Who’s in Charge of a Municipality’s Future?

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eBlog, 9/29/16

Good Morning! In this a.m.’s eBlog, we consider, the always difficult state-local governance challenges for cities in fiscal stress: first, we look at yesterday’s editorial from the Detroit Free Press raising serious concerns with regard to Michigan’s emergency manager law—a state law which authorizes the state to appoint an emergency law with dictatorial type authority and without accountability to citizens, voters, or taxpayers in a city, county, or public school district. The issue relates to the kinds of challenges we have been following in New Jersey, Connecticut, Virginia, and other states where the hard questions relate to what the role of a state might be for a municipality in severe fiscal distress—especially where such distress might risk municipal fiscal contagion. Then, mayhap appropriately, we journey back to Atlantic City, which is nearing its own state-imposed deadline to avert a state takeover. Finally, we examine the ongoing plight of East Cleveland —a small, poor municipality in some state of negotiation with the adjacent City of Cleveland with regard to the possibility of a merger—while awaiting a response from the State of Ohio with regard to its specific request for authority to file for chapter 9 bankruptcy. It remains unclear if the State of Ohio will ever even notify the city it has received said request, much less act. Thus, in a week, we have watched the States of Virginia, Connecticut, Michigan, and New Jersey struggle with what the role of a state might be—and how the fiscal ills of a city might adversely impact the credit ratings of said state.

Who’s in Charge of a Municipality’s Future? The Detroit Free Press in an editorial this a.m. wrote that, “[F]our years on, it’s hard to argue that Gov. Rick Snyder’s retooled emergency manager law, [Gov.] Snyder’s second revision of Michigan’s long-standing law, is working,” referring to Michigan’s Emergency Manager Law (Act 436), a state law unique to the state of Michigan: one which authorizes authority to the governor to appoint emergency managers with near-absolute power in cash-strapped cities, towns, and school districts; it authorizes such emergency managers to supersede local ordinances, sell city assets, and break union contracts; it leaves local elected officials without real authority. It provides that an Emergency Manager may be appointed by the Local Emergency Financial Assistance Loan Board. In the case of Detroit, it served as the mechanism by which Governor Rick Snyder appointed Kevyn Orr as Detroit’s emergency financial manager. The law, the Local Financial Stability and Choice Act reads: “The financial and operating plan shall provide for all of the following: The payment in full of the scheduled debt service requirement on all bonds and notes, and municipal securities of the local government, contract obligations in anticipation of which bonds, notes, and municipal securities are issued, and all other uncontested legal obligations (See §141.155§11(1)(B)). The editorial went on: “The crux of the problem lies in the limited impact accounting can have on the myriad factors that affect quality of life or efficient service delivery within a city:

“Sure, an emergency manager (in theory) can balance a city or school district’s books. But no amount of budget slashing or service cuts can make a city somewhere people want to live, or a school district the kind of place that offers quality education. In fact, it’s often the reverse: When residents leave, the tax base slims, meaning cities or school districts stretch to provide the requisite level of service with significantly less money. Cuts exacerbate the population decline, which depletes revenue more, which means more service cuts. And so on and so on and so on.

Nowhere is this object lesson in sharper contrast than Flint, where the city — under a success {I suspect the editors meant “excess’} of emergency managers — started pumping drinking water from the Flint River in 2014, pending the start-up of a new regional water system, a cost-saving switch prompted by the city’s ongoing budget woes. Almost immediately, botched water treatment caused bacterial contamination that altered the color, taste and odor of the city’s drinking water, and 18 months later, the state would acknowledge that improper treatment of which had caused lead to leach from aging service lines, contaminating the city’s drinking supply, and exposing nearly 9,000 children under age 6 to the neurotoxin, which can cause behavioral and developmental problems.

Why play games with something as important as drinking water? When the mandate is to cut, cut, cut, everything is on the table.

But it shouldn’t be.

A task force appointed by [Gov.] Snyder to review the Flint water crisis recommended a slate of changes to the state’s emergency manager law, like a mechanism for local appeal of emergency manager decisions, outside review, and other controls that Flint residents, alarmed by the smell, taste and color of their drinking water, could have employed to halt Flint’s water disaster before it reached crisis proportions.

Snyder says he’s waiting for the completion of a legislative report into the task force’s recommendation.

Why?

Snyder took office in 2011 knowing the bill was about to come due for a wave of municipal crises that threatened to cascade across the state.

There was the City of Detroit, where systemic budget troubles had been building for decades; Pontiac, Flint, and Benton Harbor, Allen Park, Ecorse, and Highland Park, where emergency managers were already waging uphill battles with incremental results, or whose substantial financial challenges put them firmly in emergency management’s crosshairs. And Detroit Public Schools, under state control for most of the last decade, with no fix in sight.

Inexplicably, in this climate, [Gov.] Snyder chose to cut state revenue sharing, continuing a trend of bolstering the state’s fiscal health at the expense of its cities to the tune of about $6 billion in cuts to cities over a decade.

Snyder and then-Treasurer Andy Dillon believed that the state’s long-standing emergency manager act was insufficient to truly remedy cities’ and school districts’ fiscal woes. An emergency manager, Snyder and Dillon believed, should have clear authority over operations, not just finances, and have greater power to impact labor agreements. Through two revisions (the first emergency manager law passed in Snyder’s tenure was repealed by voters; its replacement carries a budget appropriation and is thus repeal-proof), Snyder crafted a law that granted his emergency managers the authority to make the broad fixes he believed necessary.

There’s no question that a temporary usurpation of local elected control, as happens during an emergency manager’s appointment, is a serious matter. But Snyder seemed to understand that ensuring the health and well-being of Michigan residents — by ensuring that Michigan cities and school districts could provide the services necessary to create those conditions — was properly a governor’s job. It still is.

In the meantime, there’s promising news out of Lansing: Michigan State University professor Eric Scorsone, long a champion of funding cities properly and sustainably, has been appointed state deputy treasurer for finance. Scorsone has been a strong advocate for municipal governments and school districts, and we hope, deeply, that his appointment indicates that Snyder has come around to a point of view we’ve advanced for years: Fund cities properly, and whether or not to appoint an emergency manager may become a question that never needs answering.

Tempus Fugit? In ancient Rome, the query was ‘Is time running out,’ now an increasingly anxious question for Atlantic City’s leaders, where, having already missed one state-imposed deadline to initiate dissolution of its authority, the state has given the city until Monday to cure the violation. New Jersey Senate President Steve Sweeney (D-Salem) said Atlantic City must make a “realistic plan” to dig out of its fiscal hole; however, he declined to weigh in on the city’s most recent proposal. Noting that “Atlantic City has roughly 30-something days” left, Sen. Sweeney noted: “It’s incumbent upon them to put a realistic plan forward. You know, we’ve been at this for a while, and they really need to put a plan forward that’s going to make sense and work.” With the state-imposed deadline just six days before election day, Sen. Sweeney said he would “reserve judgment” on the city’s proposal to avail itself of its public water utility to purchase its airport, Bader Field, for at least $100 million. His comments came in the wake of the city’s unveiling earlier this week the first of seven parts to its plan in which city officials announced the Municipal Utilities Authority has agreed to purchase as part of an effort to raise revenues for the city, yet retain the water system in public hands, with the proceeds to go toward paying down the city’s roughly $500 million debt. The deadline comes as Moody’s has warned that the city not only risks defaulting on terms of a $73 million state loan agreement, but could also miss a $9.4 million municipal bond interest payment due on November 1. Analyst Douglas Goldmacher noted Atlantic City “does not have sufficient funds to immediately repay the $62 million already received from the state…Furthermore, unless the state continues to disburse additional funds from the bridge loan, or releases the Atlantic City Alliance and investment alternative tax funds owed to the city, it is highly improbable that the city will be able to make its (Nov. 1) $9.4 million balloon payment.” Mr. Goldmacher wrote, however, that the city’s repayment challenges would be addressed if the proposed Bader Field sale goes through—even as he again said the plan raises questions, such as whether the authority can afford to borrow $100 million and whether the state would even approve the plan—a plan to which the New Jersey Department of Community Affairs has yet to comment—perhaps confirming Mr. Goldmacher’s apprehension that: “Atlantic City’s impending technical default is credit negative for it, and indicates a disconnect between the city council, mayor, and state: “The impending default was caused by political gridlock.”

What Kind of City Do the Voters Want? The Cuyahoga County, Ohio Board of Elections and the East Cleveland City Council Clerk’s office this week certified more than 600 petition signatures to force a recall vote of East Cleveland Mayor Gary Norton and City Council President Tom Wheeler, so that the two highest ranking elected officials in this virtually insolvent municipality will face a recall election this fall, albeit not on the November ballot: the election likely will occur on December 6th—appropriately one day before Pearl Harbor Day. The election, however, will not be without cost to the virtually insolvent city: it could cost the city between $25,000 and $30,000—and will be a run-up just 10 months before the next mayoral primary election, even as the city is locked in so far seemingly non-existent merger negotiations with the City of Cleveland and awaiting a non-existent response from the Ohio State Treasurer with regard to its request for authorization to file for chapter 9 municipal bankruptcy. Nevertheless, the citizens of East Cleveland gathered more than twice the requisite number of signatures necessary to force a special recall election, triggering the City Clerk to send a letter to Mayor Norton informing him of the election. Under the East Cleveland charter, if he does not resign, he will face a recall election within 60-90 days. Unsurprisingly, Mayor Norton does not plan to resign. In a phone interview last Saturday, he characterized the election a waste of money in a city that cannot afford it: “East Cleveland will select it’s next mayor 10 months after this needless recall election…This is a horrible expenditure of funds given the city’s current financial provision, and beyond that, switching a single mayor or single councilman will have no impact on the city’s financial situation and the city’s economy.” Mayor Norton said the money the election will cost will have to be cut from other city services, noting that would include possible cuts in police and fire, because, he added: “There’s little to nothing left to cut in the city.” In East Cleveland, violent crime, on a scale from 1 (low crime) to 100, is 91. Violent crime is composed of four offenses: murder and non-negligent manslaughter, forcible rape, robbery, and aggravated assault. The US average is 41.4. In the city, property crime, on a scale from 1 (low) to 100, is 75. The U.S. average is 43.5. A recall election, if it happens, would be the third for the Mayor.

Mayor Norton’s success rate in overcoming recall votes could change, however, as voters in November—before the next scheduled recall election, will consider an amendment to the city’s charter intended to curtail the ease with which residents can trigger a recall, although it is currently being reviewed by the Board of Elections and has not been finalized for the November ballot. For his part, the beleaguered Mayor Norton has so far refused to say whether he was going to run for re-election next year, and declined to answer why voters should vote to keep him as mayor in December.

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What Is a State’s Role in Averting Municipal Fiscal Contagion?

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eBlog, 9/28/16

Good Morning! In this a.m.’s eBlog, we consider, again, the risk of municipal fiscal contagion—and what the critical role of a state might be as the small municipality of Petersburg, Virginia’s fiscal plight appears to threaten neighboring municipalities and utilities: Virginia currently lacks a clearly defined legal or legislated route to address not just insolvency, but also to avoid the spread of fiscal contagion. Nor does the state appear to have any policy to enhance the ability of its cities to fiscally strengthen themselves. Then we try to go to school in Detroit—where the state almost seems intent on micromanaging the city’s public and charter schools so critical to the city’s long-term fiscal future. Then we jet to O’Hare to consider an exceptionally insightful report raising our age-old question with regard to: are there too many municipalities in a region? Since we’re there, we then look at the eroding fiscal plight of Cook County’s largest municipality: Chicago, a city increasingly caught between the fiscal plights of its public schools and public pension liabilities.  From thence we go up the river to Flint, where Congressional action last night might promise some fiscal hope—before, finally, ending this morn’s long journey in East Cleveland—where a weary Mayor continues to await a response from the State of Ohio—making the wait for Godot seem impossibly short—and the non-response from the State increasingly irresponsible.

Where Was Virginia While Petersburg Was Fiscally Collapsing? President Obama yesterday helicoptered into Fort Lee, just 4.3 miles from the fiscally at risk municipality of Petersburg, in a region where Petersburg’s regional partners are wondering whether they will ever be reimbursed for delinquent bills: current regional partners to which the city owes money include the South Central Wastewater Authority, Appomattox River Water Authority, Central Virginia Waste Management, Riverside Regional Jail, Crater Criminal Justice Academy, and Crater Youth Care Commission. Acting City Manager Dironna Moore Belton has apparently advised these authorities to expect a partial payment in October—or as a spokesperson of a law firm yesterday stated: “The City appears committed to meeting its financial obligations for these important and necessary services going forward and to starting to pay down past due amounts dating back to the 2016 fiscal year…We appreciate the plan the city presented; however we have to reserve judgment until we see whether the City follows through on these commitments.” One option, it appears, alluded to by the Acting City Manager would be via a tax anticipation note. Given the municipality’s virtual insolvency, however, such additional borrowing would likely come at a frightful cost.

The municipality is caught in a fiscal void. It appears to have totally botched the rollout of new water meters intended to reduce leakage and facilitate more efficient billing. It appears to be insolvent—and imperiling the fiscal welfare of other municipalities and public utilities in its region. It appears the city has been guilty of charges that when it did collect water bills, it diverted funds toward other activities and failed to remit to the water authority. While it seems the city has paid the Virginia Resources Authority to stave off default, questions have arisen with regard to the role of the Commonwealth of Virginia—one of the majority of states which does not permit municipalities to file for chapter 9 bankruptcy. But questions have also arisen with regard to what role—or lack of a role—the state has played over the last two fiscal years, years in which the city’s auditor has given it a clean signoff on its CAFRs; and GFOA awarded the city its award for financial reporting. There is, of course, also the bedeviling query: if Virginia law does not permit localities to go into municipal bankruptcy, and if Petersburg’s insolvency threatens the fiscal solvency of a public regional utility and, potentially, other regional municipalities, what is the state role and responsibility—a state, after all, which rightly is apprehensive that is its coveted AAA credit rating could be at risk were Petersburg to become insolvent.

In this case, it seems that Petersburg passed the Virginia State Auditor’s scrutiny because (1) it submitted the required documents according to the state’s schedule, regardless of whether or not the numbers were correct; (2) the firm used by the city was probably out of its league. (It appears Petersburg used a firm that specialized in small town audits); (3) the City Council apparently did not focus on material weaknesses identified by the private CPA (nor did the State Auditor). The previous city manager, by design, accident, or level of competence, simply did not put up much of a struggle when the Council would amend the budget in mid-year to increase spending—a task no doubt politically challenging in the wake of the Great Recession—a fiscal slam which, according to the State Auditor’s presentation, devastated the city’s finances, forcing the city in a posture of surviving off cash reserves. (http://sfc.virginia.gov/pdf/committee_meeting_presentations/2016%20Interim/092216_No2b_Mavredes_SFC%20Locality%20Fiscal%20Indicators%20Overview.pdf). Now, in the wake of fiscal failures at both levels of government, the Virginia Senate Finance Committee last week devoted a great deal of time discussing “early warning systems,” or fiscal distress trip wires which would alert a state early on of impending municipal fiscal distress. Currently, in Virginia, no state agency has the responsibility for such an activity. That augurs ill: it means the real question is: is Petersburg an anomaly or the beginning of a trend?

The challenge for the state—because its credit rating could be adversely affected if it fails to act, and Petersburg’s fiscal contagion spreads to its regional neighbors and public utilities, a larger question for the Governor and legislators might be with regard to the state’s strictures in Virginia which bar municipal bankruptcy, bar annexation, prohibit local income taxes, cap local sales tax, and have been increasing state-driven costs for K-12, line-of-duty, water and wastewater, etc.

Who’s Governing a City’ Future? Michigan Attorney General Bill Scheutte yesterday stated the state would close poorly performing Detroit schools by the end of the current academic year if they ranked among the state’s worst in the past three years in an official legal opinion—an opinion contradictory to a third-party legal analysis that Gov. Rick Snyder’s administration had said would prevent the state from forcing closure any Detroit public schools until at least 2019, because they had been transferred to a new debt-free district as part of a financial rescue package legislators approved this year—a state law which empowers the School Reform Office authority to close public schools which perform in the lowest five percent for three consecutive years. Indeed, in his opinion, Attorney General Scheutte wrote that enabling the state’s $617 million district bailout specified Detroit closures should be mandatory unless such closures would result in an unreasonable hardship for students, writing: “The law is clear: Michigan parents and their children do not have to be stuck indefinitely in a failing school…Detroit students and parents deserve accountability and high performing schools. If a child can’t spell opportunity, they won’t have opportunity.” The Attorney General’s opinion came in response to a request by Senate Majority Leader Arlan Meekhof (R-West Olive) and House Speaker Kevin Cotter (R-Mount Pleasant) as part of the issue with regard to whether the majority in the state legislature, the City of Detroit, or the Detroit Public Schools ought to be guiding DPS, currently under Emergency Manager retired U.S. Bankruptcy Judge Steven Rhodes would best serve the interest of the city’s children. It appears, at least from the perspective of the state capitol, this will be a decision preempted by the state, with the Governor’s School Reform Office seemingly likely to ultimately decide whether to close any number of struggling schools around the state—a decision his administration has said would likely be made—even as the school year is already underway—“a couple of months” away. The state office last month released a list of 124 schools that performed in the bottom 5 percent last year, on which list more than a third, 47, were Detroit schools.

Nevertheless, the governance authority to so disrupt a city’s public school system is hardly clear: John Walsh, Gov. Snyder’s director of strategic policy, had told The Detroit News that the state could not immediately close any Detroit schools, citing an August 2nd legal memorandum Miller Canfield attorneys sent Detroit school district emergency manager Judge Rhodes, a memorandum which made clear that the transferral of Detroit schools to a new-debt free district under the provisions of the state-enacted legislation had essentially reset the three-year countdown clock allowing the state to close them—a legal position the state attorney general yesterday rejected, writing: a school “need not be operated by the community district for the immediately preceding three school years before it is subject to closure.” Michigan State Rep. Sherry Gay-Dagnogo (D-Detroit) reacted to the state opinion by noting it would not give Detroit’s schools a chance to make serious improvements as part of so-called “fresh start” promised by the legislature as part of the $617 million school reform package enacted last June, noting that she believes the timing of its release—just one week before student count day—is part of an intentional effort to destabilize the district: “We could possibly lose students, because parents are afraid and confused, that’s what this is all about…They want the district to implode…They want to completely remake public education, and implode the district to charter the district. There’s big money in charter schools…This is about business over children.”

Are There Too Many Municipalities? Can We Afford Them All? The Chicago Civic Federation recently released a report, “Unincorporated Cook County: A Profile of Unincorporated Areas in Cook County and Recommendations to Facilitate Incorporation,” which examines unincorporated areas in Cook County—a county with a population larger than that of 29 individual states—and the combined populations of the seven smallest states—a county in which there are some 135 incorporated municipalities partially or wholly within the county, the largest of which is the City of Chicago, home to approximately 54% of the population of the county. Approximately 2.4%, or 126,034, of Cook County’s 5.2 million residents live in unincorporated areas of the County and therefore do not pay taxes to a municipality. According to Civic Federation calculations, Cook County spends approximately $42.9 million annually in expenses related to the delivery of municipal-type services to unincorporated areas, including law enforcement, building and zoning and liquor control. Because the areas only generate $24.0 million toward defraying the cost of these special services, County taxpayers effectively pay an $18.9 million subsidy, even as they pay taxes for their own municipal services. The portion of Cook County which lies outside Chicago’s city limits is divided into 30 townships, which often divide or share governmental services with local municipalities. Thus, this new report builds on the long-term effort by the Federation in the wake of its 2014 comprehensive analysis of all unincorporated areas in Cook County as well as recommendations to assist the County in eliminating unincorporated areas. .In this new report, the Federation looks at the $18.9 million cost to the County of providing municipal-type services in unincorporated areas compared to revenue generated from the unincorporated areas, finding it spent approximately $18.9 million more on unincorporated area services than the total revenue it collected in those areas in FY2014, including nearly $24.0 million in revenues generated from the unincorporated areas of the county compared to $42.9 million in expenses related to the delivery of municipal-type services to the unincorporated areas of the county—or, as the report notes: “In sum, all Cook County taxpayers provide an $18.9 million subsidy to residents in the unincorporated areas. On a per capita basis, the variance between revenues and expenditures is $150, or the difference between $340 per capita in expenditures versus $190 per capita in revenues collected. The report found that in that fiscal year, Cook County’s cost to provide law enforcement, building and zoning, animal control and liquor control services was approximately $42.9 million or $340.49 per resident of the unincorporated areas. The following chart identifies the Cook County agencies that provide services to the unincorporated areas and the costs associated with providing those services. The county’s services to these unincorporated areas are funded through a variety of taxes and fees, including revenues generated from both incorporated and unincorporated taxpayers to fund operations countywide: some revenues are generated or are distributed solely within the unincorporated areas, such as income taxes, building and zoning fees, state sales taxes, wheel taxes (the wheel tax is an annual license fee authorizing the use of any motor vehicle within the unincorporated area of Cook County). The annual rate varies depending on the type of vehicle as well as a vehicle’s class, weight, and number of axles. Receipts from this tax are deposited in the Public Safety Fund. In FY2014 the tax generated an estimated $3.8 million., and business and liquor license fees, but the report found these areas also generated revenues from the Cook County sales and property taxes, which totaled nearly $15.5 million in revenue, noting, however, those taxes are imposed at the same rate in both incorporated and unincorporated areas and are used to fund all county functions. With regard to revenues generated solely within the unincorporated areas of the county, the Federation wrote that the State of Illinois allocates income tax funds to Cook County based on the number of residents in unincorporated areas: if unincorporated areas are annexed to municipalities, then the distribution of funds is correspondingly reduced by the number of inhabitants annexed into municipalities. Thus, in FY2014, Cook County collected approximately $12.0 million in income tax distribution based on the population of residents residing in the unincorporated areas of Cook County. The report determined the Wheel Tax garnered an estimated $3.8 million in FY2014 from the unincorporated areas; $3.7 million from permit and zoning fees (including a contractor’s business registration fee, annual inspection fees, and local public entity and non-profit organization fees (As of December 1, 2014, all organizations are required to pay 100% of standard building, zoning and inspection fees.). The County receives a cut of the Illinois Retailer’s Occupation Tax (a tax on the sale of certain merchandise at the rate of 6.25%. Of the 6.25%, 1.0% of the 6.25% is distributed to Cook County for sales made in the unincorporated areas of the County. In FY2014 this amounted to approximately $2.8 million in revenue. However, if the unincorporated areas of Cook County are annexed by a municipality this revenue would be redirected to the municipalities that annexed the unincorporated areas.) Cook County also receives a fee from cable television providers for the right and franchise to construct and operate cable television systems in unincorporated Cook County (which garnered nearly $1.3 million in revenue in FY2104). Businesses located in unincorporated Cook County pay an annual fee in order to obtain a liquor license that allows for the sale of alcoholic liquor. The minimum required license fee is $3,000 plus additional background check fees and other related liquor license application fees. In FY2014 these fees generated $365,904. Finally, businesses in unincorporated Cook County engaged in general sales, involved in office operations, or not exempt are required to obtain a Cook County general business license—for which a fee of $40 for a two-year license is imposed—enough in FY2014 for the county to count approximately $32,160 in revenue.

Who’s Financing a City’s Future? It almost seems as if the largest municipality within Cook County is caught between its past and its future—here it is accrued public pension liabilities versus its public schools. The city has raised taxes and moved to shore up its debt-ridden pension system—obligated by the Illinois constitution to pay, but under further pressure and facing a potential strike by its teachers, who are seeking greater benefits. The Chicago arithmetic for the public schools, the nation’s third-largest public school district is an equation which counts on the missing variables of state aid and union concessions—neither of which appears to be forthcoming. Indeed, this week, Moody’s, doing its own moody math, cut the Big Shoulder city’s credit rating deeper into junk, citing its “precarious liquidity” and reliance on borrowed money, even as preliminary data demonstrated a continuing enrollment decline drop of almost 14,000 students—a decline that will add fiscal insult to injury and, likely, provoke potential investors to insist upon higher interest rates. According to the Chicago Board of Education, enrollment has eroded from some 414,000 students in 2007 to 396,000 last year: a double whammy, because it not only reduces its funding, but likely also means the Mayor’s goal of drawing younger families to move into the city might not be working. In our report on Chicago, we had noted: “The demographics are recovering from the previous decade which saw an exodus of 200,000. In the decade, the city lost 7.1% of its jobs. Now, revenues are coming back, but the city faces an exceptional challenge in trying to shape its future. With a current debt level of $63,525 per capita, one expert noted that if one included the debt per capita with the unfunded liability per capita, the city would be a prime “candidate for fiscal distress.” Nevertheless, unemployment is coming down (11.3% unemployment, seasonally adjusted) and census data demonstrated the city is returning as a destination for the key demographic group, the 25-29 age group, which grew from 227,000 in 2006 to 274,000 by end of 2011.) Ergo, the steady drop in enrollment could signal a reversal of those once “recovering” demographics. Or, as Moody’s notes, the chronic financial strains may lead investors to demand higher interest rates—rates already unaffordably high with yields of as much as 9 percent, according to Moody’s. Like an olden times Pac-Man, principal and interest rate costs are chewing into CPS’s budget consuming more than 10 percent of this year’s $5.4 billion budget, or as the ever perspicacious Richard Ciccarone of Merritt Research Services in the Windy City put it: “To say that they’re challenged is an understatement…The problems that they’re having poses risks to continued operations and the timely repayment of liabilities.” Moody’s VP in Chicago Rachel Cortez notes: “Because the reserves and the liquidity have weakened steadily over the past few years, there’s less room for uncertainty in the budget: They don’t have any cash left to buffer against revenue or expenditure assumptions that don’t pan out.” And the math threatens to worsen: CPS’ budget for FY2016-17 anticipate the school district will gain concessions from the union, including phasing out CPS’ practice of covering most of teachers’ pension contributions—a phase-out the teachers’ union has already rejected; CPS is also counting on $215 million in aid contingent on Illinois adopting a pension overhaul—the kind of math made virtually impossible under the state’s constitution, r, as Moody’s would put it: an “unrealistic expectations.” Even though lawmakers approved a $250 million property-tax levy for teachers’ pensions, those funds will not be forthcoming until after the end of the fiscal year—and they will barely make a dent in CPS’s $10 billion in unfunded retirement liabilities.

Out Like Flint. The City of Flint will continue to receive its water from the Great Lakes Water Authority for another year, time presumed to be sufficient to construct a newly required stretch of pipeline and allow for testing of water Flint will treat from its new source, the Karegnondi Water Authority (KWA). The decision came as the Senate, in its race to leave Washington, D.C. yesterday, passed legislation to appropriate some $170 million—but funds which would only actually be available and finally acted upon in December when Congress is scheduled to come back from two months’ of recess—after the House of Representatives adopted an amendment to a water projects bill, the Water Resources Development Act, which would authorize—but not appropriate—the funds for communities such as Flint where the president has declared a state of emergency because of contaminants like lead. Meanwhile, the Michigan Strategic Fund, an arm of the Michigan Economic Development Corp., Tuesday approved a loan of up to $3.5 million to help Flint finance the $7.5-million pipeline the EPA is requiring to allow treated KWA water to be tested for six months before it is piped to Flint residents to drink. While the pipeline connecting Flint and Lake Huron is almost completed, the EPA wants an additional 3.5-mile pipeline constructed so that Flint residents can continue to be supplied with drinking water from the GLWA in Detroit while raw KWA water, treated at the Flint Water Treatment Plant, is tested for six months. The Michigan Department of Environmental Quality is expected to pay $4.2 million of the pipeline cost through a grant, with the loan covering the balance of the cost. Even though the funds the Strategic Fund has approved is in the form of a loan, with 2% interest and 15 years of payments beginning in October of 2018, state officials said they were considering various funding sources to repay the loan so cash-strapped Flint will not be on the hook for the money. Time is of the essence; Flint’s emergency contract for Detroit water, which has already been extended, is currently scheduled to end next June 30th.  

Waiting for Godot. Last April 27th, East Cleveland Mayor Gary Norton wrote to Ohio State Tax Commissioner Joseph W. Testa for approval for his city to file chapter 9 bankruptcy: “Given East Cleveland’s decades-long economic decline and precipitous decrease in revenue, the City is hereby requesting your approval of its Petition for Municipal Bankruptcy. Despite the City’s best Efforts, East Cleveland is insolvent pursuant…Based upon Financial Appropriations projections for the years 2016, 2017, 2018 and 2019, the City will be unable to sustain basic Fire, Police, EMS or rubbish collection services. The City has tried to negotiate with its creditors in good faith as required by 11 U.S.C. 109. It has been a somewhat impracticable effort. The City’s Financial Recovery Plan, approved by the City Council, the Financial Commission and the Fiscal Supervisors, while intended to restore the City to fiscal solvency, will have the effect of decimating our safety forces. Hence, our goal to effect a plan that will adjust our debts pursuant to 11 U.S.C. 109 puts us in a catch-22 that is unrealistic. This is particularly true now that petitions for Merger/Annexation with the City of Cleveland have been delayed by court action in the decision of Cuyahoga County Common Pleas Judge Michael Russo, Court Case No. 850236.” Mayor Norton closed his letter: “Thank you for your prompt consideration of this urgent matter.” He is still waiting.

 

What Is a State’s Role When a Municipality Can No Longer Provide Essential Public Services?

eBlog, 9/27/16

Good Morning! In this a.m.’s eBlog, we consider the risk of municipal fiscal contagion—and what the critical role of a state might be as the small municipality of Petersburg, Virginia’s fiscal plight appears to be spreading to neighboring municipalities and utilities: Virginia currently lacks a clearly defined legal or legislated route to address not just insolvency, but also to avoid the spread of fiscal contagion. Then we journey to Atlantic City, where a comparable fiscal challenge—but in a state with a much longer history of state-local consideration—appears on the verge of a total state takeover: we ask whether the city’s end is nigh: will the state, in fact, take it over? Then we turn to the school yards in Chicago, where a threatened teacher strike augurs fiscal downgrades and worse fiscal math for Chicago Public Schools—a city beleaguered by this year’s terrible increase in murders and now unsettling math.

When It Rains, It Pours. The small Virginia municipality of Petersburg, near insolvency–or its tipping point, uncertain of what role the Commonwealth of Virginia will take in a state where, were the city to file a chapter 9 municipal bankruptcy petition, its municipal bondholders holding bonds to which statutory liens have attached would continue to receive payments on those bonds, [§15.2-5358], now is confronted by the filing of two similar lawsuits, accusing the city of repeated failures to meet payment due dates. The fiscal crisis is finally forcing the State of Virginia to contemplate what role it might have to take—a role which would set a precedent in a state which does not specifically authorize its municipal entities to file for municipal bankruptcy—and where the only such petition filed—by an economic development authority—was dismissed. The likely mechanism that will leave the state little alternative but to act is likely to be the filing of two lawsuits against the city over past-due payments—suits alleging similar accusations of repeated failures to meet payment due dates even before Petersburg’s fiscal problems evolved into a crisis: the South Central Wastewater Authority last week filed a lawsuit against the city, seeking more than $1 million and the appointment of a receiver to make sure the money the authority says it is owed is not spent by the city on other things, with the suit alleging: “Since 2011, city officials have failed to regularly and timely bill and collect monies for wastewater services and have failed to make payments due and owing to South Central.”

The second suit, filed last month by a road paving company, alleges that Petersburg failed to make payments on time for the company’s work repaving U.S. Route 460 East—a contract which specified that the company would receive payment within 30 days of the work being billed. In its filing, however, the company noted that its bills were paid late and that many times “those checks bore dates that made it appear they had been issued on time pursuant to the contract terms, even though delivery did not occur until weeks or months later.” The company’s corporate credit manager and chief financial officer met in July 2015 with Petersburg’s then Finance Director to discuss the problems—in the wake of which the city proposed a very delayed schedule—late enough that the company halted work on the project. The suit charges it has been left with an unpaid balance of about $214,000, so that it is seeking payment of that balance plus interest of 1 percent per month. For its part, the South Central Wastewater Authority alleges a similar pattern of late payments stretching back to mid-2011: “Since 2011, city officials have failed to regularly and timely bill and collect monies for wastewater services and have failed to make payments due and owing to South Central…This failure by Petersburg became sustained and serious beginning in the middle of 2012 and has become chronic and severe since…Despite continuous communication and extraordinary forbearance by [South Central] regarding Petersburg’s payment practices, which only resulted in repeated assurances of payment followed by more broken commitments, Petersburg has now altogether ceased making payments.” The suit charges the city is delinquent by $1.2 million, excluding penalty fees. Another $410,000 came due on the first of this month, according to the lawsuit. Because the Authority, moreover, provides wastewater treatment for the municipalities of Petersburg and Colonial Heights, and the counties of Chesterfield, Dinwiddie, and Prince George; and because Petersburg uses about half of the wastewater plant’s capacity, South Central’s complaint notes that  if Petersburg continues to fail to make payments, the authority will have to ask the other municipalities to pay higher rates, or it may be forced to shut down the treatment plant—a shutdown which, the utility notes, “would endanger public health and require an alternate means of treatment to prevent the flow of untreated wastewater directly into the Appomattox River…Planning, permitting, financing and construction of new facilities would take years. The scale and seriousness of this crisis cannot be overstated.” Indeed, the scale and complexity of the growing list of creditors of the municipality unearthed by auditors last summer determined Petersburg owed a total of about $3.4 million to six regional organizations: South Central, the Appomattox River Water Authority, the Central Virginia Waste Management Authority and Riverside Regional Jail, Crater Youth Care and the District 19 Community Services Board. It has become increasingly apparent that Petersburg’s fiscal problems have become contagious to adjacent municipalities and essential public services, so that, increasingly, the Commonwealth of Virginia will be forced to act.

Indeed, Virginia Secretary of Finance Richard D. Brown last week briefed members of the General Assembly’s Finance Committees on his department’s effort to help Petersburg figure out how to close its $12 million budget gap and generate enough cash flow to both keep the city government operating and to begin to pay down a debt that has ballooned to nearly $19 million. But, as it has become apparent the city likely will simply be unable to get out by itself, its fiscal collapse risks spreading—as can be noted from the impact of its non-payment to a regional facility—adjacent municipalities, it would appear the Governor and Virginia legislature will have little choice but to both act on measures to protect the state’s AAA credit rating, but also to prevent the fiscal distress from spreading. The Virginian Commission on Local Government, which has measured local fiscal distress in the state for three decades: notes in its stress index measures cities’ and counties’ revenue capacity, revenue effort, and median household income: it ranks Petersburg as the third-most fiscally stressed locality in Virginia—behind Emporia and Buena Vista.

The increasing apprehension in Richmond has led the Chairman of the House Appropriations Committee, Del. S. Chris Jones (R-Suffolk) to ask: “How did this get this bad without anyone knowing about it?” It also triggered his appointment last week of Del. R. Steven Landes (R-Augusta) to head a subcommittee to study states dealing with fiscally stressed localities and come up with solutions if a situation similar to that in Petersburg were to occur elsewhere in Virginia—or, as the Chairman put it: “We want to do our due diligence to see if there is legislation we might have to put in place to give authority to the state in certain circumstances to potentially take action…Right now, we don’t have the authority to do this, which is why I thought it is important to have this subcommittee between now and January and then begin the process to come up with some legislation.” In doing so, the Chairman emphasized that the state legislature will look primarily for proposals aimed at protecting the state’s interests—not those of the troubled localities, stating: “We are elected to represent our citizens at the state level, and we have our AAA bond rating to consider.” For his part, Chairman Landes said his committee will also examine the state’s options with regard to steps it could take to shorten its response time when a locality is heading toward the fiscal cliff, noting: “We want to make sure that audit information is getting to the money committees and the administration, because we would much rather be kept abreast sooner rather than later,” even as he vowed that a “bailout” for Petersburg is out of the question, noting: “I’m not aware where the state has ever stepped in to provide a locality a bailout…I don’t see that happening.”

Balancing on the Prick of the NeedleWhile it seems clear that neither the Governor nor the Legislature have much willingness to either grant municipal bankruptcy or provide significant fiscal assistance; nevertheless, there appears to be recognition that should Petersburg default, it would have implications for other municipalities in the state, especially if there were a default—such a default—increasingly possible in Petersburg’s case, because it is unclear how Petersburg, by Saturday, will come up with a $1.4 million principal-and-interest payment owed to the Virginia Resources Authority, a premier funding source for local government infrastructure financing through bond and loan programs. Under Virginia’s intercept provision, the Commonwealth is authorized to seize dollars it directs to localities for services, such as for schools, police and welfare, and use them, instead, to make scheduled payments on bonds to avoid default.

Interim City Manager Dironna Moore Belton acknowledged in an email last week that in order to secure short-term financing and bring long-term stability to the city, it cannot default on its loan payments. But Ms. Belton did not provide any specifics about from where she would take these dollars: “The city regularly collects revenues which go toward paying obligations…(and) has set aside dollars from incoming revenue to make the VRA payment;” however, in light of the $1.2 million lawsuit filed last week by the South Central Wastewater Authority, calls for the city to file for chapter 9 municipal bankruptcy have grown louder at public meetings and on internet message boards. However, as one expert commentator warns: “The state’s position is that Petersburg has dug themselves into a very unusual hole, and that they are going to have to take some very stringent and even draconian steps to get their house in order.” It is no longer certain, however, that the municipality has the capacity to get out by itself—indeed, it seems that, more likely than not, its fiscal tribulations will, increasingly, adversely affect neighboring public utilities and jurisdictions. According to Secretary Brown, the possibility of the city defaulting on bond payments is very real—a default which would leave the municipality with few alternatives—to which the Secretary remarked: “Some say that if it’s gotten to the point where they can’t operate, they should look at their charter and un-incorporate.” Such incorporation, however, would be a version of passing the buck—after all: which government would then be responsible for not only providing essential public services, but also paying off the growing mountain of municipal debts?

Thirsty City. Just as the provision of drinking water was a difficult issue in Detroit’s chapter 9 municipal bankruptcy, and has become so in Petersburg, so too the issue has arisen in San Bernardino, where the city’s municipal water department has announced water bills will increase by an average of $3.50 starting in October—with some of the increased  costs triggered by a state mandated water reduction goal of 28% this past summer—even as the utility notes the importance of conserving water during winter months: the Board of Water Commissioners, which is responsible for water rates in the city, voted unanimously to impose the higher rates, the first increase in four years; the city has approved further increases to go into effect next July 1st and in the subsequent July 1st of 2018. Again, just as in Detroit, virtually all who attended the session and vote came away angry—as the city water department’s General Manager put it: “For all of us, the last thing we want to do is cause economic distress to people…But we need to take care of what we’ve got, or we’re going to end up spending more in the future.” Since the city’s last rate increase, the water department has had to deal with California’s historic drought; the rising cost of imported water; new water quality regulations; and other expenses. Cost-cutting efforts include operating with fewer employees than in 2007, requiring employees to pay for a larger portion of their benefits, and securing as much as $350,000 in rebates from Southern California Edison, according to the water department. According to the water department website, the average water bill in San Bernardino, will be just under $50 per month, higher than average in adjacent Riverside and Redlands, but less than in Colton, Rialto, the East Valley Water District, the Cucamonga Valley Water District, the West Valley Water District and Fontana. Unlike Detroit, where one of the most difficult issues for then U.S. Bankruptcy Judge Steven Rhodes was how to balance the critical public health and safety issues related to water versus affordability; that question appears not to have arisen in San Bernardino.

Can a City Maintain its Sovereignty? Just as the question of sovereignty for a municipality in Virginia has become an issue, so too the question of whether the State of New Jersey will take over Atlantic  City and dissolve its sovereignty, after the New Jersey Division of Local Government Services notified Atlantic City that it has until Monday to comply with the terms of a $73 million state loan or face the possibility of default, warning that, because the city is in violation of its loan terms, it must act swiftly to “cure the breach.” As part of its effortsd to cure that “breach,” Atlantic City has reached an agreement with its water utility to purchase its old municipal airport property in a deal that officials of the city hope will help it avoid a state takeover. The Municipal Utilities Authority, which provides Atlantic City’s drinking water and is financially independent from the city, plans to purchase the 143-acres of the former Bader Field airport for at least $100 million through bonding, officials announced at a press conference yesterday, with Mayor Donald Guardian touting the partnership as a way of maintaining both the city and utility’s “sovereignty” while also helping the city dig its way out of more than $500 million of total debt. Mayor Guardian said he hopes the agreement, one which still needs city council and state approval, prevents New Jersey’s Local Finance Board from taking action after it violated the terms of a $73 million bridge loan that called for dissolving the MUA. Nevertheless, the New Jersey Department of Community Affairs declined to comment on whether the Local Finance Board would accept the Atlantic City MUA plan—a key apprehension after that Board last Thursday had imposed a deadline of next Monday to fix a breach of a condition on its $73 million bridge loan or face a possible default where the state could seek full repayment and withhold state aid—indeed, under the terms of last July’s loan agreement mandating the city needed to dissolve the MUA by September 15th, the state could demand full repayment of the $73 million loan and withhold state aid if the city were unable to avert a default by the October 3 deadline. For his part, MUA Executive Director Bruce Ward said the authority will get an agreement with the city before deciding how to proceed with the property. Mr. Ward added that floating a bond for the Bader Field purchase is attainable and that the MUA has advisors who will help strategize the borrowing. The MUA has $15.7 million in annual revenues with $16.6 million of net water revenue debt outstanding, according to Moody’s Investors Service.

Learning about Debt—or Failing Grades? Moody’s yesterday awarded a failing credit grade to Chicago Public Schools, downgrading CPS’ bond rating further into junk status, lowering its view of the school system’s debt one notch to a B3 rating, citing a variety of factors, including CPS’ reliance on short-term borrowing, a “deepening structural deficit,” and a budget “built on unrealistic expectations” of help from a state government with money woes of its own. If there could be fiscal insult to financial injury, it arrived yesterday when CPS announced budgets at about 300 schools would lose a total of $45 million because of enrollment declines, and the Chicago Teachers Union said its members authorized a strike if contract talks break down. Unsurprisingly, that led the ever so moody Moody’s to warn that its debt rating could decline even further—a downgrade that would make the school district’s borrowing more expensive, even as CPS’ Board is set to vote Wednesday on the system’s $338 million capital budget—a budget projected to swell amid plans to borrow up to $945 million in long-term debt for a variety of other school infrastructure projects. For its part, the union yesterday announced that more than 95% of members who submitted a ballot last week voted in favor of authorizing a strike, easily crossing the requisite 75% threshold: CTU’s House of Delegates will meet Wednesday to discuss a possible strike date which could come as soon as October 11th—a strike, were it to occur, which added to Moody’s fiscal moodiness, as it noted CPS’ “increasingly precarious liquidity position and acute need for cash flow borrowing to support ongoing operations…The downgrade is also based on CPS’s deepening structural deficit, with budgets that are built on unrealistic expectations of assistance from the State of Illinois, which faces its own financial challenges. The rating also incorporates escalating pension contribution requirements, strong employee bargaining groups that impede cost cutting efforts, and elevated debt service expenses.” (CPS is offering raises in a new multi-year contract offer but it wants to phase out the $130 million annual tab for covering 7% of teachers’ 9% pension contribution. The union argues that the contract offer results in a pay cut and is strike-worthy.)

Municipal Sovereignty: What’s at Stake?

eBlog, 9/26/16

In this morning’s eBlog, we wonder whether the end for Atlantic City is nigh: will the state, in fact, take it over? Then we turn to the beleaguered cities of Cleveland and East Cleveland as they contemplate a potential merger: could that avert a chapter 9 municipal bankruptcy—an option which the State of Ohio has made like waiting for Godot? Then we veer east to Connecticut, where the capital City of Hartford faces insolvency—captive to fiscal and physical borders bequeathed from Pilgrim times. Just as inequality in that state’s schools propelled a powerful Connecticut Supreme Court decision, so too, we consider an insightful piece about the inequity of the post municipal bankruptcy Detroit school situation. What might it augur for the city’s post-bankruptcy future? Then, as Horace Greeley asked, we go west, where the governance challenges in San Bernardino and the upcoming ballot question about marijuana have made for heated debate about what kind of debates can the city hold to inform voters on an upcoming election critical to the city’s post-municipal bankruptcy charter. Finally, we look south to the U.S. Virgin Islands—just a hop, skip, and a jump from Puerto Rico to consider how this U.S. Territory is addressing its fiscal challenges. Phew!

Can a City Maintain its Sovereignty? The New Jersey Division of Local Government Services has notified Atlantic City that it has until next Monday to comply with the terms of a $73 million state loan or face the possibility of default because it is in violation of its loan terms, so that it must act swiftly to “cure the breach to come into compliance with the agreement,” albeit LGS spokesperson Tammori Petty noted: “We decline to speculate on next actions.” The notification appears to be a response to Mayor Don Guardian’s request last week for a reprieve after the City Council failed to agree to meet one of the terms in the loan agreement: dissolving the Atlantic Municipal Utilities Authority by September 15th. Should the city not comply by the looming deadline, the state can demand full repayment of the $73 million as well as withhold any state aid. In addition, the state could also to seize the city’s municipal utility authority or its airport as collateral, based on the terms by which the city had agreed to the bridge loan terms in order to avoid defaulting on a $3.4 million debt payment—a payment, which under the terms of the agreement, fell due at the beginning of last month. Doug Goldmacher of Moody’s noted that the city’s “inability to meet its loan covenants is a credit negative and indicative of the city’s severe fiscal distress.” Should the state take over Atlantic City, the Local Finance Board would be authorized and empowered to alter debt and municipal contracts. For the beleaguered city which has tried to weather the closure of four of its casinos—closures reducing its tax base by as much as 70 percent, in addition to undercutting assessed property values—the options appear to be waning. Nevertheless, the Mayor’s Chief of Staff, Chris Filiciello, stated: “We continue to focus on putting together the 150 day plan…If we are given the time to complete and present it, we know it will be the best plan to move Atlantic City forward while still maintaining our local sovereignty.”

To Be or Not to Be? Two of the nation’s poorest cities, East Cleveland and Cleveland, (East Cleveland’s per capita income of $12,602 ranks it 1,000th in Ohio, while Cleveland’s $14,291 ranks it 887th) are undertaking so far informal discussions about a potential merger, albeit with recognition even a combined municipality would need a sizable boost in taxpayer dollars to make it happen. From Cleveland’s perspective, the city is exploring whether there might be development possibilities through such a combination—albeit recognizing the potential pitfalls: East Cleveland is so impoverished that some residents fill their own potholes. Moreover, from a governance perspective, there appears little initiative: East Cleveland has learned that requesting authority from the State of Ohio to file for chapter 9 municipal bankruptcy is like waiting for Godot. Nevertheless, after long balking at the concept of dissolving their city, its elected leaders agreed last month to pursue annexation by the City of Cleveland without the list of demands it had earlier made as a prerequisite, such as continuing the pay of its Mayor and elected officials as its Council had originally submitted to the dismay of Cleveland officials. Nevertheless, with the writing seemingly on the wall, Thomas Wheeler, President of East Cleveland City Council, notes: “Without a revenue stream, I don’t know how we would exist,” adding he and East Cleveland Mayor Gary Norton recognize their city is out of options: it has millions in unpaid bills, and it has had no access to borrow on the municipal credit market for years; it is so cash strapped that in the wake of deep cuts in its workforce, only five firefighters were available to respond to a recent house fire: it is becoming a municipality of crumbling streets, abandoned buildings, uncertain waits for essential emergency 9-1-1 services, and, increasingly, so dangerous that citizens have armed themselves, knowing it could be a long wait for police. Nevertheless, some Cleveland politicians are enthusiastic about the possibility of a merger, citing development possibilities along a main thoroughfare which connects East Cleveland with Cleveland’s fastest-growing neighborhood, University Circle, the home of its fine research hospitals, Case Western Reserve University, and most of Cleveland’s cultural institutions. Ergo: negotiations by a commission consisting of three members from each municipality could begin sometime in the next few months.

Hard Fiscal Times for Hartford. S&P Global Ratings has downgraded the City of Hartford four notches, with the downgrade coming in the wake of the Connecticut Supreme Court decision’s [Connecticut Coalition for Justice in Education Funding v. Rell] finding unconstitutional the state’s fiscal disparities in school funding—or, as Hartford Mayor Luke Bronin put it: “The rating agency action reflects what I’ve been saying for many months, which is that the city of Hartford can’t cut or tax its way out of this challenge by itself.” Or, as S&P credit analyst Timothy Little put it, “Until the city can adopt a credible plan and sustain improved budgetary performance, the rating reflects our weak view of management conditions.” The city, which is on course to insolvency by the end of the year, reflects what S&P, in its downgrade, cited continued deficits and the “lack of a credible plan” to balance the 125,000-population city’s budget and curb out-year fiscal gaps—and it cited a one-third chance of further downgrades within a year. Mayor Bronin has repeated his call for help from the state and the region’s suburbs, pressing for consideration of a regional tax and state reconsideration of tax laws to abate municipal reliance on property taxes, noting: “We can put Hartford and the capital region on a path to fiscal health and economic growth, but it’s going to take everyone coming together—in Hartford, the region and the state—to face the realities that we need to face.” As our respected colleagues at Municipal Market Analytics put it, Hartford’s struggles parallel those of many older cities: the city confronts high, escalating fixed costs: debt service, pension obligations, and other post-employment benefits—fixed costs which now consume nearly 20 percent of its annual budget, even as it has a depleting or disparate municipal tax base, because more than one-third of its population lives below the poverty line. Unemployment reached nearly 11% in July, nearly double the statewide rate of 5.6 percent. As MMA notes, the fiscal numbers appear to more than offset the capital city’s concentrations of art, entertainment, and hospital clusters—even as its dependence on state aid meant that this year’s $45 million state aid reduction triggered a spike in its reliance on short-term debt—meaning the city’s debt service could nearly double to about $46 million by FY2018, according to forecasts by city officials. Mayor Bronin notes that past budget practices made Hartford a disaster waiting to happen, or, as he puts it: “When governments are in fiscal crisis, one approach is to hide it or minimize it just to buy a little more time. That’s what Hartford did for many years…That’s not the approach I take. We’re opening the books and telling the real story, because that’s the only way we’re going to be able to make real and lasting change.” The city band-aided its FY2017 $553 million budget on reserves and labor concessions—neither of which the city has yet to realize; the fiscal cliff looms larger in the out-years, when there are anticipated gaps of more than $30 million in FY2018, rising to $50 million thereafter.” … Judge Thomas’ ruling in the 11-year case, like those of Horton v. Meskill in 1977 and Sheff v. O’Neill in 1996, spotlights the most glaring feature of Connecticut’s taxing arrangements — the inequity of school funding.

Sins of the Founding Fathers? Connecticut, like much of New England, traces its municipal roots to the four century-old system of towns, towns based on the parish boundaries of the Puritans, which required that every resident be able to walk to church, meaning, in the case of Connecticut municipalities, many remain approximately the same size geographically, albeit that some of its cities are among the smallest towns (17 square miles in the case of Hartford, 5.5 square miles in New London). From the original parish boundaries have devolved municipal boundaries, each town with taxing power and its own elected council, police department, public works department, fire department and school system. That appears to have contributed to a governance system in which the state is made up of several medium-to-large Metropolitan Statistical Areas, defined as having one or more adjacent counties or county equivalents with at least one urban core of 50,000 population, plus adjacent area tied to the core through a high degree of social and economic integration measured by commuting ties. Of the 382 MSAs nationally, the New York City MSA is ranked No. 1 in population; the Boston MSA is No. 10; the largest MSA in Connecticut, the Hartford-West Hartford-East Hartford MSA, is made up of 29 towns: it is ranked 47th in the country in population. In 2015, it had a population of 1,211,324, just below the New Orleans-Metairie MSA at 1,262,888, and just above the Salt Lake City MSA at 1,170,266. The Bridgeport-Stamford-Norwalk MSA ranks 57th, with a population just under a million; the New Haven-Milford MSA ranks 65th with a population 859,470; the Norwich-New London MSA ranks 175th with a population of 271,863. If one transposed these places: if Simsbury were in Louisiana, it would be a neighborhood of New Orleans; if it were in Utah, it would be a neighborhood of Salt Lake City. That seems to mean a double fiscal whammy bedevils the state’s municipalities: 1) the terrible disparities or inequities so devastatingly painted by Connecticut Supreme Court Justice Moukawsher in his school decision, but 2) the inefficiency of the arrangement. Or, as Toni Gold, a transportation and community development consultant and a member of the board of the Connecticut Main Street Center, last Saturday wrote: “Regionalism is the dirtiest word in the Connecticut political vocabulary because real regionalism would require small towns and affluent suburbs alike to stop pretending that they have no connection to or responsibility for the center cities on which they depend. This snipping of a state into a lot of minuscule towns is not what the rest of the country does — and for good reason. It is financially irrational…If all legislative remedies fail in the wake of the CCJEF decision, one must ask whether there isn’t a broader legal remedy. All the school funding cases have been brought under the state constitution. Why couldn’t there be a federal case, brought on the broader issue under the 14th Amendment to the federal Constitution, which says in part, “nor shall any State deprive any person of life, liberty, or property, without due process of law; nor deny to any person within its jurisdiction the equal protection of the laws?”

Schooling on Detroit’s Future. The State of Michigan, as we have noted, in the wake of the insolvency of the Detroit Public School System, has created a dual system of public and charter schools, with the former now under the auspices of retired U.S. Bankruptcy Judge Steven Rhodes. Vikram David Amar, last Friday, writing in Justia, “In a Case with Blockbuster Potential, Detroit School Children Assert a Federal Constitutional Right to Literacy,” wrote about a class action lawsuit, Gary B. v. Snyder, pending in the U.S. District Court for Eastern Michigan, which has been filed on behalf of children who attend some of the most dilapidated and lowest-performing Detroit public schools, in which the plaintiffs allege Gov. Rick Snyder and other state officials are violating the constitutional rights of Detroit children by depriving students of their “fundamental right” to literacy under the Fourteenth Amendment’s due process and equal protection clauses. The 129-page complaint “recites in heart-wrenching detail the physical, curricular, and human resource shortcomings of the schools attended by the plaintiffs;” it also documents what he describes as the “woeful underperformance of the students at these schools, as compared to other schools in the state and also to the state’s competency baselines established for various grade levels. It is hard to believe the conditions laid out in the Complaint exist in 21st Century America; at times the allegations seem more like the setting of a Dickens novel.” He notes that the complaint also proposes what he deems an “an ambitious legal theory, effectively asking the federal court to apply ‘heightened scrutiny’ to what is going on in Detroit, and urging it not to apply the deference ordinarily given to state and local school officials [author’s emphasis]concerning their administration of public education.” The complaint identifies two related, but distinct grounds for judicial skepticism—the first being equal protection (describing the plaintiffs as a “discrete class,” almost all of whom are “low income children of color.”), but the second asserts that “heightened judicial oversight is warranted, because in the Fourteenth Amendment’s due process clause there is a ‘fundamental right of access to literacy,’ which presupposes better facilities, better instructional materials, and better teacher training than exist in Detroit. It asserts a federal “fundamental right” to literacy under the so-called “substantive due process doctrine” of the Fourteenth Amendment, the lawsuit is path-breaking, and perhaps ultimately destined for the Supreme Court. The complaint here asserts that many “Detroit public school children lack any realistic chance at literacy; the Complaint links its concept of literacy directly to expressive and political rights (including military service), saying that literacy is essential not only to success in the workplace and higher education, but also (importantly) to ‘be[ing] an informed citizen capable of participating in democracy.’” He notes that the complaint repeatedly points out, “the State of Michigan (like other states) has made attendance in some kind of state-approved school compulsory, so the State is already interfering with private choices in this realm, and in ways that allegedly make it nigh impossible for Detroit children to attain literacy.” Finally, he writes:

But the affirmative/negative rights line does implicitly bring up probably the biggest hurdle for the plaintiffs—the practical and logistical concerns about appropriate remedies that might disincline federal courts to become deeply involved in decisions about school facilities, curricula, teacher training, and the like. Most of the other settings in which the Court has recognized a fundamental right do not involve the remedial complexity the Snyder case implicates. And as the Court cautioned in Rodriguez, at a time when the federal judiciary was in the midst of a mixed experience of federal judicial oversight over busing, pupil reassignment, and other aspects of the federal judicial effort to eliminate the vestiges of racial school segregation:

He writes: “We stand on familiar ground when we continue to acknowledge that the Justices of this Court lack both the expertise and the familiarity with local problems so necessary to the making of wise decisions with respect to the raising and disposition of public revenues. . . . In addition to matters of fiscal policy, this case also involves the most persistent and difficult questions of educational policy, another area in which this Court’s lack of specialized knowledge and experience counsels against premature interference with the informed judgments made at the state and local levels. Education, perhaps even more than welfare assistance, presents a myriad of ‘intractable economic, social, and even philosophical problems.’ The very complexity of the problems of financing and managing a . . . public school system suggests that ‘there will be more than one constitutionally permissible method of solving them,’ and that, within the limits of rationality, ‘the legislature’s efforts to tackle the problems’ should be entitled to respect.”

Electing a Higher Future for Post-Chapter 9 San Bernardino? With an exit from chapter 9 bankruptcy finally within sight—and elections just around the corner, the San Bernardino City Council has voted to schedule not one, but at least two sets of debates at City Hall, after the Council overruled City Manager Mark Scott’s decision not to permit such debates. Mr. Scott had emailed those seeking or proposing such pre-election debates, debates customary in previous election years, that none would be permitted this election year,  out of a concern about a conflict of interest since the city had placed two measures on the ballot—albeit, in his email, Mr. Scott had written the City Council could vote to reverse him if it wished—an email which, unsurprisingly, drew a response from Council Members, some of whom attacked him for seeking to shut down free speech, while others defended him as implementing the implied direction of a Council that has directed staff not to spend any funds to educate the public about the city charter ballot measure. However, the Council has been unanimous in the vote to allow pre-election debates at City Hall and on the public access channel, waiving fees for both—or, as Councilman John Valdivia put it: “The actual statement from Mr. Scott is that there is a council discretion to overturn his decision, so I think he left it completely wide open for the Council to make the ultimate decision…This is unacceptable on behalf of what Mr. Scott is attempting to do.” Surprisingly, Mr. Scott was not at the meeting; however, he wrote in an email that it seemed “smart to stay completely arms-length” because the city was behind both Measure L (to replace the city charter), and Measure P, to replace the city’s marijuana ban with a regulatory scheme. City Attorney Gary Saenz noted: “It’s necessary to take precaution and care that you don’t cross over the line into endorsement and you stick within the parameters of education…Sometimes that’s hard to do. I personally encountered a forum – or a couple of forums, actually – when I was campaigning and there was a conflict of interest that I believe tainted the discussions.”

Entering Virgin Territory.  Just 17 miles from Puerto Rico lies the insular area, the U.S. Virgin Islands, which consist of the main islands of Saint Croix (where the author trained for his Peace Corps service in Liberia, West Africa) Saint John, and Saint Thomas, as well as many other surrounding minor islands reaching a total land area of 133.73 square miles with a population just over 106,000. Tourism is the primary economic activity, although there is a significant rum manufacturing sector. Previously part of the Kingdom of Denmark-Norway, they were sold to the United States in 1917: they are considered an organized, unincorporated U.S. Territory. The Territory has convened five constitutional conventions; however, its most recent and only proposed Constitution, adopted in 2009, was rejected by Congress in 2010. Thus, its status vis-à-vis the U.S. government, as it confronts severe fiscal challenges, is more difficult than Puerto Rico’s. Now U.S. Virgin Islands Gov. Kenneth Mapp has introduced legislation to authorize issuance of some $396 million in municipal bonds, with the goal of issuance this this fall—with the proposal for the fiscally challenged U.S. territory coming as his government is seeking approval of revenue increases and spending reductions. A confidential draft of the territory’s five-year financial plan of September 15th shows that, absent any changes in revenue measures or spending, the government anticipates operating deficits between $130 million and $140 million from FY2017—FY 2021, thus triggering the government to propose a wide array of revenue and spending initiatives—an array which the government projects would lead to operating deficits of $0.8 million in FY2017, $14.3 million in FY2018, and $13.8 million in FY2019—but followed by surpluses of $50 million in fiscal 2020 and $77.5 million in fiscal 2021. Gov. Mapp has, ergo, proposed revenue initiatives to increase the marine terminal user’s tax (adding $7 million in annual revenue), a new internet gross receipts tax ($5.1 million annually), an increase in cigarette taxes ($6.9 million a year), and an increase in beer taxes ($12.8 million annually)—both to reduce the current and projected deficits, but also to apply to economic development. The cuts he has proposed would affect hat it would produce at least $25 million annually. In the five year plan, Gov. Mapp proposes to take out a $55 million working capital loan and a $55 million draw on a line of credit; he projects using nearly 40 percent of the bond proceeds for operating expenses, and the balance for capital projects. Under his proposal, the interest rate on the bonds may not exceed 9.5%, nor a term of more than 30 years, with the draft legislation providing that the municipal bond issuance will be sold as either: a matching fund revenue bond, paid back with a portion of taxes on the sale of rum in the 50 states that the federal government sends to the Virgin Islands; or a gross receipts taxes bond, paid back from a government sales tax. Compared to Puerto Rico, the Virgin Islands have significantly higher unemployment and murder rates, but a significantly better rate with regard to infant mortality.

Can Municipal Insolvency Affect Neighboring Municipalities?

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eBlog, 9/23/16

In this morning’s eBlog, we consider the chances of getting high in San Bernardino—the city in municipal bankruptcy longer than any other in U.S. history—but now on the verge not only of elections, but also ballot questions, including the legalization of marijuana—something which could, presumably not only make citizens high, but mayhap municipal revenues higher. Then we veer East to Michigan, where the complex issues imposed by the legislature on the virtually insolvent Detroit Public Schools, via the creation of a state-imposed charter and public school system has created threatening credit problems—as well as governance problems for the Detroit Public Schools. Finally, we head further East to the small Virginia municipality of Petersburg, famous as a site during the Civil War where, in nine months of trench war in which vastly outnumbered confederate forces warded off Gen. Ulysses S. Grant, the city was the essential supply line to Confederate Commander Robert E. Lee. Today, the historic city faces a fiscal rather than armed challenge—it is virtually insolvent—and, as we note—because now, as then, the small city is connected to other cities in the state, its insolvency could have ever widening fiscal ramifications–or fiscal contagion– for other municipalities…We wonder what the tipping point into insolvency might be–or when the Commonwealth of Virginia might feel compelled to act.  

Electing a Higher Future for Post-Chapter 9 San Bernardino? San Bernardino City Manager Mark Scott has informed the City Council he will not allow any of the traditional election forums or local election broadcasts unless a majority of the council members vote to undo his decision—even as Councilman Henry Nickel responded he considered that to be a decision which ought to be determined by the city’s elected leaders, calling it a “suppression of the First Amendment rights of the public to hear items that are relevant to our government: It is not up to the unilateral decision of the city manager to deviate substantially from prior practice and policy until and unless it has been presented by the City Council, which has the policy-making power both under the current charter and the (proposed) new city charter.” In his email to his colleagues on the Council, he emphasized, however, that even though the Council could reinstate election events and broadcasts, there might be a conflict of interest: “Just so you know, UNLESS directed otherwise by Council action, we have told those who have asked that we will NOT allow use of the Council Chamber for any election events or taping between now and the November election, nor will we be doing any local election broadcasts on Channel 3,” acknowledging that even though this “has been done in the past,” it just seemed “smart to stay completely arms’ length” this election year. The discussion came as city officials worked on and endorsed a measure that would replace San Bernardino’s city charter and another that would allow marijuana in the city—with the first measure, Measure L, to allow voters to replace the existing city charter with a new one created by a charter review committee—which, by a 6-1 vote, Council adopted. The manager’s announcement would also—unless reversed—mean there would be no public discussion about getting high on the three pending marijuana legalization measures—where all three have been authored by advocates of legalization and none representing the view that dispensaries should remain illegal—in part because only one counter-argument is printed against each measure for the November ballot, and — by random chance — City Clerk Gigi Hanna had selected arguments against each measure that had been filed by proponents of competing measures. (If more than one measure receives more than 50 percent of the vote, whichever measure gets the most “yes” votes will become law…) The city has had a medical marijuana ban on its books since 2007, but enforcement was ineffective, with dispensaries dotting the city in open defiance. City officials had attempted on several occasions to replace the ban with what they hoped would be a more effective regulatory framework; however, they were preempted last July when the City Council determined resident Vincent Guzman had secured sufficient signatures that legally his measure had to be put November’s ballot—Measure O—with Mr. Guzman having written: “Measure O is the only one to generate significant tax revenue for San Bernardino: It funds both enforcement and general city services. It reduces the number of dispensaries and eliminates them near our schools and homes.” In his advocacy, Mr. Guzman cited a study by economist Beau Whitney estimating that Measure O [“The San Bernardino Regulate Marijuana Act of 2016”] would allow an outside special interest group to establish a marijuana monopoly in the city,” the argument against contends: “Measure O circumvents local control and does not comply with our local general plan and land use policies.” Nevertheless, proponents claim the measure, if adopted, would generate between $19.5 million and $24.8 million in revenue for San Bernardino in addition to 2,750 jobs. Opening the doors to getting municipally high stimulated a second group to secure sufficient signatures to place its own, alternative regulation plan on the ballot—all of which led the City Council to draft its own version, which would require separate licenses for marijuana cultivation, marketing, testing, distribution, and dispensaries; application fees and enforcement fees would be set yearly to match the cost of providing the service. Under the city’s version, dispensaries could only be within industrial zones, and could not be within 600 feet of a school, park, library or recreation center, nor within 100 feet of a residential zone or religious center; and no two dispensaries could be within 1,000 feet of each other, amounting to a significant limitation on the number of dispensaries, according to Graham, the primary author of the initiative. The city’s proposal is on the ballot as Measure P, and it’s supported by the same group that opposed Measure O: “Measure P is the only medical marijuana ordinance supported and put on the ballot by our local elected officials,” the group’s ballot statement reads:  “Measure P was drafted by the city attorney’s office – and not by marijuana industry special interest groups.” The argument says Measure P is the only one that would retain local control, “including a potential ban.” In the alphabetic voting guide for readers, the other citizen-submitted ballot item, Measure N, an anti-marijuana measure supported by several City Council members, who claim that even though the harmful effects of marijuana are well-documented, the proponents continue to advocate for its legalization: “The legalization experiment in Colorado and Washington is a disaster. The ‘Regulate and Control’ policy attempt has failed, yielding huge increases in underage and adult use, and drugged driving.” That opposition is signed by Mayor Davis and City Council Members Jim Mulvihill, Fred Shorett, and Virginia Marquez.

Under the math, if voters provide more than 50 percent on the city’s drafted measure and more “yes” votes than either of the citizen-submitted initiatives, the municipally-written measure would become law. Moreover, unlike those initiatives, it could be modified as state law regarding marijuana changes, which led the City Council to put the medical marijuana regulation on the ballot in a 5-2 vote—albeit reluctantly, in some cases. The most vocal advocate of the ban has been Mayor Carey Davis, who gave extensive evidence that marijuana legalization has been harmful in Colorado and suggested it would stretch thin an already understaffed police department. But the city had no legal alternative to putting the two citizen initiatives on the ballot — other than immediately adopting the framework they suggest, and Deputy City Attorney Steven Graham said that was not an option, either, for the measure that imposed a tax on marijuana. (California law forbids cities from passing a tax without a vote of the public. It is unclear legally whether a voter-originated tax can pass in an election at which Council Members are not up for a vote, which is the case in November according to Counselor Graham.) The City-drafted measure would require:

  • separate licenses for marijuana cultivation, marketing, testing, distribution, and dispensaries;
  • application fees and enforcement fees would be set yearly to match the cost of providing the service;
  • Dispensaries could only be within industrial zones, and could not be within 600 feet of a school, park, library or recreation center, nor within 100 feet of a residential zone or religious center;
  • And no two dispensaries could be within 1,000 feet of each other, amounting to a significant limitation on the number of dispensaries, said Graham, the primary author of the initiative.

Protecting Tomorrow’s Leaders? The Michigan Finance Authority has approved a plan to issue $235 million of debt to refund some Detroit Public Schools (DPS) municipal bonds before they lose their state aid backing at the end of this month, approving an authorizing resolution for the issuance to be backed solely by an existing 18-mill non-homestead levy—with the fabulous Matt Fabian of Municipal Market Analytics warning the “investor will be at risk if the levy produced by the 18 mills continues to decline or is disrupted by, for example, assessment appeals in the future. Some kind of state backstop or protection would be needed to make this investment grade.” The Michigan Finance Authority has not, however, provided any indication with regard to whether it intends to backstop the bond refunding, albeit the Authority has stated the outstanding bonds will be refunded and defeased at par “plus any applicable redemption premium and accrued interest,” suggesting that those bondholders will be made whole—albeit with the uncertainty remaining that should the state-aid pledge evaporate or shift, there would be likely adverse credit quality implications, because of the shift to entire reliance on a property tax pledge. The outstanding bonds lost their investment grade status amid uncertainty about the state planned to restructure the debt after the state-ordered restructuring of Detroit Public Schools took effect July 1. The state assistance is set to shift to the state-mandated newly formed public school district that operates schools while the former district remains intact only to collect taxes and repay bonds. Under the provisions, the operating levy of roughly $50 million to $60 million per year will go to pay off debt service on the refunding bonds, which will retire 2011 and 2012 DPS state aid bonds with a final maturity of 2023. The state Finance Authority intends to issue the refunding bonds on or before the end of this month—the date when the current, outstanding bonds lose their state aid backing because, without students, the old district will no longer be able to collect state aid. The pending switch could cause fiscal shivers: the existing municipal bonds had initially carried S&P A ratings because of the state aid pledge; they also carried a limited tax general obligation pledge—albeit DPS’s underlying GO credit ratings are junk level—or, in school parlance, D-, with S&P last week having demoted the credit rating from B to BB-minus, warning that with the October deadline looming closer and ushering in the new fiscal year, there is increasing doubt with regard to whether bondholders would receive full and timely payment on their bonds—with the new drop the third such comparable action over the last three months—moodily moving in some syncopation with Moody’s, which recently revised the outlook on DPS’ Caa1 issuer rating to “developing” from “negative.”

What External Event Can Force a Municipality into Chapter 9 Bankruptcy? The City of Petersburg, the small, independent city in Virginia, a municipality on the steep edge of insolvency, and in which there seems little indication the Virginia legislature is poised to step in, a new shoe has dropped that would seem likely to precipitate a defining event: the South Central Wastewater Authority has filed a $1.2 million lawsuit over unpaid sewer bills, noting the has failed to pay for any wastewater services since May: “The City of Petersburg charges its residents for wastewater service. Under the service agreement between South Central and the city, these fees should be used to pay the costs of that service, including the costs of having the wastewater treated by South Central.” The suit seeks the appointment of a receiver to make sure the more than $1 million the authority says it is owed is not spent by the city on other things. According to the suit, filed in Petersburg Circuit Court, the authority is not only seeking to recover past-due amounts, but also requesting that the court appoint a receiver to supervise Petersburg’s billing and collection of wastewater fees from its residents, writing: “South Central seeks this appointment to ensure that the money is used for its intended purposes and that residents continue to receive the wastewater service they pay for…South Central is particularly dependent upon the regular and timely payment by the city of Petersburg, whose share of these costs account for more than half of South Central’s budget for operations and maintenance.” In addition to seeking payment of about $1.5 million in overdue service charges and penalties, South Central said it was filing the lawsuit “to request the court to appoint a receiver to supervise Petersburg’s billing and collection of wastewater fees from its residents. South Central seeks this appointment to ensure that the money is used for its intended purposes and that residents continue to receive the wastewater service they pay for,” adding that while the utility “appreciates the difficult financial circumstances the city of Petersburg is experiencing. Nevertheless, efforts to resolve the arrearages have been unsuccessful and — if left unaddressed — threaten the continued operation of South Central and the finances of the other member localities and their residents.” That is, there is a fiscal interdependence, and insolvency by Petersburg could have consequences for other Virginia public authorities, including the other four Virginia municipalities served by South Central. For its part, the city had billed residents for the service, but has not been remitting the fees to the CVWMA — a situation similar to what prompted South Central’s lawsuit. In response, interim Petersburg City Attorney Mark Flynn unsurprisingly noted the city “is disappointed that the authority has chosen to file a lawsuit,” adding that the “city is and has been working with the authority to resolve the amounts it owes: The lawsuit does not help the city and the authority in achieving resolution for the city’s obligations. As the authority and citizens know, the City Council and management have been working to resolve the city’s financial difficulties.” Moreover, for the municipality, in which a recent state audit of its finances determined the city is facing a $12 million budget gap in the current fiscal year while dealing with nearly $19 million in unpaid bills, including those to South Central, the suit threatens to unravel efforts by city officials to close the budget gap and repay unpaid obligations—efforts including its approval earlier this month of a series of austerity measures aimed at freeing up much-needed cash flow, including tax increases, pay cuts of city staff members, and the closing of the city’s three museums.

When it Rains, it Pours. The suit could hardly have come at a more inopportune time—as Rochelle Small-Toney, a deputy city manager in Fayetteville, North Carolina, has just removed herself out of the competition to be the city’s next city manager, according to Petersburg Mayor W. Howard Myers III—she had been in the city last week as City Council convened to hire a city manager in the midst of an ongoing financial crisis; however, Council Members were unable to agree on a hire and adjourned the meeting without taking action after local media reported that Ms. Small-Toney had resigned in the midst of a financial controversy from a previous position as city manager of Savannah, Georgia; ergo, the Council had voted unanimously to hire an executive search firm to conduct a national search for a new city manager—albeit with what funds unclear. Indeed, when asked by Ward 4 Councilman Brian Moore what funding source could be tapped to pay for the search, he was advised to talk with the city’s Finance Department and negotiate the best possible financial arrangement: Petersburg has been operating without a permanent city manager since early last March, when William E. Johnson III was fired amid the municipality’s emerging fiscal crisis and a furor over the mishandling of a plan to replace water meters throughout the city. Former City Attorney Brian Telfair resigned at the same time for health reasons. Dironna Moore Belton, who was the general manager of Petersburg Area Transit at the time, was named shortly afterward as interim city manager. At the same time, Mark Flynn of the Richmond law firm of Woodley & Flynn was contracted to act as interim city attorney. Ms. Belton is one of the applicants for the permanent city manager position; however, it is unclear whether she and the other candidates will have to re-apply if a search firm is hired.

What Is the Role of A State When a Municipality Nears Insolvency?

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eBlog, 9/21/16

In this morning’s eBlog, we consider the difficult challenge for a state when one of its municipalities is on the brink of insolvency—and where its authority to file for chapter 9 municipal bankruptcy is uncertain—and the kinds of hard questions about its future. As we are noting, part of fiscal federalism involves signal differences in laws and authorities—on a state-by-state basis, with regard to options for municipalities on the brim of insolvency. Because only 18 states specifically provide authority to municipalities, that leaves a signal void in the remaining states and leaves those states in more awkward positions when a municipality within its borders likely will not be able, on its own, to avoid insolvency. Mayhap appropriately, we then delve further south to Jefferson County, Alabama, where the state’s actions were the critical lever to pushing the county into municipal bankruptcy—and where the County’s appeal efforts have been stymied for years.  

What Is a State to Do? The Richmond Free Press this morning ran an editorial about the foundering and near insolvency of the City of Petersburg, the small, independent city in Virginia, where the median income for a household in the city is under $29,000, and where the City Council this month adopted most of a package of tax increases and budget cuts, but rejected a proposal to close one of the city’s four fire stations—and where, it seems clear, the Commonwealth of Virginia is most unlikely to offer any fiscal relief. At heart, we noted, the Council was really holding a hearing about whether the small municipality has a future. Thus, this a.m., the editorial noted: “We remember the chilling headline in a New York newspaper when the Big Apple was facing bankruptcy…It was 1975, and President Gerald Ford declared he would veto any legislation calling for a federal bailout of New York City. The headline in the New York Daily News — ‘FORD TO CITY: DROP DEAD.’” Then the editorial noted that when Virginia Governor Terry McAuliffe was asked by a reporter earlier this month if there were plans to propose legislation to help financially stricken Petersburg, “the governor’s reply was a tad bit better than President Ford’s to New York City, but it may have had the same result: ‘I’m sure we’re not going to see legislation proposed to deal with this situation…We have no authority to give any money. But we do have the authority to send our team in to help get the books together, get the finances together…Our team has been here, they’ve been staying here, and we want to give all the assistance we can.’” However, as the editorial notes: “Clearly, the city needs technical experts in a lot of fields, including the state’s audit team. But it needs a lot more than that.”

The editorial adds that the state audit team learned, and disclosed in a public meeting, that Petersburg’s fiscal abyss was deeper hole than originally thought: it had about $14 million in unpaid bills as of June 30th: the auditors determined the municipality had been spending far more than it was bringing in nearly every year since 2012; the state team determined the city was planning to sink even deeper into red ink in its FY’2017 budget: that approved budget calls for the city to spend $12.5 million more than it expects to receive in revenue. The state team provided recommendations, such as pursue short-term financing to help meet immediate needs, but, as the editorial notes, “But so far, that has not worked, because the city is in such bad fiscal condition.” The editorial notes that state lawmakers, including House Majority Leader Kirk Cox (R-Colonial Heights), said a bailout for Petersburg was highly unlikely, in part, because it would set a bad precedent.

Caught between a Rock & a Hard Place: Virginia does not specifically authorize its municipal entities to file a petition for chapter 9 municipal bankruptcy—and only one entity, has ever attempted to file—an economic development authority, but its case was dismissed in 2001. The Virginia Constitution bars a city or town from incurring debt exceeding 10 percent of the assessed value of properties within its boundaries (see Virginia Constitution, article VII, §10); ergo, the editorial asks: “So what’s Petersburg to do?” Noting that the small municipality has slashed spending, including a $3.4 million cut to the city’s public schools budget, cut pay for its employees, frozen hiring, and raised taxes on everything from cigarettes, meals and lodging taxes to personal property taxes to bring the current budget into balance—but left untouched most of the $14 million in debt from previous years.”

It seems like a hot potato for Virginia lawmakers who appear to be apprehensive that the small municipality’s fiscal crisis could create a precedent for other cities, towns, or counties to seek bailouts from the state, or, as Del. R. Steven Landes (R-Augusta), Chairman of a newly formed task force studying the impact of fiscally stressed localities on the state and how to deal with such situations, put it: “I just hope we are not heading down this road where we are digging the state into a hole.” The Delegate’s question came in the wake of this week’s report to the legislature by Virginia’s Secretary of Finance Richard D. Brown on the city’s struggle to regain its financial footing, before members of the House of Delegates Appropriations Committee—even as Delegate Landes said that as far as he understood, Petersburg has not asked the state for financial help during its crisis. The audit findings presented by Sec. Brown had identified a projected $12 million budget deficit for the current fiscal year and found that by last June 30th, Petersburg had incurred $18.8 million in bills, of which $14.7 million were mostly unpaid obligations to “external entities” such as contractors, vendors, and a state agency. Secretary Brown alerted the committee to a looming October 1st payment deadline for $1.4 million owed to the Virginia Resources Authority, a premier funding source for local government infrastructure financing through bond and loan programs, reporting this was “a principal-and-interest payment,” adding that he would have to “take certain steps to intercept aid” from the state to Petersburg to make sure those payments are made, adding: “The state has never had to do that with our localities, so I think that this is a precedent that nobody really wants. That is why it is important for us to not even have to go there,” he testified, assuring the Committee members his department has provided “only technical assistance” to the city.

Unsurprisingly, some of the state lawmakers disbelieve the state’s aid has stopped there. Delegate Landes followed up: “You mentioned that we are not providing any direct financial assistance, but indirectly we are: Your time, your staff’s time and all these state agencies that are helping them move forward, it cost the Commonwealth money. Other localities have gotten into difficulties, and I don’t recall that we provided this kind of involvement…We are trying to help Petersburg on the school end, providing additional resources for their school system, and if they can’t pay their bills, how are they going to pay their superintendent?” Committee Chairman S. Chris Jones (R-Suffolk), said that although he agreed with Secretary Brown’s decision to intervene, he was concerned about Petersburg’s outstanding obligations to the Virginia Resources Authority: “We got to figure out what change we need to make from a state’s perspective; we need to protect ourselves…VRA debt can be an issue that can affect our bottom line. We cannot allow that to occur. It’s very distressing when you see what has occurred, and hopefully (the city) will continue to try to — in a very straightforward way — to deal with the issues.” To which, Secretary Brown responded that “[W]e wrestle with it, too,” but ultimately the state is tied to the city in terms of some of the debt obligations: “We can run, but we can’t hide from that. From my standpoint, it is better to be involved and help them over that hump…I have no intention to stay there long-term, but the consequences for the Commonwealth by not being involved, at this stage in the game with this critical Oct. 1 time frame on debt, is probably much worse than being involved.”

What is a County to do? The federal appeals court overseeing Jefferson County’s chapter 9 municipal bankruptcy appeal has, once again, delayed the case, with the previously scheduled December 12th arguments deferred by the 11th U.S. Court of Appeals to an uncertain future date—still another in a long, and increasingly costly, series of delays—of which there have been six so far this year. Jefferson County Commission President Jimmie Stephens noted: “It is very unusual to have this many delays, and I have expressed my frustration to counsel…Our team is ready and eager to have our day in court. We stand at their mercy.” Commission President Stephens has not addressed questions with regard to what these judicial delays are costing the county. Jefferson County exited Chapter 9 bankruptcy in December 2013, after selling $1.8 billion in sewer warrants to write down $1.4 billion of the sewer system’s debt. The plan of adjustment gives bondholders the right to go back to the bankruptcy court if the county fails to enact sewer system rate increases that service the debt. After the plan was implemented, a group of local ratepayers filed an appeal before U.S. District Judge Sharon Blackburn in the Northern District of Alabama. County attorneys argued that the appeal should be struck down, saying that it became moot when the plan of adjustment was implemented with the sale of new debt. In October 2014, Judge Blackburn rejected the county’s mootness contention, and ruled that she could consider the constitutionality of the plan—a decision Jefferson County appealed, and on which it now seems waiting for Godot.  

 

The State-Local Governing Challenge When Children Are at Risk

eBlog, 9/19/16

In this morning’s eBlog, we consider the state actions in Michigan to preempt the authority of the City of Flint to seek judicial redress over the state’s actions with regard to the drinking water crisis so toxic to its youngest and most vulnerable children. Those actions appear to have increased pressure to address the state’s so-called Emergency manager law—a unique state law that allows the Governor to, in effect, suspend democracy in the state’s local governments and public school districts—an action that was critical to Detroit’s exit from the largest municipal bankruptcy in U.S. history, but which has had devastating impacts on the youngest and most innocent children of the City of Flint. Then we look south to Detroit, where, even though the school year is underway, the fiscal math for the old Detroit Public Schools is in the D-minus range. What does that augur for the city’s fiscal future? Finally, we look at the most awkward governance challenges created by East Cleveland’s proposal to merge with the City of Cleveland—especially given the profound silence and absence of the State of Ohio in any of these discussions—much less in response to East Cleveland’s long-standing request for authority to file for chapter 9 municipal bankruptcy.

Preempting a City Governance & Ability to Protect the Health & Safety of its Residents. Days after Flint Mayor Karen Weaver served notice that her devastated city might file a lawsuit against the State of Michigan over the state-precipitated Flint drinking water crisis, the state responded by preempting her municipality’s authority to sue under its residual authority via a 4-0 vote of the five-member Receivership Transition Advisory Board, whose members are appointed by Gov. Rick Snyder—with the Board in this instance moving precipitously to amend its rules to prevent the city from filing suit absent permission from the very same state-appointed  board. (The lead contamination occurred when Flint, a city of nearly 100,000, which was under state emergency management, switched in 2014 from the metropolitan Detroit utility system to a temporary water source, the Flint River. State environmental regulators mistakenly said not to add a chemical to prevent lead from leaching out of old pipes, and state-appointed emergency managers came under scrutiny for blocking a switch back for financial reasons. Indeed, the Michigan emergency management law was blamed as a factor in the Flint disaster by Michigan Governor Rick Snyder’s own task force.) Thus, even though the board’s name would seem to suggest it has an “advisory” rather than preemptive role, the panel is authorized under state law to provide the Michigan Treasury Department powers under the emergency manager law to rein in Flint in the event the Mayor and City Council began spending beyond the city’s means. It does not appear that the intent of the law, as adopted, was to broadly preempt the elected leaders of Flint from making decisions with regard to the health and safety of the city’s youngest children.

Nevertheless, Gov. Rick Snyder’s administration quietly acted to ensure the state could not be sued by Flint over the city’s lead-contaminated water crisis by requiring that ligation be approved by an oversight board stacked with gubernatorial appointees. The Flint Receivership Transition Advisory Board passed a resolution last March 31st preempting Flint’s authority to initiate litigation without first getting approval from the board. The Board, rather than truly being advisory, was imposed by the state to have veto power on budgets after the city’s last emergency manager, imposed by Governor Rick Snyder, departed in April of last year. Unsurprisingly the panel’s members are all appointees of Gov. Snyder. Thus, the state appointed board acted swiftly to preempt the city’s authority some seven days after the City of Flint filed a notice in the Michigan Court of Claims preserving its right to sue the state over the city’s water becoming contaminated with toxic lead. Indeed. On the 31st, at the Flint Receivership Transition Advisory Board, Chairman Frederick Headen, a Michigan Treasury Department official, portrayed the resolution as being needed to give City Council more oversight of lawsuit settlements, according to a transcript of the meeting—making only a passing mention with regard to the provision mandating the Board’s approval in order for Flint to be able to file lawsuits, stating: “The purpose of the proposed RTAB resolution this afternoon is to restore, basically, the role which the City Council would otherwise have had, meaning that such litigation could not be settled without first being approved by City Council,” Mr. Headen said, according to the transcript, as he emphasized the new checks and balances being put in place for setting litigation. Indeed, according to Mr. Headen, the RTAB resolution eliminating the city administrator’s “complete decision-making authority” helped restore mayoral authority and powers, not restrict them: “We had started on a path of restoring powers to the locally elected the government,” Mr. Headen said yesterday: “We had given the Mayor back a lot of her authority to hire and fire employees. This was revising that (Ambrose) order to bring city council, the mayor in — and the board.”

Unsurprisingly, however, the state board members did not discuss the resolution’s broader preemption of municipal authority to protect the health and safety of the city’s families, much less the state imposition of control with regard to the rights of the municipality to seek any legal redress through the state’s judicial branch of government. Chair Headen, mayhap with his fingers crossed behind his back, added: “And, of course, the most important feature would, again, be the restoration of the City Council’s role in this process.” (Jerry Ambrose, Flint’s last state-appointed emergency manager, left a tightly-written city ordinance in place in April 2015 which granted his deputy, Natasha Henderson, considerable control over city finances and management, even though Flint City Hall was no longer technically being run by the state.)

Flint Mayor Karen Weaver’s filing with the Michigan Court of Claims cited “grossly negligent oversight” by the Michigan Department of Environmental Quality, whose decisions not to require corrosion control chemicals led to lead leaching into the drinking water and “irreversible” damage to municipal infrastructure—and, of course, an especially toxic threat to the city’s youngest children. For her part, Mayor Weaver this week graciously acknowledged how disappointed she was to learn of “the timing” of the state preemption—and its implications for local authority and governance, adding she hoped that barring the city from suing without state approval was a signal of the state’s commitment “to ensure the City of Flint is indemnified for any and all debts and obligations imposed upon the city while under state control.” Of course, in the wake of the state’s former Director with the Michigan Department of Health and Human Services plea of no contest this week to a misdemeanor charge in the Flint water crisis, it might be difficult to trust the state’s commitment. The municipality’s chief legal officer, Stacy Erwin Oakes, made clear Flint “cannot know” what motivated the state preemption, adding, however: “the timing of the amendment speaks for itself…Previously, the city administrator had discretionary authority regarding litigation, now the city, including but not limited to the chief legal officer, can’t  initiate litigation and assert its rights in court without state approval, through the (advisory board)…Whether the…resolution stripping the city’s authority would survive a direct legal challenge is a question for another day. In the meantime, the city continues to be significantly under state control, even after the departure of the Emergency Manager, and while accumulating significant obligations as a result of decisions made by, and/or at the direction of emergency managers.”

The state emergency manager—created Flint drinking water crisis has been costly to the state: to its reputation, to its governance vis-à-vis the enormous fiscal disparities amongst its municipalities, and now to its fisc: Michigan has allocated $234 million toward the public health emergency that exposed children to lead and has been linked to a deadly Legionnaires’ disease outbreak. Notwithstanding, Michigan has been slow, from a governance perspective, to act constructively, and now, it seems likely that no major action in the legislature will occur until next year to address the existing state law which essentially allows for the state appointment of virtual dictators to displace elected local officials—and policies essential to public health and safety. In the meantime, in the four months since a bicameral, Republican-led legislative committee concluded hearings about the Flint drinking water crisis, the Michigan legislature has yet to issue a report or to make policy recommendations; half a year has elapsed since a bipartisan task force named by Gov. Snyder made recommendations. Gov. Snyder has apologized for his administration’s mistakes which both caused and exacerbated the disaster; he claims he is addressing many of the items administratively, while others will require legislative approval. He has tasked a separate group to focus on response and recovery efforts, a group which includes Mayor Weaver and outsiders who uncovered the lead contamination last September—a group which forwarded its recommendations to Gov. Snyder three weeks ago. And his administration has proposed the nation’s toughest lead-testing rules, the replacement of all underground lead service pipes in the state, and the mandatory disclosure of lead plumbing in home sales and rental contracts.

All of which would seem at odds with his administration’s efforts to preempt such essential municipal rights. Unsurprisingly, Democrats in the state legislature this week intend to introduce legislation to create an ombudsman to hear the concerns of residents living in communities under emergency management. Another bill would lower the “action level” for lead in drinking water from 15 parts per billion — the federal standard — to 10 in 2021 and 5 in 2027. Other legislation expected would propose phasing out emergency managers while leaving intact other options for debt-impacted local governments and school districts.

School Days. As Chuck Berry sang: “Up in the mornin’ and out to school; the teacher is teachin’ the Golden Rule: American history and practical math…” but with October 1 fast approaching, a signal transition begins: that is the day the old Detroit Public Schools—which owns the school system’s legacy debt—will lose access to state aid pledged to support DPS’ 2011 and 2012 municipal bonds; however, with little information on the blackboard, or indeed anywhere, from Michigan, S&P got out its red pencil and downgraded yet once gain DPS’ debt deeper into junk status to B. For the system’s struggling algebra students, this increases the risk of payment interruption, especially due to the lack, according to the rating agency, of communicated progress on the state-desired refinancing of the state aid debt. S&P notes there is either a lack of urgency to address investor concerns (unsurprising) or challenges in crafting a take-out financing for the debt (even more unsurprising, noting the Michigan Legislature’s post-Detroit-bankruptcy fatigue with “bailing out” the city and related entities). Nevertheless, our respected colleague at Municipal Market Analytics still expect the state will come through by the deadline: they write: “[T]here is too much downside in allowing those bonds to even partially default. Still, the surrounding events serve as a reminder of the state’s willingness to punish investors for its own political mistakes.”

To Merge or Not to Merge: That is the Question. Cleveland, Ohio City Council President Kevin Kelley yesterday said he must figure out how to go about studying the pros and cons of annexing neighboring East Cleveland, but do so without locking Cleveland into a plan to do so. In a session of a Committee of the Whole, Councilmember Kelley told his colleagues that Cleveland must be certain it wants to move forward with a merger before formally expressing that interest through legislation, because, he noted: there is a point of no return after which Cleveland could no longer opt out. Presumably what his colleagues already understand is that such negotiations would be awkward—especially in the wake—as we have reported—of the uncertain, and constantly evolving, position of East Cleveland’s Mayor and Council—which last month, in an emergency meeting voted to adopt new legislation appointing three representatives to a commission impaneled to negotiate the annexation, replacing one passed earlier this summer, which was tied to such an ill-advised list of conditions that Councilmember Kelley rejected them out of hand terming the proposal a “non-starter.” So, under Ohio law, round two means the Mayor and Council in East Cleveland, in the wake of a brief public notice and comment period, will propose legislation to the Cleveland City Council, triggering, under Ohio’s laws, a thirty-day period during which the Mayor and Council will have to decide if they also will adopt legislation appointing three panelists to such a commission—note: if the 30 days lapse without action, the initiative must start all over with the circulation of new signature petitions. If Cleveland’s Council were to agree, the two municipalities would be legally committed to submitting some kind of plan for annexation. Indeed, failure to do so would warrant a judge’s intervention, Councilmember Kelley yesterday advised his colleagues: The commission would have 120 days to draft the terms of the merger that East Cleveland voters would consider. Cleveland City Council members would then either vote to adopt the plan or send the issue to the ballot.

From the City of Cleveland’s perspective, Councilmember Kelley suggested there ought to be three principles to guide Cleveland in its decision on whether to pursue the merger: There must be a funding source available – preferably from the State of Ohio, the missing player so far—to cover East Cleveland’s capital needs; East Cleveland’s millions of dollars in liabilities – which include debt, court judgments, and settlements – must be resolved; and such a merger must not harm Cleveland’s current residents, or the level of essential public services they receive, in any way. These are three “oughts” which the Councilmember advised his colleagues on which he had yet to receive any reassurances. Indeed, he made clear he does not believe 30 days—or even 120 days—will be sufficient time in which to determine the cost of addressing East Cleveland’s infrastructure problems, much less which government would be responsible to address them—making it more likely than not that Cleveland will not act in this thirty-day grace period, and await the answers to its questions—or, just maybe—the here-to-date absent State of Ohio will exercise some fiscal responsibility. In the nonce, Councilman Kelley suggested or proposed the assembling of an ad hoc committee made up of engineers, lawyers, and municipal finance experts to do an in-depth fiscal analysis of East Cleveland’s assets and liabilities before the Council formally appoints commission members and commits Cleveland to any final determination vis-à-vis annexation.

Amongst his colleagues, there have been mixed responses: some last night indicated they still support annexation and see a benefit to both cities; others, including Councilmembers Michael Polensek and TJ Dow, passed along constituents’ apprehensions that a merger would siphon resources and services from Cleveland neighborhoods. Indeed, with November looming, Councilman Matt Zone said this is a time when the Council should be “laser-focused” on the November election and a ballot which includes a school levy renewal, a proposed city income tax increase, and a City Charter amendment related to police reform.