What Could Be the State Role in Municipal Fiscal Distress?

 

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eBlog, 03/08/17

Good Morning! In this a.m.’s eBlog, we consider the state role in addressing fiscal stress, in this instance looking at how the Commonwealth of Virginia is reacting to the fiscal events we have been tracking in Petersburg. Then we spin the roulette table to check out what the Borgata Casino settlement in Atlantic City might imply for Atlantic City’s fiscal fortunes, a city where—similar to the emerging fiscal oversight role in Virginia, the state is playing an outsized role, before tracking the promises of PROMESA in Puerto Rico.

The State Role in Municipal Fiscal Stress. One hundred fifty-three years ago, Union General George Meade, marching from Cold Harbor, Virginia, led his Army of the Potomac across the James River on transports and a 2,200-foot long pontoon bridge at Windmill Point, and then his lead elements crossed the Appomattox River and attacked the Petersburg defenses on June 15. The 5,400 defenders of Petersburg under command of Gen. Beauregard were driven from their first line of entrenchments back to Harrison Creek. The following day, the II Corps captured another section of the Confederate line; on the 17th, the IX Corps gained more ground, forcing Confederate General Robert E. Lee to rush reinforcements to Petersburg from the Army of Northern Virginia. Gen. Lee’s efforts succeeded, and the greatest opportunity to capture Petersburg without a siege was lost.

Now, the plight of Petersburg is not from enemy forces, but rather fiscal insolvency—seemingly alerting the Commonwealth of Virginia to rethink its state role with regard to the financial stress confronting the state’s cities, counties, and towns. Thus, last month, Virginia, in the state budget it adopted before adjournment, included a provision to establish a system for the state to detect fiscal distress among localities sooner than it did with Petersburg last year, as well as to create a joint subcommittee to consider the broader causes of growing fiscal stress for the state’s local governments. Under the provisions, the Co-Chairs of the Senate Finance Committee are to appoint five members from their Committee, and the Chairman of the House Appropriations Committee is to name four members from his Committee and two members of the House Finance Committee to a Joint Subcommittee on Local Government Fiscal Stress. The new Joint Subcommittee’s goals and objectives encompass reviewing: (i) savings opportunities from increased regional cooperation and consolidation of services; (ii) local responsibilities for service delivery of state-mandated or high priority programs, (iii) causes of fiscal stress among local governments, (iv) potential financial incentives and other governmental reforms to encourage increased regional cooperation; and (v) the different taxing authorities of cities and counties. The new initiative could prove crucial to impending initiatives to reform state tax policies and refocus economic development at the regional level, as the General Assembly considers the fiscal tools and capacity local governments in the commonwealth have to raise the requisite revenues they need to provide services—especially those mandated by the state. Or, as Gregory H. Wingfield, former head of the Greater Richmond Partnership and now a senior fellow at the L. Douglas Wilder School of Government and Public Affairs at Virginia Commonwealth University, puts it: “I hope they recognize we’ve got to have some restructuring, or we’re going to have other situations like Petersburg…This is a very timely commission that’s looking at something that’s really important to local governments.”

The Virginia General Assembly drafted the provisions in the state budget to create what it deems a “prioritized early warning system” through the auditor of public accounts to detect fiscal distress in local governments before it becomes a crisis. Under the provisions, the auditor will collect information from municipalities, as well as state and regional entities, which could indicate fiscal distress, as well as missed debt payments, diminished cash flow, revenue shortfalls, excessive debt, and/or unsupportable expenses. The new Virginia budget also provides a process for the auditor to follow and notify a locality that meets the criteria for fiscal distress, as well as the Governor and Chairs of the General Assembly’s finance committees. The state is authorized to draw up to $500,000 in unspent appropriations for local aid to instead finance assistance to the troubled localities. The Governor and money committee Chairs, once notified that “a specific locality is in need of intervention because of a worsening financial situation,” would be mandated to produce a plan for intervention before appropriating any money from the new reserve; the local governing body and its constitutional officers would be required to assist, rather than resist, such state intervention—or, as House Appropriations Chairman S. Chris Jones (R-Suffolk) describes it: “The approach was to assist and not to bring a sledgehammer to try to kill a gnat,” noting he had been struck last fall by the presentation of Virginia’s Auditor of Public Accounts Martha S. Mavredes with regard to the fiscal stress monitoring systems used by other states, including one in Louisiana which, he said, “would have picked up Petersburg’s problem several years before it came to light…At the end of the day, it appears you had a dysfunctional local government, both on the administrative and elected sides, that was ignoring the elephant that was in the room.”

The ever so insightful Director of Fiscal Policy at the Virginia Municipal League, Neal Menkes, a previous State & Local Leader of the Week, notes that Petersburg is far from alone in its financial stress, which was caused by factors “beyond just sloppy management: It included a series of economic blows,” he noted, citing the loss of the city’s manufacturing base in the 1980s and subsequently its significant retail presence in the region. The Virginia Commission on Local Government identified 22 localities—all but two of them cities—which experienced “high stress” in FY2013-14, of which Petersburg was third, and an additional 49 localities, including Richmond, which had experienced “above average” fiscal stress. Or as one of the wisest of former state municipal league Directors, Mike Amyx, who was the Virginia Municipal League Director for a mere three decades, notes: “It’s a growing list.”

The Commonwealth’s new budget, ergo, creates the Joint Subcommittee on Local Government Fiscal Stress, charged with taking a sweeping look at the reasons for stress, including:

  • Unfunded state mandates for locally delivered services, and
  • Unequal taxing authority among localities.

The subcommittee will look at ways for localities to save money by consolidating services and potential incentives to increase regional cooperation, or as Virginia Senate Finance Co-Chairman Emmett Hanger (R-Augusta) notes: “We need to dig deeply into the relationship of state and local governments,” expressing his concerns with regard to potential threats to local revenues, such as taxes on machinery and tools, and on business, professional and occupational licenses (BPOL), as well as fiscal disparities with regard to local capacity or ability to finance core services such as education and mental health treatment, or, as he puts it: “We do need to address the relative levels of wealth of local governments…We need to look at all of the formulas in place for who gets what from state government…Our tax system is still antiquated, and local governments have to rely too heavily on real estate taxes.”  

The subcommittee will include Sen. Hanger and Chairman Jones, as chairs of the respective Budget Committees, and House Finance Chairman R. Lee Ware Jr. (R-Powhatan), whose panel grapples every year with the push to reduce local tax burdens and the need to give localities the ability to generate revenue for services. Chairman Jones, a former Suffolk Mayor and city councilmember, said he is “keenly aware of the relationship between state and local governments. It is a complex relationship. The solutions aren’t simple…You’ve got to be able to replace that revenue at the local level—you can’t piecemeal this.”

Municipal Credit Roulette. State intervention and a settlement of tax refunds owed to a casino drove a two-notch S&P Global Ratings upgrade of Atlantic City’s general obligation debt to CCC from CC. The rating remains deep within speculative grade, the outlook is developing. S&P analyst Timothy Little wrote that the upgrade reflected a state takeover of Atlantic City finances that took effect in November which has helped “diminish” the near-term likelihood of a default. A $72 million settlement with the Borgata Hotel Casino & Spa over $165 million in owed tax refunds that saves Atlantic City $93 million also contributed to the city’s first S&P upgrade since 1998, according to S&P. Mayor Don Guardian noted that obtaining a CCC rating was “definitely a step in the right direction: As we continue to implement the recommendations from our fiscal plan submitted last year, and working together with the state, we know that our credit rating will continue to improve higher and higher.” Nevertheless, notwithstanding the credit rating lift, Mr. Little warned that Atlantic City’s financial recovery is “tenuous” in the early stages of state intervention, ergo the low credit rating reflects what he terms “weak liquidity” and an “uncertain long-term recovery,” reminding us that Atlantic City has upcoming debt service payments of $675,000 due on none other than April Fool’s Day, followed by another $1.6 million on May Day, $1.5 million on June 1st, and $3.5 million on August 1st. Nevertheless, Atlantic City and the state fully contemplate making the required payments in full and on time. Mr. Little sums up the fiscal states:  “In our opinion, Atlantic City’s obligations remain vulnerable to nonpayment and, in the event of adverse financial or economic conditions, the city is not likely to have the capacity to meet its financial commitment…Due to the uncertainty of the city’s ability to meet its sizable end-of-year debt service payments, we consider there to be at least a one-in-two likelihood of default over the next year.” He adds that, notwithstanding the State of New Jersey’s enhanced governing role with Atlantic City finances, chapter 9 municipal bankruptcy remains an option for the city if adequate gains are not accomplished to improve the city’s structural imbalance, as well as noting that S&P does not consider the city to have a “credible plan” in place to reach long-term fiscal stability. For his part, Evercore Wealth Management Director of Municipal Credit Research Howard Cure said that while the municipal credit upgrade reflects the Borgata Casino tax resolution, the rating, nonetheless, makes clear how steep the road to fiscal recovery will be: “You really need the cooperation of the city, but also the employees of the city for there to be a real meaningful recovery…This could go bad in a hurry.”

Is There Promise in Promesa? Elias Sanchez Sifonte, Puerto Rico’s representative to the PROMESA Fiscal Supervision Board, late Tuesday wrote to PROMESA Board Chairman José B. Carrión to urge that the Board take concrete actions in its final recommendations to address the U.S. territory’s physical health and the renegotiation of public debt—that is, to comply with the provisions of PROMESA and advocate for Puerto Rico with the White House and Congress in order to avoid “the fiscal precipice” which Puerto Rico confronts, especially once the federal funds which are used in My Health expire. Mr. Sifonte also requested additional time for Puerto Rico to renegotiate its debt, reminding the Board that PROMESA “makes it very clear that an extension of the funds under the Affordable Care Act is critical.” With grave health challenges, the board representative appears especially apprehensive with regard to the debate commencing today in the House of Representatives to make massive changes in the existing Affordable Care Act.

Recounting Governor Ricardo Rosselló Nevares efforts to address Puerto Rico’s severe fiscal situation, he further noted that the Governor’s efforts would little serve if the PROMESA Board bars Puerto Rico from a voluntary process through which to renegotiate what it owes to various types of creditors, arguing that Puerto Rico ought to be able to negotiate with its municipal bondholders, and, ergo, seeking an extension of the current suspension of litigation set to expire at the end of May to the end of this year, noting: “It would be very unfair that after all the progress achieved in the past two months, the government cannot achieve a restructuring under Title VI simply because the past government intentionally or negligently truncated the Title VI process at the expense of the new administration.” His letter came as Gerardo Portela Franco, the Executive Director of the Puerto Rico Fiscal Agency and Financial Advisory Authority (FIFAA), reported that administration officials have had initial talks with the PROMESA board about the plan and are in the process of making suggested changes. FIFAA will manage the implementation the measures and lead negotiations with Puerto Rico’s creditors over restructuring the government’s $70 billion of debt.

Challenges in Rebounding from Insolvency or Municipal Bankruptcy

eBlog, 02/27/17

Good Morning! In this a.m.’s eBlog, we consider new development plans for the insolvent, state-taken over Atlantic City, before turning to the post-chapter 9 municipal bankruptcy electoral challenges in Detroit—where the son of a former Mayor is challenging the current Mayor—and where the post-bankrupt city is seeking to confront its exceptional public pension obligations in a city with an upside down population imbalance of retirees to taxpayers.

Spinning the Fiscal Turnstile in Atlantic City? Since New Jersey’s Casino Reinvestment Development Authority (CRDA) developed its Tourism District master plan for Atlantic City five years ago, five casino have closed—casinos with assessed values of $11 billion. Those closures appeared to be the key fiscal destabilizers which plunged the city into near municipal bankruptcy and a state takeover. Now the Authority, which handles redevelopment projects and zoning in the Tourism District (The rest of Atlantic City is under the city’s zoning jurisdiction—albeit a city today taken over by the state, and where the Development Authority was given authority by the state over the Tourism District in 2011) has approved spending $2 million for refurbishing. Robert Mulcahy, the Chairman of the authority’s board of directors, states: “The master plan is done to streamline zoning, help eliminate red tape, encourage proper development in the appropriate district, and stimulate investment in commercial, entertainment, housing, and mixed-use properties…This provides a vision to what we want to do.” The proposed land-use regulations’ twenty-five objectives include providing a zoning scheme to stimulate development and maintain public confidence in the casino gaming industry as a unique tool of the city’s urban redevelopment. The new zones would allow for mixed use near the waterfront, and retail development around the Atlantic City Expressway and its waterfront under the state agency blueprint intended to make it easier for companies to turn old industrial buildings into commercial and waterfront areas, to build amusement rides off the Boardwalk, maybe even incentivize craft brewers and distillers to open businesses.  

CRDA Director Lance Landgraf noted: “The city last changed the zoning along the Boardwalk when casinos came in.” Similarly, Atlantic City Mayor Don Guardian, who is a CRDA board member, noted: “If we talked 10 years ago about the Southeast Inlet, I think most people saw it as a Miami Beach with a bunch of high-rises that would go from Revel to Brigantine Inlet…Times have changed. People are now looking for mixed-use type of things, which is certainly what is important.” According to the proposed plan, the new tourism district would be intended to maximize recreational and entertainment opportunities, including the growing craft beer trend. Smaller breweries and distilleries have expressed interest in operating in the city, according to the draft plan, which notes it “seeks to reinvigorate the Atlantic City experience by enhancing the Boardwalk, beach and nearby streets through extensive entertainment and event programming; creating an improved street-level experience on major thoroughfares; offering new and dynamic retail offerings and increasing cleanliness and safety.”

Post Chapter 9 Leadership.  Coleman Young II, a state Senator in Michigan representing Detroit, sitting beneath a photograph of his late father and former Detroit Mayor Coleman Young, has officially launched his challenge against current Detroit Mayor Mike Duggan, claiming the Motor City needs a leader who focuses on helping residents who are struggling with unemployment and other hardships, and criticizing Mayor Duggan for what he called a lack of attention to Detroit’s neighborhoods, noting: “We need change, and that is why I am running for mayor: I will do whatever it takes—blood, sweat, tears, and toil—and I will fight to the very end to make sure that justice is done for the City of Detroit…In announcing his challenge, Sen. Young recalled his father’s focus on jobs when he served as Detroit’s first black mayor: “I want to put people back to work just like my father, the honorable Coleman Alexander Young did…He is turning over in his grave right now!”

Interestingly, Sen. Young’s challenge came just days after last week’s formal State of the City address by Mayor Duggan—an address in which he focused on putting Detroiters to work and investing in neighborhoods—announcing a new city program, Detroit at Work, which is focused on training Detroit residents for available jobs—a speech which candidate Young, in his speech, deemed a “joke,” stating: “I think it’s kind of funny he waits for four years and now starts talking about the neighborhoods…As far as I’m concerned, he’s just somebody that’s in the way and needs to go. It’s time for change. It’s time for reform.” (Detroit’s primary will be in August; the election is Nov. 7th.)

Rebound? Whomever is elected next November in Detroit will confront lingering challenges from Detroit’s largest municipal bankruptcy in U.S. history. That July 19th filing in 2013, which then Emergency Manager Kevyn Orr described  as “the Olympics of restructuring,” had been critical to ensuring continuity of essential services and critical to rebuilding an economy for the city—an economy besieged after decades of population decline (dropping from 1,849,568 in 1951 to 713,777 by 2010), leaving the city to confront an estimated 40,000 abandoned lots and structures and the loss of 67 percent of its business establishments and 80 percent of its manufacturing base. The city had spent $100 million more, on average, than its revenues since 2008. According to the census, 36 percent of its citizens were below the poverty level, and, the year prior to the city’s bankruptcy filing, Detroit reported the highest violent crime rate for any U.S. city with a population over 200,000. Thus, as the city’s first post-bankruptcy Mayor, Mayor Duggan has faced a city with vast abandoned properties.

Interestingly, Steve Tobocman, the Director of Global Detroit, an economic-development nonprofit which focuses on maximizing the potential of immigrants and the international community, said that enacting municipal policies which welcome foreign-born residents could be a critical strategy to reverse the population loss: “No American city has been able to rebound from population loss without getting serious about immigration growth…In 1980, 29 of the 50 largest cities lost population. Most of the cities that lost population have since reversed course due to an influx of immigrants. No American city has been able to rebound from population loss without getting serious about immigration growth.” Now that avenue could be closing with President Trump’s efforts to curtail immigration, especially from Mexico and the Middle East, leading Mr. Tobocman to note he had no reason to anticipate any help from Washington, D.C. in helping rebuild Detroit’s population, or energizing its economy, with immigrants. Rather, he warns, he is apprehensive that other policy promises, particularly the proposed border wall with Mexico, actively threaten Michigan’s economy: “Mexico is our second-largest trading partner after Canada…Metro Detroit is the largest metro area trading with Mexico. One hundred thousand jobs are supported by our trade with Mexico.”

Upside Down Fiscal Challenge. A key challenge to Detroit, because of the inverted fiscal pyramid creating by its population decline, is there are far fewer paying into to Detroit’s public pension system, against far more receiving post-retirement pensions, sort of an upside down fiscal dilemma—and one which, increasingly, confronts the city’s fiscal future. Now Mayor (and Candidate) Duggan has announced a plan he believes will help Detroit to city meet its 2024 balloon payment on its public pension obligation, or, as Detroit Chief Financial Officer John Hill puts it, a plan designed to be more than adequate to address the looming future payment of more than $100 million owed beginning in 2024: “What the mayor is proposing is that we take money now and put into a pension protection fund and then use that money in 2024 and beyond to help make some of those payments: So part of the money would come from the budget, and the other would come from the fund,” describing the provisions in Detroit’s plan of debt adjustment for down payments to the city’s pension obligation in Mayor Duggan’s $1 billion general fund budget for the 2017-18 fiscal year the Mayor presented to the Detroit City Council at the end of last week. Mr. Hill said that the payment plan would give the city budget longer to catch up to the $132 million it would have to pay going forward, describing it as “really a way for us to proactively address the future pension obligation payment and not wait to deal with it down the road.”

However, there appears to be a fiscal fly in the ointment: last year, in his 2016 State of the City speech, Mayor Duggan said that consultants who advised the city through its chapter 9 municipal bankruptcy had miscalculated the city’s pension deficit by $490 million—actuarial estimates at the time which projected a payment of $111 million in 2024—a figure subsequently increased by the actuary to $194.4 million—leading Mayor Duggan to assert that the payment had been “concealed” from him by former Detroit emergency manager Kevyn Orr during the city’s bankruptcy, with, according to the Mayor, Mr. Orr’s team using overly optimistic assumptions which made Detroit’s future pension payout obligations appear artificially low. The revised estimates have since forced the city to address the large future payment, beginning in FY2016, when the city set aside $20 million and another $10 million to start its pension trust fund, with the payment coming in addition to the $20 million contribution to the legacy plans the city is mandated to make under Detroit’s plan of debt adjustment. Now Mayor Duggan is proposing Detroit set aside an additional $50 million from a general fund surplus and another $10 million into the trust fund this year: the city projects it will have $90 million in the trust at the end of FY2017. In the following fiscal years, the city is proposing to add another $15 million to the fund, $20 million in FY2019, $45 million in FY2020, $50 million in FY2021, $55 million in FY2022, and $60 million for FY2023. Or, as Detroit Finance Director John Naglick describes it: “All total, we propose that the City would deposit $335 million into the trust fund through the end of FY23, with interest, the fund is projected to grow to $377 million.” Mr. Naglick adds that Detroit expects that the general fund would be required to contribute a total of $143.2 million beginning in FY2024: “We propose to make that payment by pulling $78.5 million out of the trust and appropriating $64.7 million from the general fund that year.” CFO Hill noted that by addressing the 2024 obligation payment with the plan, Detroit would remain on track to exit state oversight as projected, stating: “We believe that after we have executed three balanced budgets and met a number of other requirements that the Detroit Review Commission could vote to waive their oversight…We believe that one of the factors that they are going to want to see to support that waiver is that we have proactively dealt with the pension obligations in 2024.” There could, however, be a flaw in the ointment: Mayor Duggan warned last week that Detroit may decide to sue Mr. Orr’s law firm, Jones Day, if the city finds that Mr. Orr had an obligation to keep the city informed on the pension payments.

Post Chapter 9 Challenges

eBlog, 2/22/17

Good Morning! In this a.m.’s eBlog as we remember the first President of our country,  we consider the accomplishments and challenges ahead for the city recovering from the largest ever municipal bankruptcy; then we visit the historic Civil War city of Petersburg, Virginia—as it struggles on the edge of fiscal and physical insolvency; from thence, we roll the dice to witness a little fiscal Monopoly in the state-taken over City of Atlantic City, before finally succumbing to the Caribbean waters made turbulent by the governance challenges of a federal fiscal takeover of the U.S. territory of Puerto Rico, before considering whether to take a puff of forbidden weed as we assess the governing and fiscal challenges in San Bernardino—a city on the precipice of emerging from the longest municipal bankruptcy in American history.   

State of a Post Chapter 9 City. Pointing to FY2015 and 2016 balanced budgets, Detroit Mayor Mike Duggan, in his fourth State of the City address, pointed to the Motor City’s balanced budgets for FY2015 and 2016 and said the city’s budget will be balanced again at the close of this fiscal year in June—progress he cited which will help the city emerge from state get oversight and back to “self-determination” by 2018. Mayor Duggan cited as priorities: job training, affordable housing, and rebuilding neighborhoods, orating at the nonprofit human rights organization Focus: HOPE on Oakman Boulevard on the city’s northwest side, where residents and others for decades have received critical job training. Mayor Duggan was not just excited about what he called the transformation of city services and finances in a city that exited municipal bankruptcy three years ago, but rather “what comes next,” telling his audience: “We’ve improved the basic services, but if we’re going to fulfill a vision of building a Detroit that includes everybody, then we’ve got to do a whole lot more…You can’t have a recovery that includes everyone if there aren’t jobs available for everyone willing to work.” Ergo, to boost job opportunities, Mayor Duggan announced a new initiative, “Detroit at Work,” which he said would help connect the Motor City’s job seekers with employers, deeming it a portal which would provide a “clear path to jobs.” He also discussed his administration’s program to help city youth secure jobs and the Detroit Skilled Trades Employment Program, a recent partnership with local unions to increase Detroit membership and boost job opportunities.

With regard to neighborhoods, Mayor Duggan touted his Neighborhood Strategic Fund, his initiative to encourage neighborhood development, especially in wake of the exceptional success of Detroit’s new downtown: this fund allocates $30 million from philanthropic organizations toward development, commencing with the engagement of residents in the areas of Livernois/McNicols, West Village, and in southwest Detroit to create revitalized and walkable communities—under the city’s plan to align with the city’s vision for “20-minute neighborhoods” to provide nearby residents with close, walkable access to grocery stores and other amenities—or, as Mayor Duggan noted: “If we can prove that when you invest in these neighborhoods, the neighborhoods start to come back. The first $30 million will only be the beginning. I want everybody to watch…If we prove this works…then we go back for another $30 million and another $30 million as we move across the neighborhoods all through this city.”

In a related issue, the Mayor touted the return of the Department of Public Works’ Street Sweeping Unit, which is preparing to relaunch residential cleanings for the 2017 season, marking the first time in seven years for the program. On the affordable housing front, Mayor Duggan addressed affordable housing, saying that future projects will ensure such housing exists in all parts of the city, referencing a new ordinance, by Councilwoman Mary Sheffield, which seeks to guarantee that 20 percent of the units in new residential projects which receive financial support from the city will be affordable: “We are going to build a city where there is a mix of incomes in every corner and neighborhood and we’re going to be working hard.”

But in his address—no doubt with his re-election lurking somewhere behind his words, Mayor Duggan reflected not just on his successes, but also some missteps, including his administration’s massive federally funded demolition program, now the focus of a federal probe and state and city reviews: that initiative has been successful in the razing of nearly 11,000 abandoned homes since the spring of 2014, but has also triggered federal and state investigations over spiraling costs and bidding practices: an ongoing state review of the program’s billing practices turned up $7.3 million in what the State of Michigan deems “inappropriate” or “inaccurate” costs: the vast majority in connection with a controversial set-price bid pilot in 2014 designed to quickly bring down big bundles of houses—an initiative over which Mayor Duggan has so far rejected the state’s assertion that about $6 million tied to costs of the pilot were inappropriate. Thus, yesterday, he conceded that the federal government’s decision to suspend the demolition program for 60 days beginning last August had been warranted, but noted the city has since overhauled procedures and made improvements to get the program back on track, so that, he said, he is confident the city will raze an additional 10,000 homes in the next two years.

For new initiatives, Mayor Duggan said the Detroit Police Department will hire new officers, and invest in equipment and technology, and he announced the launch of Detroit Health Department’s Sister Friends program, a volunteer program to provide support to pregnant women and their families. On the school front, the Mayor noted what he deemed a “complete alliance” between his office and the new Detroit Public Schools Community District school board, saying the city has joined the Board in its attempt to convince the state’s School Reform Office not to close low-performing schools. (As many as 24 of 119 city schools could potentially be shuttered as soon as this summer.) In a hint of the state-local challenge to come, Mayor Duggan said: “The new school board hasn’t had an opportunity to address the problem…We have 110,000 schoolchildren in this city, which means we need 110,000 seats in quality schools. Closing a school doesn’t add a quality seat. All it does is bounce our children around from place to place. Before you close a school, you need to make sure there’s a better alternative.”

Fiscal & Physical Repair. In a surprising turn of events in Virginia, the Petersburg City Council accepted a motion by Councilman Charlie Cuthbert to postpone the vote on moving forward with the bids for Petersburg’s aging water system, after the Council had been scheduled to vote on whether to move forward with the bids the city had received from Aqua Virginia and Virginia American Water Company to purchase the nearly insolvent city’s water and wastewater system. While the vote, by itself, would not have authorized such a sale, it would have paved the way for formal consideration of such proposals. Under his motion, Councilman Cuthbert outlined a plan to delay the vote, so the Council and the City would have more time to consider options, in part through the formation of a seven person committee, which would be separate from the one the Robert Bobb Group, which is currently overseeing the city in place of the Mayor and Council, has been proposing. Mayhap unsurprisingly, citizens’ reactions to a potential sale has been negative; thus there was approbation when Councilmember Cuthbert’s motion passed—even as it appears many citizen/tax/ratepayers appeared to be hoping for the bids to be scrapped entirely: many had spoken in strong opposition, and there were numerous signs held up in chambers for the Mayor and Council to read: “Listen to us for once, do not sell our water,” or, as one citizen told the elected officials: “We have a choice to make: to make the easy, wrong decision, or the hard, right decision,” as he addressed the Council. The city’s residents and taxpayers appear to want other options to be explored, with many citing reports of Aqua Virginia having trouble with the localities with which it holds contracts.

On the fiscal front, many citizens expressed apprehension that any short-term profit the city would realize by selling its system would be paid back by the citizens in the form of rate-hikes by Aqua Virginia or Virginia American, or as one constituent said: “Never have I seen private industry interested in what the citizens want…They’re going to come in here and raise the rates.” Interim City Manager Tom Tyrell had begun the meeting by giving a presentation outlining the problems with the system. Due to past mismanagement and a lack of investment over decades, the Petersburg water system is in urgent need of upgrades. Tyrell outlined certain deficiencies, such as water pumps that need replacing, and pipes nearly blocked by sediment build up. The water quality has never come into question, but Mr. Tyrell said that the system is very close to needing a complete overhaul: the projected cost needed to get the system completely up to standard is about $97 million. Mr. Tyrell stressed that water rates will need to increase whether or not the city sells the system, going over Petersburg’s water rates, which have been relatively low for many years, ranking near the lowest amongst municipalities across the Commonwealth of Virginia. Even if the rates were to double, he told citizens, the rates still would still not be in the top 15 amongst Virginia localities. The Council had received two unsolicited bids for the system in December, one from Aqua Virginia, a second from the Virginia American Water Company. The Robert Bobb Group recommended to the Council that it move forward to examine the detailed proposals in order to “keep all options open.” The cost of moving forward with the proposals will cost approximately $100,000, which includes the cost of examining each proposal. Thus, the Robert Bobb Group recommended that the Council put together a citizens’ advisory group as an outside adviser group. The council gave no timetable on when they will officially vote to see if the bids will go forward. The people who will make up the seven person committee were not established.

Monopoly Sale. Atlantic City has sold two of its Boardwalk properties and several lots along the Inlet for nearly $6 million, closing on three properties at the end of last week, according to city officials—meaning that a Philadelphia-based developer has gained control of five waterfront properties since 2015. His purchases, he said, reflect his belief in Atlantic City’s revival. Mayor Don Guardian reported the city had received wire transfers for the former Boardwalk volleyball court on New Jersey Avenue ($3.8 million), Garden Pier ($1.5 million) and 12 lots bordered by the Absecon Inlet, Oriental Avenue and Dewey Place ($660,000), according to Atlantic City Planning and Development Director Elizabeth Terenik, all part of a way to raise money for the insolvent municipality – and to spur redevelopment, or, as Ms. Terenik noted: “The effort was part of the Guardian administration’s initiative to leverage underutilized or surplus public lands for economic development and jobs, and to increase the ratable base.” How the new owner intends to develop the properties or use them, however, is unclear—as is the confusing governance issue in a city under state control. The Inlet lots were sold in a city land auction last summer, purchased through an entity called A.C. Main Street Renaissance, according to city officials: the Atlantic City Council approved the auction and voted to name the purchaser, conditional redeveloper of Garden Pier and the volleyball court last year. Unsurprisingly, Council President Marty Small deemed the sales as great news for the city, saying they would bring revenue, jobs, and “new partners to the Inlet area…This instills investor confidence…It lets me know that we made the right decision by going out to auction for land and getting much-needed revenue for the city.”

Paying the Piper. Atlantic City has also announced its intention to issue $72 million in municipal bonds to pay for its tax settlement with the Borgata casino, securing the funds to cover its property tax refunds by borrowing though New Jersey’s Municipal Qualified Bond Act (MQBA), according to Lisa Ryan, a spokeswoman for the New Jersey Department of Community Affairs, which is overseeing the state takeover which took effect last November, with her announcement coming just a week after the state announced it had struck a deal for Atlantic City to pay less than half of the $165 million it owes the Borgata in tax appeals from 2009 to 2015, or, as Ms. Ryan noted: “Qualified bonds will be issued in one or more tranches to achieve the settlement amount…The parties are confident in the City’s ability to access the capital market and raise the necessary amount needed to cover the financing,” albeit adding that the city’s borrowing costs would not be known until the sale. (The Garden State’s MQBA is a state intercept program which diverts a municipality’s qualified state aid to a trustee for debt service payments.) Prior to the New Jersey’s state takeover of Atlantic City, city officials had proposed paying $103 million for a Borgata settlement through MQBA bonding as part of a five-year rescue plan—a plan which the state’s Department of Community Affairs had rejected.

As the state taken over city struggles to adjust, Mayor Don Guardian, in a statement, noted: “I’m glad the state is seeing the wisdom in what we proposed in our fiscal plan back in November…I applaud them for getting the actual amount due upfront lower, even though they have had over two years to do it. It remains to be seen how the other $30 million will be taken care of, but the quicker we can get this issue off the table, the quicker we can move forward tackling the remaining legacy debt.” Atlantic City last utilized New Jersey’s state credit enhancement program in May of 2015 to pay off an emergency $40 million loan and retire $12 million of maturing bond anticipation notes, paying a substantial fiscal penalty for a $41 million taxable full faith and credit general obligation municipal bond sale to address its loan payment with Bank of America Merrill Lynch pricing the bonds to yield at 7.25% in 2028 and 7.75% in 2045. Today, the city, under state control, is seeking to recover from five casino closures since 2014, closures which have bequeathed it with $224 million in outstanding municipal bond debt—debt sufficient according to Moody’s to have saddled the city with some $36.8 million in debt service last year.

Grass Fire? Two separate groups have now filed lawsuits challenging San Bernardino’s Measure O, the initiative citizens approved last November to allow marijuana dispensaries in the city—a measure yet to be implemented by the city—and one which now, according to City Attorney Gary Saenz, will almost surely be further delayed because of the suit. Should Measure O be struck down, the related, quasi-backup Measure N, a second marijuana initiative San Bernardino voters approved last November, but which received fewer votes, would pop up, as it were. The twin suits, one filed by a group of marijuana-related entities, the second by interested property owners in San Bernardino, challenge Measure O on multiple grounds, including the measure’s language determining where dispensaries may operate in the city. One suit charges: “The overlay zones together with the parcel numbers and the location criteria limit the locations within the City of San Bernardino where marijuana businesses may be permitted to only approximately 3 to 5 parcels of land within the entire city, and all of these parcels of land are either owned or controlled by the proponents of Measure O…The locations of these 3 to 5 parcels of land, furthermore, are incompatible for a medical marijuana business by virtue of the locations and surrounding land uses and for this reason are in conflict with the City of San Bernardino General Plan.” Unsurprisingly, Roger Jon Diamond, the attorney for the proponents of Measure O, disputes that number and predicts the challenge will fail, noting that thirteen marijuana dispensaries and related groups that describe themselves as non-profits are operating in San Bernardino or which have invested substantial sums of money in plans to operate in San Bernardino. The soon to be out of chapter 9 municipal bankruptcy city, prior to citizen adoption of Measure O, means, according to Counselor Diamond, that the dispensaries have been operating illegally, or as he put it: “There’s a concept in the law called clean hands: If you don’t have clean hands, you can’t maintain a lawsuit…Here we have people who don’t qualify (to operate a dispensary in their current location), complaining that they would not become legal under the new law. It sounds like sour grapes.”

The second, related suit, filed earlier this month, calculates a somewhat higher (not a pun) number of eligible locations—between three to twelve, but makes the same observation regarding physical location: “We think there is a financial interest in the people who wrote it up,” said Stephen Levine of Milligan, Beswick Levine & Knox: “We don’t think that is fair, because it was so narrowly constricted. Zoning by parcel numbers is a highly unusual practice in California. Let’s include Colorado and Washington State in there, too; they don’t use parcel numbers for this.” (Measure O restricts marijuana businesses to marijuana business overlay districts, which are identified by parcel number, and further prohibits the businesses from being within 600 feet of schools or residentially zoned property.) In this case, Mr. Levine is representing a consortium of property owners calling themselves AMF as well as Wendy McCammack, a business owner and former San Bernardino Councilmember. According to Mr. Levine, the plaintiffs’ interest is in possible changes in assessed property values due to the location of the dispensaries.

Getting High on the City Agenda. The City Council last week, in a closed session, discussed the lawsuit in closed session; however, City Attorney Saenz reported he was unaware aware of the lawsuit and had yet to decide upon a response to either, noting: “We haven’t totally assessed the merits of the lawsuit, nor how we’ll respond.” Nevertheless, the lawsuits’ arguments appear likely to interfere with the city’s process of incorporating Measure O into the development code and beginning to issue permits, or, as Mr. Saenz notes: “It (the AMF lawsuit) very much calls into question the validity of Measure O…Being a city of very limited resources, we don’t want to expend resources on an implementation that’s never going to occur. That would be a waste of resources.” The suits will also complicate governance: last month the city, on its website, and in a letter to interested parties, said it would provide an update in March on when the marijuana measure would be implemented: “City departments are in the process of integrating the provisions of Measure O into the City’s existing Development Code, developing procedures for receiving applications, and identifying provisions that may require interpretation and clarification prior to implementation…The San Bernardino Development Code and Measure O are both complex legal regulatory frameworks and it will require time to properly implement this new law.”

Governance & Challenges. Puerto Rico Gov. Ricardo Rosselló has arrived in Washington, D.C., where he will meet with his colleagues at the National Governors Association and join them at the White House tomorrow; he will also dine with Vice President Mike Pence this week. Last week, in Puerto Rico, he had hosted Chairman Sean Duffy (R-Wisc.), of the House Financial Services Subcommittee on Housing & Insurance, and an author of the Puerto Rico Oversight, Management and Economic Stability Act – in San Juan.  Chairman Duffy told the Governor he is available to amend PROMESA to ensure that the PROMESA oversight board treats Puerto Rico fairly, according to an office press statement. The lunch this week might occasion an interesting discussion in the wake of the Governor’s claim that the PROMESA Oversight Board’s plans for austerity may violate federal law: the Governor’s Chief of Staff, William Villafañe, this week stated: “The Fiscal Supervision Board officials cannot act outside of the law that created the body. If the board were to force the implementation of a fiscal plan that affects people’s essential services, it would be acting contrary to the PROMESA law.” His complaints appear to signify an escalation of tensions between the U.S. territory and the PROMESA Board: Mr. Villafañe added: “The [PROMESA] board is warned that it must act in conformance with the law…The commitment of Governor Ricardo Rosselló is to achieve economies that allow government efficiency, doing more with fewer expenses, without affecting essential services to the people and without laying off public employees.” If anything, Mr. Villafañe added fuel to his fire by criticizing the Board’s new interim executive director, Ramón Ruiz Comas, in the wake of Mr. Ruiz’ radio statement this week that if Gov. Rosselló did not present an acceptable fiscal plan by the end of February, the PROMESA Board would provide its own—and the plan would be deemed the legally, binding plan—in reaction to which, Mr. Villafañe had responded: “To make expressions prejudging a fiscal plan proposal that the board has not yet seen demonstrates on the part of the board improvisation and lack of a collaborative attitude for the benefit of the Puerto Rican people,” adding that “The board must be aware that the federal Congress will supervise the board.” He went on to say that when the Governor presents a fiscal plan, Congress will be aware of the way the board evaluates it.

Mr. Villafañe’s complaints and warnings extend tensions between the board and the U.S. territory: even before the Governor took office in January, a Rosselló official complained that the board was seeking a $2 billion cut in spending. On Feb. 13 the governor rejected the board’s claimed right to review bills before they are submitted to the Puerto Rico legislature. On Jan. 18 the board sent a letter to Gov. Rosselló stating that spending cuts and/or tax raises equaling 44% of the general fund would have to be made in the next 18 months. At its Jan. 28 meeting, board chairman José Carrion, for emphasis, said twice that some governor-proposed changes to the board’s Jan. 18 proposals may be OK, “as long as the ultimate fiscal plan is based on solid savings and revenue projections, a once and done approach, and not simply on hope or predictions that various changes will generate more revenues in the future.”

The Challenge of Post-Insolvency Governance

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eBlog, 2/21/17

Good Morning! In this a.m.’s eBlog, we consider the role of citizens when a municipality emerges from municipal bankruptcy—and at how little effort seems to have been taken for such cities to share with each other. Then we take a gamble at the roulette wheels in Atlantic City, where the third branch of government, the judiciary, is weighing in even as candidates for next year’s Mayoral election from the City Council are announcing.  

The Challenge of Emerging from Chapter 9 Municipal Bankruptcy. San Bernardino Neighborhood Association Council President Amelia Lopez recently asked if the city’s emergence from municipal bankruptcy might mark the moment to change the city from the ground up, or, as Ms. Lopez put it: “Coming out of bankruptcy is an opportunity…The city is looking for direction. We’re here to have a say in that direction.” No U.S. city has ever been in bankruptcy for as long as San Bernardino, so the question she is raising might singularly impact the city’s future. Yet it comes at a time when citizen activism has altered: of San Bernardino’s 60 neighborhoods, 19 or 20 are active, compared to 30 a decade ago. But the Neighborhood Association Council plans to send representatives to a national convention of neighborhood associations in March and to try to work more closely with elected San Bernardino leaders. It would be interesting were the Council to try to contact comparable neighborhood organizations in Stockton, Jefferson County, and Detroit to both learn what efforts had worked—and which had failed.

Thinking about Tomorrow: A City’s Post Insolvency & State Takeover Future? Notwithstanding Atlantic City’s current status as a ward of the State of New Jersey, there appears to be strong interest in the city’s future elected leadership—albeit, at least to date, an absence of substantive proposals from aspiring candidates. Atlantic City Councilman Frank Gilliam yesterday officially jumped into the mayor’s race, joining previously announced candidate Edward Lea.  Mr. Gilliam, a Democrat, kicked off his campaign with his slate of council running mates—where he spoke about addressing high taxes, unemployment, foreclosures, and other issues, vowing brighter days would come under new leadership: “The Atlantic City that we see right now will not be the Atlantic City we will see in the future…There will be prosperity. There will be equality. There will be fairness from the bottom to the top.” Councilmember Gilliam has served on the City Council since 2010; now he joins a crowded primary: he will face Council President Marty Small and Fareed Abdullah in the June Democratic primary, with the winner set to take on Republican Mayor Don Guardian next November. Councilman Gilliam’s running mates are incumbent Councilmen Moisse “Mo” Delgado, George Tibbitt, and candidate Jeffree Fauntleroy II, who are all seeking at-large seats. Last Friday, candidate Abdullah, a substitute teacher and former City Council candidate, said would also be running for Mayor—meaning a three-way Democratic primary, with the winner to challenge incumbent Republican Mayor Don Guardian.

Councilman Gilliam last year voted against a number of proposals to address the city’s finances, including measures to seek bids for services, dissolve the city’s water authority and approve the administration’s fiscal recovery plan to avoid a state takeover. In some cases, he cited a lack of information about the proposals, or in the case of the fiscal plan, not enough time to review the information. In announcing his bid, he noted: “People elected me to vote on what I think is best for them, not what my other colleagues think is best for them…When you give an individual a document five hours before a vote, that doesn’t give me the proper opportunity to have my fellow folks aware that I’m making the best-informed decision…For too long Atlantic City’s politics and the leaders of this city have sucked the blood out of our town…The time for new leadership is right now.”

Fire in the Hole. Aspiring to be an elected leader in a municipality where the state has preempted such authority comes as the challenge of governing an insolvent city has become more complex and challenging in the wake of Atlantic City Superior Court Judge Julio Mendez restraining order early this month barring the State of New Jersey from cutting Atlantic City’s firefighter workforce or unilaterally altering any of their contracts as part of its state takeover—a judicial decision which caused Moody’s Investors Services to be decidedly moody, deeming Judge Mendez’s decision a credit negative for the cash-strapped city. Or, as the crack credit rating analyst for Moody’s Douglas Goldmacher last week noted: “These developments signal that any actions the state takes to reduce the city’s work force or abrogate labor contracts will prompt a legal challenge, leading to considerable delays in the Atlantic City recovery process, a credit negative for the city…The success or failure of the state to implement broad expenditure cuts for Atlantic City is of tremendous import to the city’s credit quality.” Mr. Goldmacher noted that negotiations with the firefighters and other unions would typically be handled by city officials; however, the Municipal Stabilization and Recovery Act legislation approved by New Jersey lawmakers last year enables the state to alter outstanding municipal contracts, an authority which has now been rendered uncertain. Mr. Goldmacher noted that the firefighters’ court challenge could pave the way for other unions to challenge staffing cuts—effectively handcuffing both municipal and state efforts. He wrote that current city revenues are “insufficient” for debt service and routine expenditures making budget cuts the most likely avenue for permanent financial improvement: “Leaving aside the question of constitutionality, extensive litigation will delay negotiations…Even if other unions refrain from filing suit, the state’s negotiations will be materially impacted by the ongoing lawsuit, delaying or even preventing cost-cutting efforts.”

Governing Challenges of Federalism & Severe Fiscal Distress

eBlog, 1/20/17

Good Morning! In this a.m.’s eBlog, we consider the deteriorating municipal fiscal conditions in Connecticut’s central cities, a new twist in New Jersey’s usurpation of municipal governance in Atlantic City, and the ongoing challenges in Puerto Rico where the PROMESA Board has provided new Governor Ricardo Rosselló Nevares additional time to submit a new fiscal plan—albeit a plan potentially complicated by a court ruling, as well as uncertainty with regard to potential changes in direction from Washington where, later this morning, a new Trump Administration takes the reins of power in Washington, D.C.  

Can Connecticut Help to Avert Municipal Bankruptcies? Gov. Daniel Malloy, in his State of the State address this month, stated he wanted to “ensure that no Connecticut city or town will need to explore the avoidable path of [municipal] bankruptcy,” indicating he would be working on an initiative involving statewide restructuring of local aid, especially for schools. His remarks seemed to parallel a new report, “Connecticut’s Broken Cities,” by Stephen Eide of the Manhattan Institute, in which he wrote: “State government is almost certainly going to have to get involved in the case of Hartford…Hartford may need a bailout to restore solvency.” However, the new report also examined the fiscal challenge of three other of the state’s central cities: Bridgeport, New Haven, and Waterbury—cities confronted by nearly $5 billion in OPEB and public pension obligations, estimating their combined annual OPEB liabilities at $120 million, and their unfunded pension liability to be $2.7 billion. The report paints a fiscal picture of municipalities which have the highest property taxes in the state—and the highest per capita municipal debt. Indeed, the rating agencies awarded Hartford two four-notch downgrades last year: Moody’s reduced the city’s rating to junk-level, putting it in the lowest one percent credit rating of all municipalities—even as it cited the city as at risk of further downgrades “over the medium term,” with its analysts noting that: “For the time being, Waterbury, and Bridgeport, and most likely also New Haven, can continue to muddle through without the need for extraordinary support from the state…[but] the same cannot be said for Hartford.” Hartford faces a $48 million gap on a $270 million budget, notwithstanding the steep budget cuts and layoffs the city undertook last year. The city appears to be on the wrong fiscal end of a teeter-totter: its reserves sagged 34% from FY2006 to FY2015; while its debt per capita escalated 78% over the same period, according to the report. Or, as Mayor Luke Bronin describes it: “The city used every trick up its sleeve to try to keep the lights on…I think all of those were mistakes, but in a big sense they’re a symptom of the problem, not the problem itself.” Gov. Malloy attributes the city’s property tax as the key fiscal contributor, whilst Mayor Bronin, the Governor’s former Chief Counsel, has pressed, as we have previously noted, for a regional solution—one that might, for instance, mirror some of the innovative fiscal, regional efforts in the St. Paul-Minneapolis and Denver metro areas. Mayor Bronin believes that a municipal fiscal partnership could include shared services or revising state formulas for education and health funding—a proposal that in some ways fits Connecticut Superior Court Judge Thomas Moukawsher’s order last fall directing the state to revise its state aid to education formula to better serve students in low-income municipalities—an order which Connecticut Attorney General George Jepsen is currently appealing. For his part, Gov. Malloy said a fairer distribution of Connecticut’s state aid to local governments could provide an important lifeline to avert chapter 9 bankruptcies—but that any such aid would mean the state would “play a more active role in helping less-affluent communities – in helping higher-taxed communities – part of that role will be holding local political leadership and stakeholders to substantially higher standards and greater accountability than they’ve been held to in the past: We should do it so that increased aid doesn’t simply mean more spending on local government.”

A Bridge to Local Experience. The New Jersey Department of Community Affairs has hired Atlantic City business administrator Jason Holt to assist in its state takeover of the distressed city, in this case adding a key individual who has worked under Mayor Donald Guardian for the last two years: Mr. Holt is charged with assisting the Department’s Division of Local Government Services in taking on the virtually insolvent city’s fiscal. He seems very well equipped, having served previously as Mayor Guardian’s solicitor, before serving as the city’s business administrator. Indeed, Mayor Guardian yesterday noted: “Over the past three years, Jason Holt has been an integral part of my team…When I originally selected him as my solicitor and then as my business administrator, I did so because of his extreme intellect and professionalism. Obviously, the State sees the same thing in Mr. Holt.” The transition is likely enhanced, because Mr. Holt has worked closely over the last two months with Local Government Services Director Tim Cunningham and Jeffrey Chiesa, the state’s designee in charge of Atlantic City financial matters. Department of Community Affairs spokesperson Lisa Ryan noted: “Mr. Holt’s hire by DLGS formalizes the work he has been doing in practice for the last two months…Mr. Holt will leave the City’s business administrator position, although the work he will do for DLGS will largely be the same as what he is doing now.” She added that Mr. Holt will continue working out of City Hall with his official first day with the DLGS set for next Monday. The state decision, however, has not been met with uniform approval: Assemblyman Chris Brown (R-Atlantic), who has been critical of the state for not producing its own fiscal recovery plan after rejecting the city’s, noted the lack of state transparency: “Without a transparent plan, even if they laid all the state’s experts end to end, they’d still never reach a solution.” In contrast, Mayor Don Guardian, who, in a statement said Mr. Holt has been an integral part of his team, added: “When I originally selected him as my solicitor, and then again as my business administrator, I did so because of his extreme intellect and professionalism. Obviously, the state sees the same thing in Mr. Holt…I look forward to working with him in his new capacity.” Indeed, Mr. Holt brings considerable experience, having previously served as corporation counsel for East Orange, Essex County, where, he provided legal counsel to both the Mayor and City Council, oversaw the complete spectrum of that city’s legal affairs, and played a key role in revamping its public-safety initiatives.

Is There Promise in PROMESA? Just as Puerto Rico enters its 12th year of economic depression, the PROMESA Oversight Board has informed new Governor Ricardo Rosselló Nevares that the Board is willing to grant additional time for the submission of a new fiscal plan—provided the Governor is willing to lay off public employees, reduce the pensions of thousands of retirees, make budget cuts for the University of Puerto Rico and Mi Salud, and extract an additional $1.5 billion from the pockets of corporations and individuals. In addition, the Board indicated it would be willing to extend the stay on litigation provided by PROMESA until May 1st, if Gov. Rosselló Nevares’s administration presents a plan to renegotiate Puerto Rico’ public debt. According to the calculations provided by the Board, this could mean an adjustment of $3 billion to the debt service, with the proposals gleaned from a 14-page letter, which appeared to be a warning to the new Governor that he must balance the budget in the next two fiscal years, and that the proposals for adjustments in public expenditures are “prerequisites” for the Board to certify any plan submitted. In response, Puerto Rico’s representative to the Board, Elías Sánchez Sifonte, immediately stated that Gov. Rosselló Nevares’s administration will seek to meet the Board’s conditions. He also assured that there are other mechanisms to balance the budget and close the fiscal gap—a gap the Oversight Board estimates at nearly $7.6 billion. In its letter, the Board advised the new Governor that his team could submit a new fiscal plan by the end of February, and that the document should be approved by March 15th—all subject to the Governor agreeing to balance the budget with a “one and done” approach, with “no discussion or consideration of short-term liquidity loans or near-term financings,” despite the contention by Gov. Rosselló Nevares and his team that such financing are a prerequisite in order to avoid a government shutdown. The stiff challenges, which the new Governor’s administration agreed were not so different from its own preliminary forecasts, were, nevertheless, perceived as “dramatic,” albeit key to avoid “the total collapse” of the government, blaming the previous Gov. Alejandro García Padilla’s administration’s “unwillingness to cooperate, [and] wasting time in presenting a fiscal plan that did not meet the requirements.”

The Board’s orders will affect not only Puerto Rico’s public employees, government pensioners, and foreign corporations and their tax liabilities, but also holders of Puerto Rican municipal bonds: those bondholders, in every state, could realize a reduction of as much as 80% of the annual payments that Puerto Rico must make—through different issuers—over the next two years. Sacrifices, it appears, will be widespread: the Board also proposed that Gov. Rosselló cut 23% in payroll expenses (about $900 million), which would imply a reduction in the number of public sector employees, an indicator that is already at a historical low; reduced public pensions by 10 percent—in a “progressive manner,” eliminated 100 percent of the subsidies to municipalities (about $400 million), which would be offset by a revision to property taxes, and higher payments by beneficiaries of Puerto Rico’s healthcare plan, all as part of Board recommendations that could, if implemented, save the U.S. territory as much as $1 billion. The Board added it believed the University of Puerto Rico could cut $300 million (27%) from its budget if it hiked tuitions. if it increased the amount of services among students and faculty members, raised the tuition to those who could afford it, and promoted the arrival of international and continental students to take courses in the institution.

The Board noted that to close Puerto Rico’s budget gap, Gov. Rosselló Nevares’s administration would have to meet with Puerto Rico’s municipal bondholders to make voluntary debt renegotiations through Title VI of PROMESA; albeit negotiations with the creditors would not necessarily take place in good terms: according to the numbers the Board released yesterday, the series of cutbacks and changes in the government would, on their own, be insufficient; ergo bondholders—including thousands of Puerto Rican individuals—will have to accept a cut in the debt service, which could amount to $3 billion.

But Here Come da Judge. Yet even as the PROMESA Board and the new Governor were seeking to come to terms with steps critical to fiscal recovery, the third branch of government stepped into the fiscal fray when U.S. District Judge Francisco Besosa handed a victory to holders of Puerto Rico Employment Retirement System (ERS) bonds, marking one of municipal bondholders’ first legal victories since Puerto Rico began defaulting on municipal bond interest payments about a year ago. Judge Besosa has ordered ERS to shift incoming employers’ contributions from its operating account to a segregated account at Banco Popular de Puerto Rico, directing that such funds remain in the segregated account until all parties agree on a different approach or the court orders the money to be moved out of the account. ERS had $3.1 billion in municipal bond debt outstanding as of July 2, 2016, according to the Puerto Rico government—none of it insured; all of it taxable. Normally, Puerto Rico government employers make employer contributions to support the payment of senior pension funding bonds; last year, as part of Puerto Rico’s emergency order 2016-31 in which it declared the ERS was in an emergency, the obligation of the ERS to transfer employer contributions to the bond trustee was suspended. Last November, Judge Besosa ruled against the plaintiffs in the case concerning the ERS bonds. Simultaneously, he had ruled against several other bondholder plaintiffs in other cases—leading some of the municipal bondholders to appeal to the United States Court of Appeals for the First Circuit—which, last week, generally concurred with Judge Besosa’s opinion (see Peaje Investments, LLC v. Alejandro Garcia-Padilla et al, 4th U.S. Court of Appeals, #16-2431, January 11, 2017), affirming the continued stay on bondholder litigation stemming from the Puerto Rico Oversight, Management, and Economic Stability Act in several cases, albeit ordering Judge Besosa to hold a hearing for the arguments of the lead plaintiff, Altair Global Credit Opportunities Fund, and its co-plaintiffs, with the court writing: “We note that the Altair movants’ request for adequate protection here appears to be quite modest. They ask only that the employer contributions collected during the PROMESA stay be placed ‘in an account established for the benefit of movants.’ In light of ERS’s representation that it is not currently spending the funds, but instead simply holding them in an operating account, this solution seems to be a sensible one.” Thus, this week, Judge Besosa ordered such a segregated account to be set up and that all funds not transferred since the start of the PROMESA litigation stay be deposited in the account within five business days; Judge Besosa also ordered that in the future the ERS should transfer the employer contributions to the segregated account no later than the end of each month, noting that the segregated account will be “for the benefit of the holders of the ERS bonds,” adding, moreover, that said funds will simply sit in the account until a court orders otherwise, although he noted it would not preclude the ERS from transferring the employer contributions to the bond trustee for payment of the bonds, as would normally be the case.

Assessing a City’s Fiscal Future

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eBlog, 1/17/17

Good Morning! In this a.m.’s eBlog, we consider—again—the ongoing fiscal and physical challenges to the City of Flint, Michigan in the wake of the disastrous state appointment of an Emergency Manager with the subsequent devastating health and fiscal subsequent crises, before turning to political stirrings in Atlantic City, New Jersey—where, notwithstanding the city’s state takeover, there appears to be rising aspirations with regard to the City Council’s next election.

Out Like Flint. When Michigan Gov. Rick Snyder delivered his State of the State speech a year ago, he addressed Flint’s water crisis by directly speaking to the city’s residents to say: “I am sorry, and I will fix it.” Today, one year later, as Gov. Snyder preps for his seventh annual address to state legislators, filtered and bottled remain the only safe way for its residents—any resolution of the health care crisis and threat caused by the state’s then-appointed Emergency Manager’s actions that led to such life-endangering contamination problems could be more than two years away from reaching every home. The city’s elected officials contend that Gov. Snyder has not secured sufficient funding to address the city’s problems, while the Governor’s office points to the state’s allocation of $234 million in aid and Congressional approval of $170 million in Flint-inspired funding from which the city may be able to tap tens of millions of dollars. In addition, a year-long Michigan Attorney General’s Office investigation into the Flint crisis has resulted in the filing of charges against 13 city and state workers and officials, including former state-imposed Emergency Managers Darnell Earley and Gerald Ambrose. (From April 2014 until the fall of 2015, while Flint was under state control via Gov. Snyder-appointed emergency managers, the city drew its water from the Flint River, but failed to treat it properly to prevent pipe corrosion, thus allowing lead to not only leach into the drinking water, but also damage the pipes themselves, creating a need for replacement.) It was just a year ago, in his annual address to the Michigan Legislature that Gov. Snyder devoted the first 20 minutes of address to outline the mistakes made in Flint—and his battle plan to overcome them, telling legislators: “There can be no excuse—when Michiganders turn on the tap, they expect and deserve clean, safe water…It’s that simple. It’s that straightforward. So that’s what we will deliver. To the families in Flint, it is my responsibility, my commitment, to deliver…I give you my commitment that Michigan will not let you down.”

Indeed, in that year, crews have replaced service lines in 780 homes so far, according to retired Brig. Gen. McDaniel, who heads the replacement program, who yesterday noted: “If we can do 6,000 homes per year, for the next three years, we should address the problem we have.” Under Gen. McDaniel’s timeline, however, completion and restoration of trust in governance will not be complete until late 2019 or early 2020—and, mayhap more worrisome, funding to pay for the work has not yet been secured.

For her part, Flint Mayor Karen Weaver has constantly lobbied the state for more funding, but reports that the response from Gov. Snyder’s office has been disappointing: one of the reasons for the slow movement of her Fast Start replacement program, which was designed to target neighborhoods with seniors, homes with high lead readings, and high concentrations of children age 6 and under who are most vulnerable to lead exposure. Or, as she put it yesterday: “We should have had money right then…We had $500,000 to start…We’re in our third year of not being able to drink our water. Now where does that make sense in the United States of America? No place that I know of.”

Sen. Jim Ananich (D-Flint) reported he would, as a former teacher, give Gov. Snyder an “incomplete.” While crediting the state’s efforts to provide health services and monitoring, he said funding in general is lacking—and the provision of state aid has, at times, been bungled, noting an original state appropriation of $2 million intended to support families facing water shut-off for non-payment: “That plan included a stipulation that in order to get the money, 70 percent of customers, commercial and residential, have to be up to date on payments,” even though customers were being asked to pay for water they could not use safely, so that, as he put it: “To rectify a problem of undrinkable water, the fix is to make people pay or cut them off.” Sen. Ananich and Genesee County health officer Mark Valacak have praised the state’s immediate health efforts targeting Flint’s most vulnerable populations, its youngest children and pregnant women, but have stressed the need to create a database to track the impacts of residents’ exposure to contaminated water, so that there is a critical understanding of potential long-term human impacts—a request, in response to which, the Michigan Department of Health and Human Services last Friday announced there would be a one-year $500,000 grant to Michigan State University for “long-term tracking of residents exposed to Flint water” between April 2014 and now. It would seem the state ought to–at the same time–undertake an effort to examine the impact on Flint’s assessed property values.

Nevertheless, Mayor Weaver and Flint City Councilman Eric Mays are concerned that the state’s efforts have not closely involved local residents, or, as Councilman Mays put it: “We know (Snyder) has another State of the State address coming up…and we’ll see if he spends as much time on this one talking about Flint as he did on that one…But I don’t believe he’s pushed the Legislature to do what they could do.”

Succession? Even in a city taken over by its garden state, there appears strong interest in who might be the next Mayor. Thus, in Atlantic City, Fareed Abdullah, a substitute teacher and former City Council candidate, has thrown his hat into the ring: he will face Council President Marty Small and Councilman Frank Gilliam in the June Democratic primary, where the winner will take on Republican Mayor Don Guardian. Mr. Abdullah reports: “I want to re-do Atlantic City…People feel left out. And we have to make sure that Atlantic City residents’ voices are heard, and that’s what I’m focused on.” He adds that his priorities include reducing taxes, creating jobs, making re-entry programs for those convicted of crimes and youth programs tied to science and technology, and improving police-community relations: “I want to work with private-sector companies throughout the country, and throughout the world really, to bring more businesses to Atlantic City, which in return would reduce our taxes because we will have more ratables…Building up small businesses and absolutely trying to realize that this is what has made Atlantic City great. The barber shops. The corner stores,” he said. “We don’t want people to forget there’s a whole culture in the barber shop.” (Mr. Abdullah has twice run unsuccessfully for City Council (in 2009 and 2013, just missing election by 72 votes in the most recent), after losing the first effort in no small part because of a 1997 cocaine possession conviction.

Municipal Challenges from State Control & Preemption of Local Authority

 

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eBlog, 1/0917

Good Morning! In this a.m.’s eBlog, we consider more outcomes from the Flint drinking water crisis—outcomes which raise issues with regard to the State of Michigan’s Emergency Manager law—and accountability, before taking a run to Atlantic City, a municipality in the midst of a state takeover, and, now, apparently caught between state-mandates to reduce police capacity amid an apparent dramatic surge in public safety concerns. Finally, we note a challenge to the Municipal Securities Rulemaking Board’s so-called pay-to-play rules, under which municipal advisors and broker-dealer firms would be mandated to wait two years before doing business with municipal entities to which they have made political contributions.

Out Like Flint. Michigan Gov. Rick Snyder Friday signed into law new state legislation mandating municipalities in the state to warn residents of dangerous lead levels in drinking water within three days’ notification by the state of contamination, marking the enactment of the first piece of legislation stemming from the Flint water crisis. Gov. Snyder described it as an “important step…This is not the last piece of legislation we should see on this. This is a good start of getting faster notification to the public when there is a water issue.” The bill, sponsored by state Rep. Sheldon Neeley (D-Flint), a former Flint council member, is aimed at strengthening water quality control in Michigan to ensure a water crisis such as Flint’s will not happen in a Michigan municipality again, or, as Rep. Neeley put it: “The water crisis in Flint has left the community and its allies reeling with a sense of urgency, and rightfully so…During this difficult time, I have valued the governor’s partnership in helping to steward legislation that will have a positive impact on the residents of Flint.” Previously, owners or operators of municipal water plants were legally required to notify customers of any noncompliance with state drinking water standards, within 30 days, according to the representative; now, under the new law, operators must issue a public advisory within three business days of notification from the Michigan Department of Environmental Quality. Such alerts may be disseminated via radio or television, notices delivered to customers or advisories posted in conspicuous areas throughout the community. The bill had been adopted unanimously in both the Michigan House and Senate. The new state law comes in the wake of criminal charges filed against more than a dozen government officials related to the Flint water crisis. Last month, the Michigan Attorney General’s Office filed criminal charges against former Flint emergency manager Darnell Earley, former emergency manager Gerald Ambrose, and two former city public works employees. Mr. Earley had served as Flint’s emergency manager from 2013-15, before going on to be named by Gov. Snyder as Emergency Manager for the Detroit Public Schools, where he resigned nearly a year ago in the face of severe criticism. Mr. Earley, who had refused to testify about his role and responsibility with regard to the Flint drinking water crisis, was subsequently charged with false pretenses, conspiracy to commit false pretenses, misconduct in office, and willful neglect of duty while in office–charges which carry up to 20 years in prison.

Recent testing of Flint water suggests lead levels have dropped, but residents in the city of roughly 100,000 residents continue to rely on bottled and filtered water for their daily needs.

A City’s Fiscal and Physical Safety. According to a review of crime data by The Press of Atlantic City, the two-decade long decline in crime in Atlantic city has not only halted, but reversed itself in 2015, according to the Press’s review of New Jersey state crime data, reporting that in 2015, crime increased in nearly every major category, including homicides, rapes, and aggravated assaults—with the homicide increase extending into last year. The city’s violent crime rate is more than 500 percent higher than the statewide average—the murder rate a thousand percent—posing a stark governing challenge as, last week, New Jersey’s Local Finance Board, which is managing the city, alerted the city’s police and fire unions that it would press drastic cuts, including reduced staffing and imposing longer shifts. The Board has the authority to hire and fire employees, authorize raises and promotions, renegotiate service and labor contracts, restructure or pay off debt, approve the municipal budget, and make changes with regard to the delivery of municipal services. The state is seeking to force a restructuring of the city’s police department, including salary reductions, higher health care benefit contributions, moving to 12-hour shifts, and a more aggressive police response to nuisance issues in neighborhoods. Nevertheless, Anthony Marino, a retired executive with the South Jersey Transportation Authority, who has studied Atlantic City’s crime figures, reports that crime statistics have been on the wane since a high in 1989 and that the trend shows Atlantic City is, for the most part, a reasonably safe city, noting that in 1977, before the city had casinos, its crime index, or the total number of the seven categories tracked by State Police, was 4,391. In 1989, it peaked at over 16,000 before declining almost annually. Nevertheless, the apparent turnaround—in addition to the state-mandated changes in the city’s police department could not only limit the city’s capacity to address the seeming turnaround, but also adversely affect tourism and assessed property values.

Paying to Play. Tennessee and Georgia Republican groups are challenging the Municipal Securities Rulemaking Board’s (MSRB) so-called pay-to-play rules under which municipal advisors and broker-dealer firms would be mandated to wait two years before doing business with municipal entities to which they have made political contributions (the pay-to-play rule also prohibits an investment adviser from soliciting contributions for a government official or the official’s political party at the same time the adviser is providing services to the government entity for which the official works.). The two political organizations have filed the suits charging that the rules violate their First Amendment rights; in addition, they claim that the Securities and Exchange Commission (SEC) and MSRB exceeded their authority and have not demonstrated a sufficient legal interest in restricting political contributions. In response, the Campaign Legal Center, in its brief to the 6th U.S. Court of Appeals, argues the rules are important to prevent municipal advisors from engaging in pay-to-play practices—and the rules are needed to address the potential for corruption in the municipal market. The amicus brief opposes attempts by the Tennessee Republican Party, Georgia Republican Party, and New York Republican State Committee seeking to have the court vacate the SEC’s approval of the rule changes.

Last summer, the SEC issued notice that it intends to approve the rules proposed by the MSRB and the Financial Industry Regulatory Authority, noting it would issue orders finding that the self-regulatory organizations’ rules impose “substantially equivalent or more stringent restrictions” on municipal advisors and broker-dealers than its own pay-to-play rule. The Center’s brief notes: “Substantial campaign contributions from a municipal advisor to officeholders with control over awards of municipal advisory business are likely to give rise to quid pro quo exchanges, or at a minimum, the appearance of such exchanges…That is the premise not only of the challenged amendments, but also the underlying rule, which was upheld by the D.C. Circuit.” Under the proposed changes to the rule, municipal advisors, like dealers, are barred from engaging in municipal advisory business with a municipal issuer for two years if the firm, one of its professionals, or a political action committee controlled by either the firm or an associated professional, makes significant contributions to an issuer official who can influence the award of municipal advisory business. As proposed, the modified rule contains a de minimis provision, which allows a municipal finance professional associated with a dealer or a municipal advisor professional to make a contribution of up to $250 per election to any candidate for whom she or he can vote without triggering the two-year ban. This is not a first: there was a previous challenge to an earlier version of Rule G-37 by an Alabama bond dealer in Blount v. SEC after it was first approved for dealers in 1994—a challenge which the U.S. Court of Appeals for the D.C. Circuit rejected, noting, in its opinion, the rule had been “narrowly tailored to serve a compelling government interest.”