The Thin Line Between Fiscal & Physical Recovery Versus Unsustainability.

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Good Morning! In this a.m.’s eBlog, we consider, Detroit’s remarkable route to fiscal recovery; then we turn to challenges to a municipality’s authority to deal with distress—or be forced into chapter 9 municipal bankruptcy in Pennsylvania, before returning to the stark fiscal challenges to Puerto Rico’s economic sustainability, and then the taxing challenge to Scranton’s efforts for a sustainable fiscal recovery.

Campaigning & Turning around the Motor City’s Fiscal Future. Detroit Mayor Mike Duggan, last week, at the annual Mackinac Policy Conference spoke about the racially divisive public policies of the first half of 20th century which, he said, had helped contribute to Detroit’s long slide into municipal bankruptcy—indeed, the largest municipal bankruptcy in U.S. history—but one which he said had helped lay the foundation for a conversation about how Detroit could grow for the first time in half a century without making the mistakes of the past that had, inexorably, led to an exodus of nearly 1.2 million from 1956 to its chapter 9 bankruptcy—noting: “If we fail again, I don’t know if the city can come back.” His remarks, mayhap ironically, came nearly a half century from the 1976 Detroit riot, a riot which  began downtown and was only curtailed after former U.S. President Lyndon Johnson ordered the 82nd and 101st Airborne Divisions to intervene, along with then Michigan Gov. George Romney ordering in the Michigan Army National Guard. The toll from the riot: 43 dead, 1,189 injured, 2,000 of the city’s buildings destroyed, and 7,200 arrests.  

But, rather than discussing or issuing a progress report on the city’s remarkable turnaround, Mayor Duggan instead spoke of the city’s racial tensions that had sparked that riot, in many ways, according to the Mayor, coming from the housing policies of former President Franklin Roosevelt—a policy which placed or zoned blacks in the city into so-called “red zones,” thereby creating the kind of racial tensions central to the 1943 and 1967 riots—a federal policy adopted in 1934 which steered federally backed mortgages away from neighborhoods with blacks and other racial minorities. Indeed, the Mayor quoted from a 1934 Federal Housing Administration manual that instructed mortgage bankers that “incompatible racial groups should not be permitted to live in the same communities;” the manual also instructed housing appraisers to “predict the probability of the location being invaded by…incompatible racial and social groups…, so that, as the Mayor added: “If you were adjacent to a minority area, your appraisal got downgraded.”

Thus, federal housing policies were a critical component contributing to the historic white and middle class flight from Detroit to its suburbs—suburbs where federal housing policies through the Federal Housing Administration subsidized more than half of the mortgages for new construction—or, as Mayor Duggan described the federal policies: “There was a conscious federal policy that discarded what was left behind and subsidized the move to the suburbs: This is our history, and it’s something we still have to overcome.” His blunt Mayoral message to the business community was that the city’s hisgtory of race and class segregation had to be acknowledged—or, as he put it: “I just wanted to deliver a message to the broader community to say, ‘Look, there’s a place for you to come invest in Detroit. Here are the ground rules, here is the reasoning behind the ground rules… and if you want to come in and invest in the city, move into the city and be part of it with the understanding that the recovery includes everybody, we’d love to have you: The African-American community voted for me, and I can’t tell you what an enormous responsibility that feels like.” Thus, the Mayor made clear that he and the Detroit City Council have been focused on governing mechanisms that ensure longtime Detroiters are not displaced by downtown and Midtown revitalization—enacting an ordinance mandating that housing developments in receipt of city tax subsidies have at least 20 percent of the units classified as affordable housing for lower-income residents, and mandating that 51% of the person-hours for construction of the new Little Caesars Arena be performed by Detroiters: “We’re going to fight economic segregation…It would be so easy in this city to have one area be all wealthy people and one area all poor people.”

The Challenge of Municipal Fiscal Recovery. Judge James Gibbons of the Lackawanna, Pennsylvania County Court of Common Pleas last week heard the City of Scranton’s preliminary arguments in response to a lawsuit by eight taxpayers seeking to bar the municipality from tripling its local services tax. The suit, filed March 2nd, contends that Scranton has been collecting taxes which exceed the legal issuance; it calls for the issuance of a mandamus against the city. In response, city attorneys, note that, as a home rule charter city, Scranton is not subject to the cap that Pennsylvania’s Act 511 stipulates. (The taxing legal and political regime, as we have previously noted, in one of the nation’s oldest cities, comes in the wake of its action to raise the levy from $52 to $156 for every person working within the city limits who earns at least $15,600, with the city justifying the action under Pennsylvania Act 47 and municipal planning code.) The taxpayer group, led by independent Mayoral candidate Gary St. Fleur, in seeking a mandamus action, has charged that lowering taxes across the board is the only way for the city to be able to fiscally recover.

Mr. St. Fleur, an independent candidate for mayor, has initiated a ballot measure to force 76,000-population county seat Scranton into chapter 9 municipal bankruptcy, citing a Wells Fargo report from October 2016, which found that a 2014 audit of Scranton revealed $375 million in liabilities and $184 million in unfunded non-pension post-retirement public pension benefits to government employees. (Mr. St. Fleur’s group, last February, had also objected to the city’s annual petition to the court to raise the tax—an objection rejected by visiting Judge John Braxton—a decision which, unsurprisingly, prompted the taxpayer group to initiate its own suit, notwithstanding that Scranton is a home-rule community, so that, in Pennsylvania, it has the authority to levy taxes.) Unsurprisingly, the anti-tax challengers’ attorney, John McGovern, counters that Act 511, which, when enacted 52 years ago, authorized the local Earned Income Tax, which authorizes municipalities and school districts the legal authority to levy a tax on individual gross earned income/compensation and net profits (the tax is based on the taxpayer’s place of residence or domicile, not place of employment) is separate from the Pennsylvania personal income tax. He charges that the Act has two “very specific” sections which cap how much the City of Scranton can tax, charging: “Call it a duck or a goose, call it a rate or a cap, but for the city to say it can tax whatever it wants, that alone is dangerous and absurd,” adding: “At this point, we’re dealing with 2017, and the city is spending like a drunken sailor…State law clearly states there is a cap to taxation through the Act 511 law…If we do not win, that would allow any city to raise taxes in any amount it wants.”

In contrast, David Fiorenza, a Villanova School of Business finance Professor and former CFO of Radnor Township, noted: “Scranton has made progress from three years ago, in part due to the renegotiating of some city union contracts and the low-interest rates on debt…The challenges this city will face will be the uncertainty of the state and federal budget as it relates to school funding and other funds that have been relied on for some many years.” Kevin Conaboy, whose firm is representing the city, told the court the city may raise its taxes under the state’s home-rule provisions, and he noted that Pennsylvania’s home rule provisions supersede a cap in the state’s Act 511 local tax enabling act. Moreover, Scranton city leaders have deemed the revenue increase essential for Scranton’s recovery under the state-sponsored Act 47 workout for distressed communities, to which Scranton has been subject since 1992.

Is the Bell Tolling for Act 47? The case is re-raising questions with regard to the effectiveness of the state’s municipal fiscal distress law, Act 47, a program which some critics charge has become an addiction rather than a cure. Villanova School of Business Professor David Fiorenza, referring to a 2014 change to the state enabling law, believes municipalities stay in the program for too long: “Act 47 is effective, but continues to present a problem as cities are able to request an extension after the five-year time period has expired…A five-year time frame is sufficient for a municipality to assess their financial situation and implement any changes. However, if the economy enters a recession during this time period, it will impede their financial progress.”

Physical & Fiscal Atrophy. Puerto Rico has lost two percent of its people in each of the past three years—but a two percent which in fiscal terms is far more grave from a fiscal perspective: the two percent, according to the insightful fiscal wizards at Federal Reserve Bank of New York, means that “If people continue to leave the island at the pace that has been set in recent years, the economic potential of Puerto Rico will only continue to deteriorate.” That outflow is comparable to 18 million Americans emigrating from the 50 states: it marks nearly a 12% drop: some 400,000 fewer Puerto Ricans today compared to 2007—meaning, increasingly, a U.S. territory entrapped in a fiscal tornado: unemployment is at 11.5%, so, unsurprisingly, the young and mobile are leaving the island behind. With unemployment at 11.5%, Puerto Rico in a quasi-chapter 9 municipal bankruptcy, federal law discriminating against the territory’s economy, and its municipalities unable to access chapter 9—the $74 billion accumulated debt and quasi-federal takeover has created incentives for more and more Puerto Ricans, from all economic levels, to leave—creating a vicious fiscal cycle of reduced government revenue, but ever-increasing debt: Puerto Rico’s municipal bond debt has grown 87 percent just since 2006—making the increasing obligations a further incentive to emigrate.

The PROMESA Board’s proposed plan to revert to fiscal sustainability does not appear to address the physical demographic realities: it assumes the population will shrink just 0.2 percent each year over the next decade, relying on that projection as the basis for its projections of tax receipts and economic growth—projections which Sergio Marxuach, Public Policy Director at the Center for the New Economy in San Juan, generously describes as: “[R]eally, really optimistic.” The harsh reality appears to be that the growing earnings disparity between Puerto Rico and the continental U.S. is so stark that any family focused on its health, safety, and financially viable future—in a situation of today where the Puerto Rican government has closed schools to save money—means that teachers can double or triple their earnings if they move to the mainland: doing that math adds up to younger generations of child-bearing age being increasingly likely to leave Puerto Rico for the mainland. Coming on top of Puerto Rico’s more than a decade-long population decline, it seems that, more and more, for those who can afford it, the option of leaving is the only choice—meaning, for those who cannot afford to—the Puerto Rico left behind could become increasingly older and less fiscally able to construct a fiscal future.

Municipal Fiscal Accountability

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eBlog, 03/31/17

Good Morning! In this a.m.’s eBlog, we consider the ongoing recovery efforts in Atlantic City after its “lost decade,” before venturing inland to one of the nation’s oldest cities, Wilkes-Barre, Pennsylvania (founded in 1769) as it confronts the challenges of an early state intervention program, and, finally, to Southern California, where the City of Compton faces singular fiscal distrust from its citizens and taxpayers.  

A Lost Fiscal Decade? Atlantic City’s redevelopment effort appears to be gathering momentum following a “lost decade” which featured the closing of five casinos, a housing crisis and major recession, according to a new report released by the South Jersey Economic Review, with author Oliver Cooke writing: “The fact remains that Atlantic City’s redevelopment will take many years…The impact of the local area’s economy’s lost decade on its residents’ welfare has been stark.” The study finds the city to be in recovery—to be stable, but that it is still in critical condition with some work to do.  Nevertheless, its vital signs from developers and its improving economy are all good: that is, while the patient may not regain all its previous strength and capability,  it can thrive: it is “over(cost),” and needs to lose some of the fat it built up by going on a (budget) diet—a road to recovery which will remain steep and tortuous, because it lacks the fiscal capacity it had 15 or 20 years ago—and has to slim down to reflect it.  That is, the city will have to stress itself more in order to get better.  

The analysis, which was conducted in conjunction with the William J. Hughes Center for Public Policy at Stockton University, notes that vital signs from developers and its improving economy are in good condition—maybe even allowing the city to thrive, even if it is unable to regain all its previous strength and fiscal capacity—put in fiscal cookbook terms: Atlantic City is over(cost)weight and needs to lose some of the fat it built up by going on a (budget) diet.  The report also noted that Atlantic City is on track with some positive developments, including the decision at the beginning of this month by Hard Rock International to buy and reopen the closed Trump Taj Mahal property, as well as a recent $72 million settlement with the Borgata Hotel Casino & Spa related to $165 million in owed tax refunds. Mr. Cooke also highlighted other high-profile projects underway, including the reopening of the Showboat casino by developer Bart Blatstein and a $220 million public-private partnership for a new Stockton University satellite residential campus. Nonetheless, he warned that Atlantic City still faces a deep fiscal challenge in the wake of the loss to the city’s metropolitan area of more than 25,000 jobs in the last decade—and its heavy burden of $224 million in municipal bond debt, tied, in large part, to casino property tax appeals. Ultimately, as the ever insightful Marc Pfeiffer of the Bloustein Local Government Research Center and former Deputy Director with the state Division of Local Government Services, the city’s emergence from state control and fiscal recovery will depend on the nuances of the that relationship and whether—in the end—the state imposed Local Finance Board acts with the city’s most critical interests at heart.  

Don’t Run Out of Cash! Wilkes-Barre, first incorporated as a Borough in 1806, is the home of one of Babe Ruth’s longest-ever home runs. It became a city in 1871: today it is a city of over 40,000, but one which has been confronted by constant population decline since the 1930s: today it is less than half the size it was in 1940 and around two-thirds the size it was in 1970. It is a most remarkable city, made up of an extraordinary heritage of ethnic groups, the largest of which are: Italian (just over 25%), Polish (just under 25%), Irish (21%), German (17.9%) English (17.1%) Welsh (16.2%) Slovak (13.8%); Russian (13.4%); Ukranian (12.8%); Mexican (7%); and Puerto Rican (6.4%). (Please note: my math is not at fault, but rather cross-breeding.) Demographically, the city’s citizens and families are diverse: with 19.9% under the age of 18, 12.6% from 18 to 24, 26.1% from 25 to 44, 20.8% from 45 to 64, and 20.6% who are 65 years of age or older. The city has the 4th-largest downtown workforce in the state of Pennsylvania; its family median income is $44,430, about 66% of the national average, and an unemployment rate of just under 7%. The municipality in 2015 had a poverty rate of 32.5%, nearly double the statewide average. Last year, the City of Wilkes-Barre was awarded a $60,000 grant through the Pennsylvania Department of Economic Development (DCED) Early Intervention Program (EIP) to develop a fiscal, operational and mission management 5 year plan for the city—from which the city selected Public Financial Management (PFM) as its consultant to assist in working with the city on its 5 year plan—and from which the city has since received PFM’s Draft Financial Condition Assessment and Draft Financial Trend Forecasting related to the city’s 5 year plan. As part of the intervention, two internal committees were created to develop new sources of revenue for the city. The Revenue Improvement Task Force is comprised of employees from Finance, Tax, Health, Code, and Administration and was directed to analyze and improve upon existing revenue streams; the Small Business Task Force was designed to develop guidance for those interested in opening small businesses in Wilkes-Barre and is comprised of employees from Zoning, Health, Code, Licensing, and Administration. Overall, Mayor Anthony “Tony” George and his administration are confident that they have made significant progress is restoring law and order via the city’s goals of strengthening intergovernmental relationships, improving public safety, fixing infrastructure, fighting blight, restoring and improving city services and achieving long-term economic development.

Nevertheless, the quest for fiscal improvement and reliance on consultants has proven challenging: some of PFM’s proposed options to address city finances have caused a stir. City council Chairwoman Beth Gilbert and City Administrator Ted Wampole, for instance, agreed privatizing the ambulance and public works services as a cost-saving measure was one of the most drastic steps proposed by The PFM Group of Philadelphia, with Chair Gilbert noting: “I stand vehemently against any privatization of any of our city services, especially as an attempt to save money;” she warned the city could end up paying more for services in the long run, and residents could receive less than they get now—adding: “If privatization is on the table, then so is quality.” The financial consultant hired last year for $75,000 to assist the city with developing a game plan to fix its finances under the state’s Early Intervention Program was scheduled to present the options at a public meeting last night at City Hall. PFM representatives, paid from the combination of a $60,000 state grant and $15,000 from the city, have appeared before council several times since December.

Gordon Mann, director of The PFM Group, last night warned: “If the gunshot wound to the city’s financial health doesn’t kill it, the cancer will: both need to be treated, but not at the same time…You need to address the bullet wound, and you need to put yourself in the position to address the cancer.” Mr. Mann, at the meeting, provided an update on where the city stands and where it’s going if nothing is done to address the municipality’s structural problems of flat revenues and escalating expenses for pensions, payroll and long-term debt; then he identified a number of steps to stabilize the city and balance its books, beginning with: “Don’t run out of cash,” and “[D]on’t bother playing the blame game and pointing the finger at prior administrations either,…It may not be your fault, but it is your problem.”

Wilkes Barre is not unlike many of Pennsylvania’s 3rd class cities (York, Erie, Easton, etc.), all in varying degrees of fiscal distress, albeit with some doing better than others. The municipal revenues derived from the property tax and earned income tax will simply not sustain a city like Wilkes Barre—that it, unless and until the state’s municipalities have access to collective bargaining/binding arbitration and pension reform: the current, antiquated revenue options leave the state’s municipalities caught between a rock and a hard place. Worse, mayhap, is the increasing rate of privatization—where an alarming trend across the Commonwealth of communities selling off assets (water, sewer, parking, etc.), more often than not to plug capital into pensions, is, increasingly, leaving communities with no assets and with no pension reform facing the same issue in the future. 

Not Comping Compton: Corruption & Fiscal Distress. In Compton, California, known as the Hub City, because of its location in nearly the exact geographical center of Los Angeles County, the City of Compton is one of the oldest cities in the county and the eighth to incorporate.  The city traces its roots to territory settled in 1867 by a band of 30 pioneering families, who were led to the area by Griffith Dickenson Compton—families who had wagon-trained south from Stockton, California in search of ways to earn a living other than in the rapidly depleting gold fields, but where, the day before yesterday, the city’s former deputy treasurer was arrested for allegedly stealing nearly $4 million from the city. FBI agents arrested Salvador Galvan of La Mirada on Wednesday morning, as part of a federal criminal complaint filed Tuesday, alleging that, for six years, Mr. Galvan skimmed about $3.7 million from cash collected from parking fines, business licenses, and city fees: an audit found discrepancies ranging from $200 to $8,000 per day. Mr. Galvan, who has been an employee of the city for twenty-three years, has been charged with theft concerning programs receiving federal funds. If convicted, he could face up to five years in prison. As Joseph Serna and Angel Jennings of the La Times yesterday wrote: “The money adds up to an important chunk of the budget in a city once beset with financial problems and the possibility of [municipal] bankruptcy.” Prosecutors claim that one former city employee saw all these payments as an opportunity, alleging that the former municipal treasurer, over the last six years, skimmed more than $3.7 million from City Hall, taking as much as $200 to $8,000 a day—small enough, according to federal prosecutors, to avoid detection, even as Mr. Galvan’s purchase of a new Audi and other upscale expenses on a $60,000 salary, raised questions.

The arrest marks a setback for the Southern California city which has prided itself in recent years for its recovery from some of the crime, blight, and corruption which had threatened the city with municipal insolvency—or, as Compton Mayor Aja Brown noted: the allegations “challenge the public’s trust.”  Mayor Brown noted the wake-up call comes as the city has been working in recent months to improve financial controls and create new processes for detecting fraud—even as some of the city’s taxpayers question how the city could have missed such criminal activity for so many years. The Los Angeles County Sheriff’s Department had arrested Mr. Galvan last December in the wake of City Treasurer Doug Sanders’ confirmation with regard to “suspicious activity” in a ledger discovered by one of his employees: his position in the city involved responsibility for handling cash: as part of his duties, he collected funds from residents paying their water bills, business licenses, building permits, and trash bills. According to reports, Mr. Galvan maintained accurate receipts of the cash he received for city fees, but he would submit a lower amount to the city’s deposit records and, ultimately, on the deposit slips verified by his supervisors and the banks, according to federal prosecutors. Indeed, an audit which compared a computer-generated spreadsheet tracking money coming in to the city with documents Mr. Galvan prepared made clear that he had commenced skimming cash in 2010—starting slowly, at first, but escalating from less than $10,000 to $879,536 by 2015, a loss unaccounted for in the city’s accounting system. While Mr. Galvan faces a maximum of 10 years in federal prison, if convicted, the city faces a trial of public trust—or, as Mayor Brown, in a statement, notes: “Unfortunately, the actions of one employee can challenge the public’s trust that we strive daily as a City to rebuild…The alleged embezzlement and theft of public funds is an egregious affront to the hard-working residents of Compton as well as to our dedicated employees. The actions of one person does not represent our committed City employees who — like you — are just as disappointed.”

The Different Roads out of Municipal Bankruptcy

eBlog, 1/25/17

Good Morning! In this a.m.’s eBlog, we consider yesterday’s guilty plea from the former Mayor of Pennsylvania’s capitol, Harrisburg, for actions he had taken as Mayor which plunged the city to the brink of chapter 9 bankruptcy; then we consider Detroit Mayor Mike Duggan’s announcement that a majority of Detroiters will see a reduction in their property tax obligations—a sign of the signal fiscal turnaround. Then we head into the icy blast of Winter in Pennsylvania, where the former Mayor of Harrisburg has pleaded guilty to stealing city-purchased artifacts, before veering south to note Puerto Rico Gov. Ricardo Rosselló has signed into law an extension of Act 154’s tax on foreign corporations.  

Public Mistrust. Former Harrisburg, Pa., Mayor Stephen Reed pleaded guilty Monday to 20 counts of theft  for stealing artifacts purchased by the city in Dauphin County court Monday, with the outcome coming in the wake of negotiations with the state Attorney General’s office. The 20 counts reflects a dramatic reduction of criminal counts from the original more than 470, including many tied to fiscal decisions during his service as Mayor, a period which had propelled the city to the verge of chapter 9 municipal bankruptcy—and a leftover severe set of fiscal challenges still bedeviling the state capitol. The former mayor, in his comments to the press after the proceeding, described it as “gut-wrenchingly humiliating.” The Patriot-News of Harrisburg reported that Mr. Reed, who served as mayor from 1982 to 2009, admitted to taking 20 historic artifacts, but said he had no criminal intent. Judge Kevin Hess scheduled a sentencing hearing for Friday in the Dauphin County Court of Common Pleas in Harrisburg. The trial commenced in the wake of then Pennsylvania Attorney General Kathleen Kane in July of 2015 announcing the indictment of the former Mayor: prosecutors asserted he had diverted municipal bond proceeds, notably related to an incinerator retrofit project, to a special projects fund he allegedly used to purchase as many as 10,000 Wild West artifacts and other “curiosities” for himself—including a $6,500 vampire hunting kit—a series of disclosures which contributed to the city’s descent into receivership due to municipal bond financing overruns related to an incinerator retrofit project; the Harrisburg City Council filed for chapter 9 municipal bankruptcy in October of 2011, notwithstanding the objection of then-Mayor Linda Thompson; however, a federal judge two months later negated the filing, and a state-appointed receivership team pulled together a recovery plan approved by the Commonwealth Court of Pennsylvania in September of 2013. Yesterday, Christopher Papst, author of the book Capital Murder an Investigative Reporter’s Hunt for Answers in a Collapsing City, noted: “Stephen Reed’s guilty plea concerning his stealing of city artifacts is a good start for the people of Harrisburg who deserve answers and justice. But far more needs to be done and more people need to be held accountable for the city’s financial collapse…A strong message must be sent that any impropriety concerning municipal financial dealings will not be tolerated.”

Rebalancing Motor City’s Tax Wheel Alignments. Detroit Mayor Mike Duggan has announced that about 55% of residential property owners in the city will see a reduction in their property tax obligations later this year. His announcement came in the wake of the city’s completion of a three-year reappraisal project, as required under Detroit’s plan of debt adjustment approved by the U.S. Bankruptcy Court. According to Mayor Duggan, about 140,000 residents will realize an average reduction of $263 on their tax bills, while 112,000 will see an average increase of $80. The reappraisal process, unlike past years, assessed each property individually. Tax assessments were mailed Monday. The city, despite boasting one of the broadest tax bases of any city in the U.S., (its municipal income taxes constitute the city’s largest single source of revenues), nevertheless have been constrained by the state: only Chrysler and DTE Energy pay business taxes; moreover, state law bars cities from increasing revenues by adding a sales tax or raising residential property tax rates more than inflation. Moreover, in the years leading up to the city’s fiscal collapse into chapter 9 bankruptcy, homeowners had complained that their property taxes did not compare to the market value of their homes. Ergo, now Mayor Duggan is hopeful that the new assessment will improve property tax collections—or as he put it yesterday: “It turns out, when people feel they’re being assessed fairly, they pay their taxes….For years, we basically have taken entire neighborhoods or sections of the city and taken averages, which is the best that could be done with the data available.” But the new assessments are based upon house-by-house reassessments using aerial and street-level photography as well as field visits. In addition, the city digitized field cards for every single residential property, allowing employees to inspect the condition of homes based on the historical information and new ground and aerial photos, according to City Assessor Alvin Horhn—or, as Mr. Horn notes: “Where everything matched up, fine. Whenever there was a difference, we sent people out to look…For the most part, this was done at a desktop (computer) review.” Next up: a citywide reassessment of all commercial and industrial properties will be completed for the winter 2018 tax bills. According to city data, collections have increased steadily from about 68% in 2012-14 during the city’s municipal bankruptcy to 79% in 2015 and a projected 82% last year: from 2015 to 2016, the city reported that property tax collections increased approximately $8 million.

Act 54 Where Are You? Puerto Rico Gov. Ricardo Rosselló has signed into law an extension of Act 154’s tax on foreign corporations (mainly corporations manufacturing pharmaceuticals and other high-tech products), a key action to preserve revenues which provide a quarter of the U.S. Territory’s general fund revenues; the action came as Public Affairs Secretary Ramon Rosario Cortés submitted a measure to replace Puerto Rico’s Moratorium Law, an action which he said could mean Puerto Rico could dedicate some of the savings from which to provide “payment of interest or some part of the principal” in negotiations with the island’s creditors: “The obligations of the government of Puerto Rico will be fulfilled in an orderly process. The government is going to commit itself to the policy that what it is directed is to pay the obligations of the government of Puerto Rico. The first thing is essential services.” The discussion occurs at a pivotal point, as, since before the administration of newly elected Governor Ricardo Rosselló Nevares taking office, Senate President Thomas Rivera Schatz had announced that they were in tune to extend the expiration of the moratorium scheduled for the end of this month. If the government does not extend the litigation deadlock, it will face $1.3 billion in February, leaving it with no cash for operations, according to a liquidity report by Conway Mackenzie. Secretary Cortés, in response to a query yesterday with regard to interest payments, did note that would be possible “with the savings that are achieved, guaranteeing priority, which are essential services…The government of Puerto Rico will be making savings with this measure and the savings that will be made will be part of the renegotiation process, which could include the payment of interest or some part of principal, but in negotiation with creditors.” The revenues, as reported over the most recent half fiscal year, accounted for 25% of all General Fund revenues—more even than the $713 million in individual income taxes. The Act, adopted in 2010 to help address the dire fiscal imbalance, was set to impose a continually declining levy rate on foreign corporations until it would phase out this year, based on Treasury regulations promulgated six years ago which allow corporations to take tax credits against temporary excise taxes. Now a tricky shoal to navigate in the midst of the major transition in power in Washington, D.C. The issue involves whether the IRS will grant an extension of Act 154 past its current scheduled expiration at the end of this calendar year. According to Puerto Rico, 10 corporations and partnerships paid some 90 percent of all Act 154 taxes in FY2016. The law mainly affects corporations manufacturing pharmaceuticals and other high-tech products on the island.

Bankrupting a State’s Future?

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March 14, 2016. Share on Twitter

Keystone Municipal Bankruptcy Schooling. The Commonwealth of Pennsylvania’s state budget dysfunction now could force one of the Keystone’s state’s public school districts into chapter 9 municipal bankruptcy. School Superintendent Scott Deisley, in a letter he posted on the Red Lion School District’s website, noted: “Our cash flow analysis for the remainder of this school year is dire…Unless we take some extraordinary measures right now, the district will likely face bankruptcy by the end of the fiscal year.” The bitter fiscal stalemate between Gov. Tom Wolf and the Pennsylvania legislature has remained deadlocked for over nine months on the state’s FY2016 budget—even as Gov. Wolf approved three-fourths of the spending plan last December, while holding out for an increase in basic education assistance. For those students trying to learn basic math, Superintendent Deisley instructs that the school district has received less than 50 percent of its owed basic education funding from the state—some $9.7 million remains outstanding—leading the Superintendent to recommend the withholding of payments for cyber and charter tuition expenses, effective immediately, to preserve the district’s cash flow. Earlier this month, the Board of School Directors allowed the administration to withhold vendor payments, but now the school will delay all requests for purchases until funds become available, instead focusing first on essential classroom needs, followed by debt service and utilities—with payroll at the tail end, and all other expenses denied. The Superintendent believes that borrowing to cover expenses would entail too much risk, noting: “When a public school district takes a loan out for operational cash shortfalls, those bonds are not transferable from one fiscal year to another…This option is not viable since the repayment of any loan would correspond with the same time frame in which we are at risk for running out of money. The risk associated with taking out a loan and hoping that the state budget impasse will be resolved in time for us to make our repayment is too uncertain.” Red Lion District business manager Tonja Wheeler late last week issued a statement: “Red Lion Area School District is not filing for bankruptcy. We are cutting travel, conferences and other non-essential purchases to survive this budget impasse. This is not just a Red Lion Area School District problem, this is a statewide problem.”

Nevertheless, the virtual state budget shutdown is exacting a cost on the state’s students’ futures: Moody’s last month downgraded three of the state’s school districts and withdrew their enhanced ratings based on the Commonwealth’s pre-default intercept programs, lowering the pre-default enhanced ratings of the Chester Upland, Duquesne City, and Steelton Highspire school districts—credit ratings downgrades that will exact higher borrowing costs—all at the expense of the state’s future leaders—and, increasingly, on the state—where S&P last week placed its AA-minus general obligation rating for Pennsylvania on credit watch with negative implications, in what could be the first of several rating actions against the commonwealth in 2016.

Moody Blues in Atlantic City. The New Jersey Senate Budget and Appropriations Committee last Thursday, in a 9-1 vote with three abstentions, reported a bill, which the full Senate could take up as early as today, to provide authority for the state to take sweeping control of financially struggling Atlantic City in the wake of a tense hearing marked by fierce opposition from local leaders. The bill had the backing of New Jersey Governor Chris Christie, as well as a likely candidate for Gov. Christie’s position in next year’s gubernatorial election, state Senate President Stephen Sweeney (D-Gloucester), the main sponsor of the takeover legislation, who warned his colleagues that time was running out and his bill is needed to help save Atlantic City from municipal bankruptcy — adding that such a bankruptcy could cause a contagion scenario that would hurt the credit rating of municipalities across New Jersey. Sen. Sweeney added: “We need to fix this now…Otherwise, how are we going to pay employees in a month if there are no funds?” Chief Senate sponsor, State Senate President Stephen Sweeney (D-Gloucester), in pushing the state takeover bill, emphasized that the legislation is necessary to prevent municipal bankruptcy by Atlantic City: the proposed legislation would empower the New Jersey Local Finance Board to renegotiate Atlantic City’s outstanding debt and municipal contracts for up to five years, reorganize government operations, consolidate agencies—as well as provide authority to leverage some of the city’s assets, such as the Atlantic City Municipal Water Authority, to gain needed revenue. As Sen. Sweeney described it: “Atlantic City’s fiscal crisis is severe and immediate…The state needs to take a more active role to help prevent a total financial collapse. The intervention will allow the state and the city to work together to accomplish what Atlantic City can’t do on its own.”

Nevertheless, the proposed legislation faces opposition in the Assembly, so the fate of the so-called “Municipal Stabilization and Recovery Act” remains uncertain—especially in the face of opposition by New Jersey Assembly Speaker Vincent Prieto (D-Secaucus), who is opposed to the bill because of the provisions within it which would empower the state to break union contracts for up to a five-year period—or, as Speaker Prieto put it: “The state already has the authority to help Atlantic City avoid financial disaster and collective bargaining rights must not be trampled…I still remain willing to negotiate and have asked all parties to sit down together in the same room, but no one has taken me up on my offer.”

Unsurprisingly, Atlantic City Mayor Don Guardian attended the committee session to express strong opposition to the intervention bill—along with members of the city council, as well as representatives from Atlantic City’s police and fire departments, testifying that the proposed legislation “gives the State the authority to unilaterally terminate collective bargaining agreements, to abolish any City departments and eliminate non-elected positions in the city, and to sell off valuable City-owned assets without consent from the local government or input from City residents…This legislation is a one-sided surrender of our responsibilities as local leaders and deprives the residents of Atlantic City of even the most modest aspects of self-governance and local control.” Mayor Guardian urged the committee instead to only approve a companion bill, “The Casino Property Tax Stabilization Act,” proposed legislation which would allow Atlantic City’s eight casinos to make payments in lieu of taxes over a 10-year period—exempting casinos from Atlantic City’s regular property tax in exchange for PILT payments on a quarterly basis—a bill which was then unanimously adopted—a bill which, however, is similar to one Gov. Christie vetoed earlier this year—and is unlikely to sign. (The Committee subsequently voted unanimously to do so.) In his statement to the Committee, Mayor Guardian testified about the “significant cuts in every department” the city had adopted, describing the proposed legislation as the opposite of a partnership, rather a “license for the state to abolish local government.”

Tick Tock. With Puerto Rico potentially facing insolvency by the end of this month, and House Speaker Paul Ryan (R-Wi.) having set March 29th as the deadline for House action on Puerto Rico legislation, the Puerto Rico House of Representatives late last week passed a bill to help the Puerto Rico Aqueduct and Sewer Authority issue debt, House Bill 2786, legislation which would set up the Corporation for the Revitalization of the Aqueduct and Sewer Authority, and provide the new authority with authority to issue municipal bonds—even as it would prohibit any increase in water and sewer rates over the next three years—in addition to barring any amount in excess of 20 percent of rate revenue to be dedicated to finance capital improvement bonds. Calculation of this 20 percent would not include revenue paying off bonds the corporation sold to refinance existing PRASA bonds. That is, the U.S. territory is not just facing a looming fiscal insolvency, but also a looming infrastructure breakdown: the island’s public utility, PRASA, has been unable to issue new municipal debt, forcing it to halt 55 projects already under construction and to defer commencement of 86 projects in its capital improvement program—even as it has fallen $140 million behind in debt with its suppliers and contractors—leading the utility, last week, to warn it may have to default on certain loans and bonds with the Puerto Rico Infrastructure Finance Authority, the Government Development Bank for Puerto Rico, and the United States Department of Agriculture. In an EMMA posting, PRASA said if HB 2786 did not become law and if it were unable to sell a bond, its board might approve the defaults.

One can see the onset of a vicious cycle: PRASA increased its water rates by 60% in the second half of 2013 with a goal of covering the utility’s operating expenses, debt service, and the provision of reserves through the end of FY2017—all based upon the assumption it would be able to issue a bond to cover capital improvement expenses. But that assumption came before decisions by the Government Development Bank for Puerto Rico and the downgrading of Puerto Rico: meaning PRASA has been unable to sell a municipal bond: it had $4.75 billion of debt outstanding at the end of last year. The crisis has reached such a stage that the Securities and Exchange Commission’s investment management division is now urging bond funds, especially those with exposure to Puerto Rico debt, to monitor and continually update their EMMA disclosures based on the risks associated with their investments. In a statement which can hardly be auspicious for Puerto Rico or PRASA, the SEC division noted: “The division believes that full and accurate information about fund risks, including risks that arise as a result of changing market conditions, is important to investors in mutual funds, exchange traded funds, and other registered investment companies…In the staff’s view, any fund investing in Puerto Rico debt should consider, based on the nature and significance of its investments, whether such disclosure is appropriate.”

Leadership & Governance in Municipal Bankruptcy

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November 20, 2015. Share on Twitter

Leadership & Governance in Municipal Bankruptcy. An important factor in the Detroit, Central Falls, and San Bernardino municipal bankruptcies was the absence of leadership—or, worse, depravity by elected and/or appointed leaders. Lack of accountability to citizens, and lack of a mechanism or means of oversight where the municipal elected leadership has failed, or such leadership has simply become dysfunctional is a severe hurdle in states where such state authorization to file for chapter 9 does not provide any state oversight authority—such as in Michigan, Rhode Island, or other states. Thus it mayhap marked an important turning point this week for San Bernardino’s elected leaders to facilitate the early departure of its City Manager, Allen Parker, who began as manager in February of 2013, so that one might say he has been at the very eye of a most powerful fiscal storm—albeit an expensive remedy for a municipality in bankruptcy: the offered and accepted severance package of nearly a third of one million dollars is, after all, a high price for a bankrupt municipality, and means there will be that much less for the city’s post-bankruptcy rebuilding. Nevertheless, it was a vital step if the city is to be able to regroup and get its fiscal recovery act together.

Indeed, it is interesting to learn of Mr. Parker’s post-departure perspective (he officially departs the city in six weeks, leaving a Twilight Zone interlude), and his perceptions with regard to the issues and challenges he perceives for his city and what San Bernardino’s path forward could be. Yesterday, in an interview with the San Bernardino Sun, he noted that a “lot of people want to hold onto what San Bernardino was when they grew up, and such,” adding, however: “Those days are gone.” Speaking to his governance perspective, he said the city had basically been “run for many years by Mr. Penman,” referring to the long and influential tenure of San Bernardino City Attorney James F. Penman, who, while he was not a member of the City Council, believed that as an elected official it was his role to enter policy debates—a belief, Mr. Parker noted, which contributed, from his perspective, to a lack of professional staff with the ability to manage the city. At the same time. Mr. Parker said he felt that governing dynamic was changing—that there is what he described as a “good core of staff to move forward.”

The process—and the fiscal outcome of the governance process—which led to Mr. Parker’s departure, however, occasioned, unsurprisingly, a less than supportive citizen reaction at a closed session City Council meeting last evening, when the Council members received unhappy feedback with regard to the reports of Mr. Parker’s generous severance package—a package which appeared to be the cause of visible anger of some of the city’s elected leaders, albeit leaders who declined to speak publicly about this week’s turn of events. Nevertheless, one citizen written comment, read aloud at the session by the City Clerk, noted: “Mr. Parker had every opportunity to negotiate a contract at the time he was hired…He and the city agreed that no severance pay was appropriate. I agree. That constitutes a gift of taxpayer money.” The commenter added that while a smaller severance might have been justified because the City Manager had chosen to come to San Bernardino at a time of significant fiscal distress and political dysfunction, the idea of getting rid of Mr. Parker was one that received his enthusiastic endorsement, but on the issue of at what price, the constituent noted: “Do I want to get rid of Parker? Yeah, I agree with you…Do I think we should pay him a dime? No…You’re going to have hell to pay if you give him a penny.”

Offering a Potential Alternative to Municipal Bankruptcy. With Congress seemingly unwilling to consider providing Puerto Rico the option of bankruptcy available to every other corporation in America, the Senate Environment and Public Works Committee, which has jurisdiction over the U.S. territory, is developing a legislative proposal which it believes could help Puerto Rico via what one staffer likened to a federal control board, such as was facilitated for the District of Columbia—albeit, as the Romans would put it, tempus fugit, or the time to act is fast expiring: ever moody Moody’s credit rating service expects Puerto Rico to default on a portion of a $354 million payment due next month; the Commonwealth has already defaulted on municipal bonds issued by its Public Finance Corp. The potential proposal in Congress comes as the Puerto Rico legislature earlier this week approved legislation to establish a local fiscal adjustment board, whose five members would be appointed by the Governor—although Delegate Pedro Pierluisi, Puerto Rico’s non-voting Member of Congress, rejected the idea of a federal board to oversee the territory’s finances, claiming it smacked of colonialism. Nevertheless, the emerging concept, successful in D.C. and New York City under the incomparable leadership of former Empire State Lt. Governor Dick Ravitch—as well as consistent with the suggested approach of Senate Judiciary Committee Chair Charles Grassley (R-Iowa)—who will hold a hearing on Puerto Rico on December 1st to learn “more about the root cause of the problem and discussing possible solutions,” according to his spokesperson, might point towards increasing consensus, even as the Obama Administration’s plan, supported by Congressional Democrats and the Puerto Rican government, focuses on granting Puerto Rico broad municipal bankruptcy powers—seemingly, to date, a non-starter in Congress.

Here Come Da Judges. As Chicago’s attorneys, earlier this week, sought to convince the Illinois Supreme Court that the city’s plan to save its pension program from insolvency does not violate the Illinois Constitution’s protection against reduced benefits, because it ensures there will be, for decades to come, money to keep those checks moving—or as the Windy City’s attorney Stephen Patton put it: “The participants are immeasurably better off with it, than without it”— with, in the second public pension-overhaul case before Illinois’ high court in eight months, Mr. Patton seeking to differentiate his arguments from a separate, landmark pension plan involving state-employee retirement funds which the Illinois Supreme Court has previously rejected; the path to legal success promises to be steep. Attorney Patton testified that shoring up Chicago’s pension accounts ought to trump (no Presidential campaign pun) the benefit reductions for 75,000 Windy city workers and retirees. The challenge: Illinois’ Constitution prohibits a promised pension from being “diminished or impaired,” but the issue before the Justices is a Legislature-endorsed plan which reduces automatic annual pension increases, while requiring a $750 million city property-tax hike over five years to cut down a $19.5 billion deficit in the next four decades. During this week’s oral arguments in the City of Chicago’s appeal of a July lower court ruling which voided the city’s overhaul of its laborers and municipal employees’ funds, the incomparable Matt Fabian of Municipal Market Analytics perhaps best captured the pessimism about the likely outcome and its implications: “Almost no one is optimistic in the market…It comes down to what the city does after.” The ever so wise municipal bankruptcy guru and Chicago resident Jim Spiotto notes: “The presumption is with the lower court so it’s always an uphill battle, but trying to read the tea leaves in oral arguments is always difficult: It will come down to whether the court views the pension clause as absolute or whether there is an ability on behalf of governmental bodies and workers’ representatives to come up with a bargained-for resolution,” adding that the issues and questions raised open the door to a larger, national question with regard to how to balance a state or municipality’s need to meet its obligations without harming its economic viability: “You need a resolution that allows a municipality to meet its obligations in a reasonable way that doesn’t destroy a government’s ability to grow and prosper.”

This Little Piggy Had None. Luzerne County, Pennsylvania leaders report they have insufficient fiscal resources to meet the municipality’s expenses for the remainder of this calendar year—and not even enough to make a December 15th $8 million debt service payment—with the municipality’s director of budget and finance, Brian Swetz, noting the county currently has only about $4 million in its general fund, even as it believes it will need $20 million to fund the government for the rest of the year—the amount to also cover payments to most vendors. Moreover, in order to meet other costs, such as payroll, health insurance, and debt payments – even without paying its vendors, the county would need $16 million. Municipal staff meetings this week made clear that with personnel costs consuming the bulk of the municipality’s budget; nevertheless, even were the county to forego making such payments for the remainder of the year, such cuts would be insufficient to cover the looming debt payment: they would only save about $7.5 million. Indeed, absent municipal bankruptcy, it appears the county’s only fiscal relief option would be to petition the Pennsylvania Court of Common Pleas for authority to borrow funds—a process, especially in the middle of holidays, for which there is little time. Even as the county is scrambling to find fiscal alternatives to stave off insolvency, it is beginning the process to define essential personnel and services—and the alternatives and consequences of a potential default on its Dec. 15th municipal bond payment—a potential default which would, as Mr. Swetz ruefully noted, affect the county’s “2016 tax anticipation note, the 2016 budget process, a lot of things. If you bought bonds in Luzerne County, this sends a message as an investor…It’s not going to send a good message.” The looming insolvency is already forcing a prioritization of the timing and order of vital municipal service shutdowns—especially as the county is legally required to provide some services, such as those provided through the courts, prison, and human services.

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March 24, 2015
Visit the project blog: The Municipal Sustainability Project

Getting Ready to Rumble. Today is likely to be D-Day for Atlantic City: emergency manager Kevin Lavin is expected to issue his report and recommendations with regard to whether he and Kevyn Orr will recommend to New Jersey Governor Chris Christie whether or not the city should file for federal chapter 9 municipal bankruptcy protection. A spokesperson for the New Jersey Department of Community Affairs said he thought it was unlikely the report would recommend a declaration of bankruptcy, noting: “It is my understanding that Kevin Lavin and Kevyn Orr were sent here to help [Mayor] Don Guardian restructure short-term and long-term debt so we can find a long-term solution and not a band-aid fix,” adding that he had spoken with Mr. Orr in recent days: “Obviously their goal is to restructure the debt, analyze the city’s ratable base, and ensure the city’s finances are stable without hitting hard-working families over the head with a tax increase or a municipal bankruptcy.”

York Distress. Pennsylvania Auditor General Eugene DePasquale yesterday, standing next to York Mayor Kim Bracey, warned that York, known as the White Rose City, will need to come up with $10 million by the end of this year to meet its minimum pension payment obligations. Like other Pennsylvania municipalities, the AG noted the city has fallen behind on its required annual payments: based upon its most recent audit, Mr. De Pasquale reports the municipality owes more than $4.13 million to its employee pension funds for missed payments for the last two years—and, another $5.7 million is due by the end of 2015―$3.4 million for the police fund, $1.5 million for the firefighter fund, and $757,667 for the non-uniform fund. Failure to make up the payments, the AG warned, could trigger withholding of state aid. Nevertheless, the Attorney General noted that, “[D]espite Mayor [Kim] Bracey’s best efforts, York simply does not have the money, and there is no realistic way the city will ever catch up without help.” Mayor Bracey asked for state help, stating: “The system is simply broken. Unfortunately, our situation in York is not unique.” She and the AG urged the legislature to act on a bill which would shift new state hires to a cash-balance hybrid pension plan, and require the calculation of pensions based on base pay and a small percent of overtime to curb the practice of “spiking,” or increasing final average salary with excessive overtime and unused sick or vacation days.

Municipalities in Crisis. In response to a request from House Judiciary Committee Ranking Member John Conyers (D-Mi.) of Detroit and Sen. Gary Peters (D.-Mi.), Rebecca O’Connor and Peter Del Toro of the U.S. Government Accountability Office submitted a report, http://www.gao.gov/products/GAO-15-222, Municipalities in Crisis, advising Congress that municipalities in fiscal crisis confront diminished abilities to manage federal grants because of: workforce reductions, decreased financial capacities, and outdated information technologies. The report was compiled after interviews with grant administrators at the federal, state, and local levels; local officials in Detroit, Flint, Camden, and Stockton, as well as academic researchers and practitioners (including this author) with expertise on the topics of local government administration, local fiscal distress, and Chapter 9 municipal bankruptcy. In the GAO report, the dynamic duo examined eight federal grant programs in housing, transportation, and public safety to better understand the repercussions of municipal fiscal distress on their ability to access and utilize such federal grants—finding, for instance, that in Detroit, Flint, and Stockton, downsizing directly affected staffing responsible for grant management and oversight―Detroit’s Planning and Development Department, which administers CDBG and HOME Investment Partnerships Program grants received by the city, lost more than one third of its workforce between 2009 and 2013, according to the report, undercutting the ability of the remaining staff to carry out all of the grant compliance and oversight tasks; similarly, staff attrition created by the respective municipal fiscal distress led to “grant management skills gaps” in the Detroit, Flint, and Stockton workforces: in Detroit and Stockton, turnover in senior and mid-level staff particularly created challenges―the skills shortages sometimes led to violations of grant agreements or unspent grant money in Detroit and Flint. In both cities, according to the report, decreased financial capacity undercut the municipalities’ abilities to apply for certain federal grants. To the extent there were lessons learned, the GAO noted that Flint, Stockton, and the Motor City have consolidated management processes—especially writing that under Kevyn Orr in Detroit, Mr. Orr had directed Detroit’s CFO to establish a central grant-management department. The GAO report also found that Detroit, Flint, and Camden have collaborated with local nonprofit organizations to apply for federal grants, helping them deal with limited staffing. The duo also examined eight federal grant programs: they reported these programs “used, or had recently implemented, a risk-based approach to grant monitoring and oversight.” When federal officials of such grant programs found deficiencies, they often required grantees to take corrective actions, but the municipalities did not always take these actions. The report also determined that a White House Working Group on Detroit and individual federal agencies had taken steps to improve collaboration with municipalities in fiscal crisis: “These actions included improving collaboration between selected municipalities and federal agencies, providing flexibilities to help grantees meet grant requirements, and offering direct technical assistance.” Nevertheless, the report notes that federal agencies have not formally documented and shared the lessons learned from the federal efforts to help Detroit, adding: “If these lessons are not captured in a timely manner, experiences from officials who have first-hand knowledge may be lost,” recommending that OMB mandate federal agencies involved in the Detroit working group to collect good practices and lessons learned and share them with other federal agencies and local governments.