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Long Term Borrowing is the Best Way to Finance Major City Facility Investments
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by stephen levy, University South,
on Sep 23, 2012
The Palo Alto City Council is beginning to discuss long-term financing options for major new facilities including the Public Safety building and Municipal Service Center renovation. This post explains the reasons why long-term borrowing is appropriate for these investments.
First, let's start with a bit of background. The Infrastructure Blue Ribbon Commission (IBRC) on which I served identified three buckets of infrastructure needkeep up, catch up and new facilities. For the keep up financing so that we do not fall behind again, the IBRC recommended that the City make room in the annual city budget for $2.2 million in additional infrastructure funding and that has been done for the new budget.
For the catch up facilities (projects on a backlog list) we recommended that the City could work these off as funds became available or bundle some or all of them into new long-term borrowing.
The IBRC report then recommended that major project financing should be done by borrowing. That could take the form of bond issues or certificates of participation (COPs) that would be borrowing repaid out of the General Fund.
There are two major reasons for long-term borrowing for major facilities like the Public Safety facility or recently for our libraries. One is that these projects have large construction costs that need to be financed currently. The related and second reason is that the benefits occur over many years into the future and borrowing allows future beneficiaries to share in paying for the projects. It is a better matching of costs and benefits than to have past residents take money away from city services to pay for projects that will benefit future generations.
I think the discussion in other threads that the city should have been saving money for these projects is out of line with how cities finance major facilities and would poorly match benefits and costs as well as avoid a public vote. The IBRC did recommend creating a reserve to smooth out the annual keep up funding.
I favor bond financing for long-term borrowing for the three reasons cited in the report. First, General Obligation bonds are normally cheaper than COPs. When we completed the IBRC report, the average interest rate on G.O. bonds was nearly 1% lower than for COPs and that could mean substantial interest savings. The second reason is that a G.O. bond requires voter approval and, therefore, allows residents a direct voice in project approval. Ultimately since residents will pay for and benefit from these investments, they should have a voting voice in my opinion.
The third reason is that city COP borrowing still requires a dedicated source of funds for repayment, which is not easily identified given the struggles that all cities face with slow growing revenue sources and long-term retirement benefit challenges so it likely that the city would need a new revenue source to repay any COP borrowing.
Finally, this post is about financing choices, which should come into play only after projects are determined to be worthwhile and in the public interest for future investment. And the post does not offer an opinion on the current proposal to share costs of financing the Public Safety facility through approval of a private development proposal. But it does offer an opinion as to the best way to finance the City's ultimate share of these costs.
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Posted by Wayne Martin
a resident of Fairmeadow
on Sep 24, 2012 at 4:38 pm
Why Funding City Infrastructure Solely By Bond Issue Is Not The Right Thing To Do.
The following is in response to Steven Levy's thoughts on City Infrastructure Funding via "ad velorem" property taxes--
1) "Ad Velorem" taxes are unfair. Someone who has lived in Palo Alto for more than 30 years would likely have an assessed property value of 150,000 or less. People just moving in would have assessed property values of $1M-$nM.
Using $50/$100K of assessed value (for purposes of an example)a long-time resident would likely pay $75/year for a property-bond sold to finance infrastructure. Whereas, a newly-arrived resident with a $1M assessed value would be billed $500/year. This $500 increases to $1,000 for a $2M home, and $1,500 for a $3M property (and so on).
There is no linkage between the use of "infrastructure" and the assessed value of a home. This "progressive" taxation is fundamentally wrong, when it comes to paying for the "glue" that is supposed to hold our town together.
Infrastructure should not be the obligation of those who are newly arrived in the community. Everyone should be expected to pay for them equally, or as equally as possible.
2) Many Palo Altans live in tax-exempt buildings. Very upscale multi-family buildings, like Channing House and Lytton Gardens, are exempt from base property taxesbeing subject only to parcel taxes. While people living in these buildings gladly vote taxes on the people living in single-family homes, they have gone to great ends to see to it that they do not have to pay those same taxes themselves. As more of these tax exempt housing projects target Palo Alto to build tax-exempt "affordable housing units", all of the costs of City Government are shifted from the occupants of these buildings/apartments to the local businesses, and single-family homeowners. This is also unfair. If people are not going to be subject to taxes, they should not be able to vote for them.
3) Renters (living in commercial housing) do not pay property taxes directly. Over time, it stands to reason that they contribute to the funds used by the building owner to pay the property taxes on the building. However, they are never sent a bill that identifies their contribution to the buildings property taxes, nor can their assets be attached for non-payment of property taxes. Again, it makes no sense to allow renters to vote taxes on business and home ownerswhen they are not directly responsible for paying their "fair share".
4) The City of Palo Alto will be spending, over the next thirty years, a minimum of $6.5B (that's BILLION DOLLARS), based on a nominal base of $140M (adjusted by a 3% yearly CPI). If the City were to reduce its spending over this timeframe by a mere 5%, then this would result in an surplus of $326M. If the spending were reduced by 7.5%, then the savings would be: $489M. And a 10% reduction would produce: $652M.
The argument that the City can not reduce its spending by a mere 5%-7.5% is ridiculousunless you are a dyed-in-the-wool "Tax-and-Spender". Of course it can reduce its spendingif forced to do so by the voters.
5) Utility "Profit" Pass-thru + UUT has been quite extensive--about $450M over the last hundred years. About $310M since the passage of the UUT in the late 1980s.
6) The Utility has an asset value greater than $1B-$nB (generally sale value is some "magic number" times yearly sales). If the Utility were sold, and the money invested so that it returned at least $40M-$50M (per billion dollars of sale price), the savings in taxes to Palo Altans would doubtless outweigh the difference in Utility costs, and the City government could downsize by over 300 employees. The Utility's obligation for pension guarantees, and post-retirement health care costs, for the Utility employees has not been clearly identified, but is about 30% of the total obligation for the City. This savings alone, would probably be $500M over a 30-year timeframe (estimated).
7) The City has about $20B-$25B (that's BILLION) in land assets. Selling just 5%-10% of these assets would bring in $1B-$2Bwhich would, in turn, generate $40M-$50M (per billion of invested funds) a year. These land sales would doubtless require some infrastructure upgrades, and permit some development, but the development that would follow would increase the tax base for the City, paying for this infrastructure, over time.
8) Adjusting the Prop.13/AB8 multiplier for the City of Palo Alto somewhat, increasing its cut of property taxes from the current 9% to something larger. This means that other agencies would get proportionately less, but as the assessed property values go up, those agencies would be getting larger shares of the yearly tax "take".
Looking at these very large numbers (a billion here and a billion there) it's pretty clear that the long-term financial picture of the City has never included the alternative use of City-owned assets, or the cash flow alternatives for the conversion of these land assets to both the City's yearly "bottom line", and the future cost of living in Palo Alto, from a resident's point-of-view. The current "business as usual", "nothing can be changed" mindset of the people the City has appointed to these various commissions, clearly seems to be not only blind to the possibilities, but perhaps, in the grand scheme of things, "criminally blind".
It is inconceivable that the City will be receiving $6.5B from the taxpayers over the next thirty yearswhile at the same time they can not find a few hundred million out of those billions to pay for needed infrastructure repair/refurbishment.
Change comes slowly. Sometimes it takes a revolution to get the "ruling class" to admit there is a problem. Hopefully, we Palo Altans can do a little thinking for a change, not list to people who don't really have any "skin in the game", and vote our own self-interests should any of the large bonds for infrastructure come before us in the coming years.
There is plenty of money in the general fund, if we spend it differently, and perhaps sell of some unneeded assets. Giving the City $1B to $2B to fritter away as they have done in the past just makes no sense… no sense at all!
Funding of the City's infrastructure needs would be far more equitable if the City were to commit to "living within its means", not using "ad velorem" taxes that target most single-family home owners, and businesses, and reduce the value of its asset loadconverting those dollars into revenue-producing financial instruments. This is not hard to doit just takes some thought, and a little political will.