconsider the bitterly contested 1 percentage point increase in the earned income tax she had ordered last month as part of the city’s receiver’s Chapter 9 recovery plan. But in response to a joint plea on behalf of the receiver, city council, and mayor; the judge has granted a reprieve.

Pensionary Tidings

State treasurers at their annual meeting this week voted to urge Moody’s to carefully consider the consequences of its proposed changes to analyzing public-sector pension data, warning it would muddy already complicated pension issues for the public and financial markets. The resolution noted that NAST has “severe reservations” about Moody’s proposed changes. Moody’s would allow the pension obligations of state and local governments to be compared and would treat pension liabilities like debt so that it can better analyze the long-term liabilities of governments:  “Moody’s reporting of new and different pension liability and cost information at the same time that public plans are beginning to transition to the new GASB pension accounting standards will create confusion among members of the public, investors and policymakers.” NAST also agreed to send a four-page comment letter to Moody’s in response to its proposed changes. There is apprehension that even if the changes are just for accounting purposes, it will be confusing for states that have different pricing and operating pension plans while they are beginning to comply with the new GASB rules. Moody’s first announced the proposed adjustments in July, which would nearly triple, from $766 billion to $2.2 trillion, the unfunded pension liabilities reported by state and local governments in 2010. The adjustments would highlight the weakest funded pensions and could result in rating downgrades for local governments, the agency said. In its letter, NAST noted: “NAST is concerned that the proposed methodology will produce misleading results that could in fact negatively impact the accuracy of financial reports in many cases and distort comparisons across state and local governments…This methodological approach may achieve standardization at the cost of accuracy and thereby distort market pricing of state and local government borrowing.” The resolution stated that NAST believes it “would be more appropriate to employ a discount rate which recognizes the fact that public sector pension plans are significantly different from their private sector counterparts.” 

Chocolateville

Model, Luck, State Leadership, or Luck of the Draw? Central Falls, R.I., exited from municipal Chapter 9 bankruptcy in13 months—leading U.S. Bankruptcy Judge Frank Bailey to state last week that the Central Falls municipal bankruptcy process could serve as a national model.  That, of course, would be a stretch. Chapter 9 is a unique provision in federal law which only permits federal bankruptcy protection for a municipality if a state enacts legislation—something that not only not all states have done, but also something which states have chosen to enact with different parameters. Moreover, not everyone—by any stretch of the imagination—would agree that the exit from bankruptcy by Central Falls is necessarily an unparalleled success, certainly not the city’s retirees. Third, there are circumstances unique to each city and county that confronts default. In almost no two instances will we find the same set of facts and circumstances. Jefferson County, Alabama is a prime example—where, as U.S. House Financial Services Committee Chairman Spencer Bachus (R.—Al.) stated this week, “[I]f this legislation (on imposing a federal fiduciary responsibility on Municipal Advisors) had been in place,” Jefferson County would not be where it is today.”

A key issue is not just the differences in state municipal bankruptcy authorizing legislation (if the state has even enacted such), but also what that legislation provides. It’s also that the facts and circumstances in almost every city and county are distinct. One friend likens what happened in Jefferson County to a criminal activity, whereas Central Falls and other cities have clearly fallen victim to severe, recession related drops in assessed property values—and others have borrowed beyond their means. Moreover, as we have seen, how states have chosen—or not chosen—to address severe fiscal distress in municipalities is a critical factor. In some instances, the problem involves bonds issued by the county or city backed by the full faith and credit of its taxpayers. In others, there have been different kinds of bonds—or singular backroom mismanagement. In Stockton, there were pension bonds. In Central Falls, the key involved deep cuts in pensions: the city  exits Chapter 9 with a six-year plan that includes balanced budgets, but at a cost of retired police officers and firefighters taking pension benefits of 55%, while bondholders remained whole and the city has made its bond payments on time. The resolution does not change the underlying poverty and distress in the city—and lack of a manufacturing base. It remains unclear whether a city of one square mile can long endure, or, as Judge Bailey wrote: “We’re writing on a tabula rasa here…” And Lawrence Goldberg,who has served as special counsel to some of the members of the Central Falls City Council, noted: “A lot of this Chapter 9 is terra incognita…Little is known about what needs to be done or what should or should not be done.”

It has been important to all the cities in distress—either in bankruptcy or in danger of default—that the state has taken an active partnership role. Or, as Judge Bailey wrote: “I have to give credit to state officials in Rhode Island,” citing laws enacted by the Governor and legislature that created an intervention system for distressed municipalities and gave bondbolders priority in a Chapter 9 filing, with many giving special credit to Gov. Lincoln Chafee and revenue director Rosemary Booth Gallogly. Judge Bailey: “What made Central Falls unique was the involvement by the governor, the revenue director, and the General Assembly. That made it easier for us to go into the case with clearly defined goals.” In contrast, both internal disagreements and inability to work together and a less supportive state relationship appear—at least so far—to have produced remarkably less successful outcomes in some states, notably Pennsylvania, where its state capitol, Harrisburg, along with Scranton, and 25 other communities labeled distressed - have come under fire for their handling of local matters. As one expert commented: “There are a lot of states in which the governor will say, ‘This is your problem.’”

Note to Chris Mc., Dan, Jim Spiotto, and others—this is an extraordinarily critical issue, so your feedback, perspective, etc. would be especially appreciated.