Municipal Fiscal & Professional Erosion in Puerto Rico

February 20, 2018

Good Morning! In this morning’s eBlog, we consider the municipal fiscal threats to Puerto Rico’s municipios or municipalities, before turning to the continuing threats to the island’s future of its “brain drain” through the emigration of an increasing number of some of the island’s young professionals.

Severe Revenue Erosion. Since the last revenue quarter, Puerto Rico’s 78 municipios—cities and towns governed under Puerto Rico’s Autonomous Municipalities Act of 1991, which establishes that every municipality (those with populations in excess of 50,000 are designated as incorporated—those with less as incorporated towns: cities provision their own services, while towns typically depend on nearby cities for certain services) and must have a strong mayor form of government with a municipal legislature. All have experienced a consistent undermining of revenues: according to the most recent estimates, that includes a reduction of $56 million which will be reflected this fiscal year relating to the payment of movable and immovable property taxes, with the increasing losses related to business closures and the mass exodus of Puerto Ricans to the mainland, even as the capital and operating costs imposed in the wake of Hurricane Maria have left, in their wake, a fiscal hurricane of their own with, likely, long-term fiscal consequences. Some estimate that the losses related to property taxes have been as much as $55 million just in the last fiscal quarter, according to Javier Carrasquillo, President of the Governing Board of the Municipal Revenue Collection Center (CRIM), and the current Mayor of Cidra, a municipio known as La Ciudad de la Eterna, or the City of Eternal Spring.

CRIM is itself governed by a board composed of the President of GDB, the Commissioner of Municipal Affairs, and seven mayors of municipios: those elected mayors hold office for a term of four years (and not more than two consecutive terms) and until their successors have been appointed. CRIM’s principal offices are located at State Road 1, Km. 17.2, San Juan, Puerto Rico 00926. In addition, CRIM operates nine regional centers located in the municipalities of Aguadilla, Arecibo, Bayamón, Caguas, Carolina, Humacao, Mayagüez, Ponce, and San Juan.

CRIM estimated revenues for this fiscal year at $827,148,824 after the discount of the municipal Special Additional Contributions funds for the repayment of municipalities debts and the 5% for CRIM operational expenses. (Revenues of the municipalities of Puerto Rico are principally derived from ad valorem property taxes and Commonwealth contributions: Act No. 83 authorizes municipalities to impose the following property taxes: the Special Additional Tax, without limitation as to rate or amount, which as mentioned above is available primarily for the payment of a municipality’s general obligation debt; and a basic property tax to fund operating expenses up to a maximum amount of 6% of the assessed valuation on all real property within such municipality and up to a maximum amount of 4% of the assessed valuation on all personal property within such municipality (collectively, the “Basic Tax”)). Act No. 83 also continued in effect a special property tax imposed by the government of 1.03% of the assessed valuation of all real and personal property within Puerto Rico (other than exempted property) (the “Special Tax”) for the exclusive purpose of servicing the government’s general obligation debt. A portion of the Basic Tax levied by a municipality may be transferred to other municipalities by virtue of the operation of the Matching Fund.) In addition, under Act No. 64, each municipality is required to levy the Special Additional Tax in such amounts as shall be required for the payment of its general obligation municipal bonds and notes; principal of and interest on all general obligation municipal bonds and notes and on all municipal notes issued in anticipation of the issuance of general obligation bonds also constitute a first lien on the municipality’s Basic Tax. Accordingly, the municipality’s Basic Tax would be available to make debt service payments on general obligation municipal bonds and notes to the extent that the Special Additional Tax, together with moneys on deposit in the municipality’s Redemption Fund, are not sufficient to cover such debt service. Similarly, Act No. 83 provides for an exemption from the Special Additional Tax and Basic Tax on the first $15,000 of assessed valuation of primary personal residences of individuals (the so-called “$15,000 Real Property Exemption”) and an exemption from personal property taxes on the first $50,000 of assessed valuation of property owned by businesses that have gross revenues of less than $150,000 per annum (the “$50,000 Personal Property Exemption”). Recognizing the importance of the real and personal property tax for the fiscal requirements of the municipalities, the government makes annual appropriations to the municipalities from its General Fund as compensation for the amount of the revenues foregone owing to these exemptions. However, under Act No. 83, such appropriations will not be provided to cover any amount of property taxes, which any municipality elects to forgive for primary personal residences registered for the first time after January 1, 1992, and personal property of certain businesses registered for the first time after July 1, 1991.

Acts 83 and 80, which the Legislature approved in 1991, also provide for the following central government contributions to the municipalities: 2.50% of the net internal revenues of the General Fund for fiscal year 2004-2005 and thereafter; 35% of the annual net revenues derived from the operation of the additional lottery system created by Act No. 10, of the Legislature of Puerto Rico (approved in 1989). There are also so-called “Designated Commonwealth Contributions,” which provide an annual amount from the central governments’s General Fund to compensate the municipalities for the $15,000 Real Property Exemption and the $50,000 Personal Property Exemption; and an annual amount from the Commonwealth’s General Fund to compensate the municipalities for the exemption of 0.20% of the assessed valuation of all taxable property within the municipalities (the amounts in the clauses, with the exception of the annual contributions from the Commonwealth as compensation to the municipalities for the Special Additional Tax portions of the $15,000 Real Property Exemption and the $50,000 Personal Property Exemption (defined as the “Commonwealth Contributions”). Act 80, for its part, established the Municipal Matching Fund, into which CRIM is required to deposit with GDB the total amount collected on account of Basic Taxes and the Commonwealth Contributions. Certain funds in the Matching Fund (the “Equalization Moneys”) are available to CRIM in order to guaranty that each municipality will receive revenues in an amount at least equivalent to that received from Equalization Moneys in the previous fiscal year. The Equalization Moneys are comprised of: the Designated Commonwealth Contributions; and a portion of the Basic Tax equal to 1% of the assessed value of personal property and 3% of the assessed value of real property collected by each municipality (the “Designated Basic Tax”)—with all All Equalization funds distributed to the municipalities as follows: first, as may be required so that each municipality receives at least the same amount of aggregate revenues received during the previous fiscal year on account of Equalization Moneys, using first the Designated Commonwealth Contributions, and then, to the extent necessary, the Designated Basic Tax (it has never been necessary to use the Designated Basic Tax to perform such equalization); second, Designated Basic Taxes remaining in the Equalization Moneys are allocated to the municipalities in proportion to the amount by which revenues from their Basic Taxes in such fiscal year exceed their revenues from Basic Taxes in the previous fiscal year; and third, to all municipalities based on certain economic and demographic criteria specified in Act No. 80. The remaining Matching Fund moneys are returned to the municipalities whose Basic Tax levies gave rise to such remaining moneys, and are used, with their other revenues, to meet operating expenses. (Prior to July 1, 1993, the Secretary of the Treasury collected all municipal taxes upon real and personal property, including intangible property) in each municipality; since July 1, 1993, and pursuant to Act No. 80, CRIM has undertaken all of the Secretary of the Treasury’s responsibilities relating to the collection and distribution of such taxes. CRIM is responsible for the appraisal, assessment, notice of imposition, and collection of all municipal property taxes. All property taxes collected by CRIM are deposited at GDB, which acts as fiscal agent to the government and its municipalities. Real property is assessed by CRIM and personal property is self-assessed. These assessment values have not been adjusted to reflect the various applicable real property and personal property exemptions, such as those described under Municipal Revenues above and other exemptions granted under Puerto Rico tax incentives laws. As mentioned above, no real property reassessment has been made in Puerto Rico since 1958. All real property taxes are assessed on the basis of the replacement cost of the related real property in fiscal year 1957-58 values, regardless of when such property was constructed.

Unsheltered from the Storm. For some municipios, the cut in their remittances in the wake of Hurricane Maria reached as much as $6 million, as is the case of San Juan; however, in percentage terms, the most affected were Guayanilla and Manatí, with a reduction of 11.7% and 11.4%, respectively—meaning those municipios were forced to make signal fiscal adjustments even as expenses were swiftly rising. Indeed, as Mr. Carrasquillo had already warned, there would be a $30 million reduction from lotteries, even as collections between July and December were projected to be down by 15%. And even that amount has been assessed as only a start: In addition to the $ 56 million, municipios will have to deduct the money they have stopped receiving due to the elimination of the Sales and Use Tax on processed foods approved by the government in the wake of Hurricane Maria—as well as the exemption of the SUT collection for small businesses, with sales volumes for less than a million dollars, which was applied between November 20 and December 31. (Usually that 1% of SUT goes to municipalities to be used for essential services, such as garbage collection.) Mr. Carrasquillo said that the impact of the SUT exemption will not be measurable until they receive the Municipal Finance Corporation report; nor will the reduction which municipalities will have in their public coffers from the licenses payment: “Businesses file the license form once the economic activity year passed, so that will not be defined until January of 2019. We can only speculate now,” he added—with his own municipio having experienced the closure of some 123 businesses in the wake of the storm.

The current budget of Caguas, a municipio of about 142,000, is $ 92 million, an amount which reflects a reduction of $26,000 in the wake of rental space declines, as well as business related income losses and a court loss after an anticipated gain from a municipal initiative imposed on businesses which generated more than $3 million annually was struck down by the courts. In the municipio, some 25% of the nearly 5,000 shops remain closed, meaning, as the Mayor worries: “I cannot guarantee essential services for the population if the funds we need do not come.” The president of the Mayors Federation, Carlos Molina, estimated the direct impact in his municipality, Arecibo, to be $5 million, including the 20% in CRIM reduction. Thus, he reflects, municipios have no choice but to reduce operational expenses and establish consortiums to provide services to achieve lower costs: “We have to be realistic about how the island lives today, but we have to look for options and not wait for a miracle to happen.”

Mayor Rolando Ortiz of Cayey adds that the urgency of the municipalities is no longer limited to furloughs, but to shutdowns and closings: “There is no way out, because the municipal institution is misunderstood by the Governor. They see how effective we were before, during and after the hurricane, but now, when apparently that crisis has already passed and we say ‘we want to help,’ they are not there.” In his city, the CRIM reduction will be $700,000: “When they reduce money for municipalities, they are taking money from the most needy people of the island. Poverty is increasing.” But hope for a turnaround, in the wake of the PROMESA Board’s non-certification of Senate Bill 774 which would create a $100 million Municipal Recovery Fund, has been dashed.

Undercutting Hopes for a Recovery from the Storm. In the aftermath of Hurricane Maria, Florida Hospital, which operates 26 hospitals throughout the Gator state, the hospital has recruited as many as 45 health care professionals from Puerto Rico, including nurses, medical technologists, and nutrition specialists. With a mainland nursing shortage and an aging U.S. population, which is fueling demand for health care services, estimates are that the U.S. will need to produce over one million new registered nurses by 2022 to fill newly created jobs and replace a legion of soon-to-be retirees, meaning, that Florida, the premier retiree state in the nation, commenced an international recruitment program for nurses a decade ago, but, in recent years, has looked increasingly at Puerto as one of its most promising pipelines for talent. Prior to Hurricane Maria, about 3% of Florida Hospital’s nurses came from Puerto Rico as a growing number of its residents migrated to the U.S. to escape the economic problems plaguing the island; however, that percentage is expected to double; in fact, Florida Hospital has even developed an outreach program, partnering with community groups to find and help healthcare professionals from Puerto Rico find jobs. The hospital also fast tracks the hiring process: interviews, applications, as well as getting the state requirements for nursing are all expedited. In nearby Missouri, CoxHealth, a nonprofit regional healthcare system operating six hospitals and 80 clinics, initiated a nurse recruitment effort in Puerto Rico last spring, describing recruitment as an easier option compared to other countries because of work visa, language, and other issues. For nursing professionals from Puerto Rico, where pay can be $14.15 an hour, long shifts, and attending to as many as 15 patients at a time because of hospital was understaffing, the move to Florida would seem almost a no-brainer: the pay in Florida is $25.71 per hour—and the case load far lower. Mary Perrone, the international recruiter for Florida Hospital, said 20 more nurses from Puerto Rico will finish training and be on staff in the coming weeks; CoxHealth sent a recruiting team to Puerto Rico last weekend for on-site interviews with nursing candidates. If all goes well, it hopes to hire 30 more nurses soon.