September 13, 2019
Good Morning! In this morning’s eBlog, we consider the fiscal emergency in Davis, California, before assessing the most recent fiscal and physical challenges in the U.S. Territory of Puerto Rico, and then checking back in on the fiscal and governing status of post-chapter 9 Jefferson County, Alabama.
Declaring a Municipal Fiscal Emergency? Davis, California, a municipality of around 65,000 in Yolo County, previously called Davisville before 1907, last week declared a “fiscal emergency” last week, allowing the City Council to hold a special election in March 2020 and place a 1 percent sales tax renewal measure on the ballot—an action made to ensure the municipality avoids the “drastic effects” of interrupted tax collection, but short of filing for chapter 9 municipal bankruptcy. Under California statutory and case law, an “emergency” is an unforeseen situation not of the government’s making and not synonymous with a general public need. Judicial deference is not accorded to local government action founded on a mere declaration of necessity for preservation of public health and welfare. Finally, at least with respect to pension contributions and benefits, the “vested rights doctrine,” which arises from the constitutional protections of the Contracts Clause, establishes an “overriding constitutional proscription” against government action aimed at eliminating or reducing retirement formulae or benefits.
In reaction to being struck with a legal challenge last month, the city has been mandated to switch to district-based voting in time for its next City Council election, forcing the city to push back its election to November of 2020. That could cause an extra dash of fiscal pain, because if the city waits until then to place a sales tax renewal on the ballot, the earliest Davis could start collecting revenue would be April of 2021, meaning the city would miss out on an anticipated $2.2 million in tax revenue when the tax sunsets next December. A report from city staff warned the elected leaders: “This interruption to cash flow will exacerbate the inability to fund City services,” citing services, including public safety, maintenance of city roads, sidewalks and parks, and recreational programs. Under the state’s Constitution, general tax measures must be voted on during regularly scheduled local elections, except when the City Council votes unanimously to declare an emergency. The situation last week appears to mark a significant governance consequence of the city’s decision to move or change to District-based City Council elections—a change prompted by a former Yolo County Supervisor’s demand letter to the city claiming the “insidious, racially polarized nature of the at-large election system” has prevented Asian American and Latino voters from achieving adequate representation.
Under the California Voting Rights Act, at-large elections are prohibited if they discriminate against minority groups by limiting their ability to influence election results. Indeed, it seems that leaders in these suburban cities have frequently argued that district-based elections are incompatible with their communities, citing, citing the lack of majority-minority enclaves which might be buoyed by a district representative; however, to date, no California municipality has successfully defended an at-large voting method when challenged under Golden State’s Voting Rights Act—and some have even paid millions of dollars in settlement fees. Councilmember Lucas Frerichs, as a session, said to his colleagues: “It’s very frustrating that yet again, we’re being forced to do something…in order to not see the city face an adverse impact, we’re having to go and spend money on switching our regularly scheduled election to November for City Council, but, of course, also have this special election in March 2020.” For the city’s current fiscal year, the 1 percent sales tax, first approved in June of 2014, will raise $8.6 million for Davis, representing about 15 percent of the city’s total general fund. A city survey conducted by independent researchers found that 77 percent of respondents would vote yes to a measure renewing the sales tax, according to the staff report. The sales tax renewal measure will be consolidated with other Yolo County and statewide races on the March 3, 2020 election ballot.
A Different Kind of Storm. As Congress enters the last month of the federal fiscal year, one of the key issues pending will be the looming funding expiration for the U.S. Territory of Puerto Rico and other U.S. territories, such as the U.S. Virgin Islands, under the 2018 Bipartisan Budget Act and the Affordable Care Act. For Puerto Rico, this means that beginning on the first day of the new federal fiscal year, October 1st, Puerto Rico would receive only an estimated $366.7 million in Medicaid—a severe reduction in federal Medicaid matching in federal Medicaid matching dollars to cover its 1.6 million U.S. citizens who are Medicaid dependent—nearly half the island’s population. The second class treatment of Puerto Rico has become a grave fiscal impediment to the territory’s fiscal and physical health—and likely continued to the ongoing outflow of those who can afford to leave for the mainland—leaving a more dependent population of Americans behind. One opportunity could be for Congress to act swiftly to pass and send to the President HR 2328, the Community Health Investment, Modernization, and Excellence Act, which includes the Territories Health Care Improvement Act, which would make substantive changes to how Medicaid is administered in U.S. territories such as Puerto Rico. If approved by Congress, H.R. 2328 could go on to provide $12 billion to secure the Medicaid program on the island for four more years. As drafted, the legislation includes robust monitoring mechanisms to ensure strict oversight of federal Medicaid funds: it would authorize the Department of Health and Human Services’ Office of Inspector General to perform audits of all federal Medicaid funding on an annual basis, including work plans to monitor and/or investigate contracting practices related to the Puerto Rico Medicaid program. The Centers for Medicaid & Medicare Services would oversee all contracts awarded utilizing Medicaid funding. Puerto Rico itself would establish a system for tracking amounts paid by the federal government, as well as local matching of Medicaid funds, and would have information available with respect to each quarter. Finally, the Government Accountability Office would issue a report on contracting oversight and approval for the Puerto Rico Medicaid program no later than two years after the date of enactment.
A Municipal Bankruptcy Exit Plan? The Puerto Rico Oversight Board intends to submit a plan of adjustment for the island’s central government debt by the end of this month, outlining the level of repayment for as much as $19 billion of municipal bonds which have been in bankruptcy since 2017. The Board’s attorney, Martin Bienenstock, told Judge Laura Taylor Swain at this week’s omnibus hearing that the Board is intending to submit its quasi-plan of debt adjustment soon, adding that, under new Governor Wanda Vázquez Garced, relations between the Governor and Oversight Board have been good. Last March, Mr. Bienenstock had said the plan might be submitted by the end of April—giving some idea of how complicated putting a plan of debt adjustment together can be. The timing could be propitious, as the parties to the debt of central government debt and other Puerto Rico entities are now or are soon to be involved in mediation, although it is unclear how the terms of the plan of adjustment will affect the mediation discussion. At this week’s hearing, Unsecured Creditors Committee attorney Luc Despins said his clients would object to the approval of a settlement of municipal bond claims before there was a settlement of other non-bond-related claims against the government of Puerto Rico, asserting his clients were those holding non-municipal bond-related claims. On other topics, Mr. Bienenstock said that PROMESA Board Executive Director Natalie Jaresko and PROMESA Board Chairman José Carríon had held several meetings with Gov. Vázquez Garced since she took office last month: they have discussed several issues on which the Board had disagreed with former Governor Ricardo Rosselló, claiming progress has been achieved on bridging these differences. Puerto Rico Fiscal Agency and Financial Advisory Authority lawyer John Rapisardi said that FAFAA serves under Gov. Vázquez, adding that the Governor is also seeking additional aid from the federal government.
The Steep Challenges of Chapter 9 Recovery. Farther north, in the State of Georgia, there appear to be worries that post-chapter 9 Jefferson County, Alabama could find itself back at some municipal credit risk less than a year in the wake of finally exiting from its chapter 9 municipal bankruptcy. The fear is that the County’s new budget could harm its credit rating—or, as Commission President Jimmie Stephens and former Commissioner David Carrington noted, some provisions in the proposed FY2020 carry signal fiscal risks. President Stephens, for instance, noted: “We’ve been through bankruptcy and understand the pain,” with his words coming last month after the County Commission voted 3-2 vote to adopt a $700 million budget for the new fiscal year beginning at the end of this month. Commissioners Joe Knight, Lashunda Scales, and Sheila Tyson provided the majority. Commission President Jimmie Stephens and Commissioner Steve Ammons, both Republicans, voted against the budget. Commissioner Stephens sought unsuccessfully to send the proposed budget back to committee for further review, noting that although the budget is balanced, he felt there were are measures which violate budget policies adopted by the prior Commission after Jefferson County, under its chapter 9 plan of debt adjustment, exited municipal bankruptcy six years ago. (Commissioners Stephens and Carrington were among the Commissioners who had voted to file for chapter 9 in 2011.) Commissioner Stephens noted: “We’ve been through [municipal] bankruptcy and understand the pain…We were attempting up until this year to establish budget stabilization funds and a catastrophic fund to keep from having to experience a shortage in case of an economic downturn, so this a little unusual to go through this.”
Commissioners Stephens and David Carrington noted they were apprehensive that no funds were appropriated for reserves in the new budget–some $15 million from current-year reserves will be rolled over; the unassigned general fund balance will not be known until the County’s fiscal year ends next week. Commissioners Stephens and Carrington included, as part of the vote, the creation of a $1.25 million fund to assist low-income people on the Jefferson County’s sewer system, in no small part, because both have been apprehensive that, because Alabama’s constitution prohibits municipalities from giving public money to private persons, there could be a court challenge; in addition, they questioned the creation of a new $1.22 million fund to support community entities and events, most of which Commissioner Carrington believes should be financed out of the Board’s discretionary funds. Under the proposed budget, each commissioner will have $225,000 to appropriate for on events and other needs in her or his district; the $2.47 million of which they have been critical represents approximately one-third of one percent of the budget.
Commissioner Carrington noted, in an op ed to the Bond Buyer: “As a citizen of Jefferson County with a lot of blood on the trail to nurse the county back to financial health, I urged the Commission to vote no on the proposed budget and to go back to the drawing board to develop a fiscally disciplined one.” The Commissioner appears to be apprehensive that comments made by Commission President James Stephens and former Commissioner David Carrington have been reckless and could risk undercutting the hard work and dedication made by the County to adopt and implement a plan of debt adjustment, as well as re-establish credibility with Jefferson County citizens and the financial community. Commissioner Scales, who, in her campaign had included a promise to develop a payment assistance program to help county citizens pay their sewer bills, said the Commission appropriated funds which could be used to support a nonprofit entity that has an existing program that provides public utility assistance, which includes the indigent population of Jefferson County on the sanitary sewer system, noting: “There is no county-run program. The Commission has not yet voted on any appropriate entity to administer the funds: “Sanitary sewer services are a matter of public health. Assuring that our citizens have access to basic human services is our duty.”
The eminent scholar and Dean of chapter 9 municipal bankruptcy, Chicago’s Chapman Strategic Advisor Jim Spiotto, reasonably noted that, as a matter of public policy, municipal budgets should be balanced; they should comply with the legal requirements of using funds and tax revenues which are collected: “Obviously, you’re supposed to be a prudent steward of the tax dollars and part of balancing the budget is making sure reserves are needed for capital and other expenditures.” Mr. Spiotto, who had calculated that reserves for Jefferson County’s FY2020 budget would be about 2.1% of the spending plan—and who had who reviewed Commissioner Carrington’s comments complaining about “an unconscionable lack of fiscal discipline” in the FY2020 budget, said Commissioners who approved the budget should take stock of Commissioner Carrington’s views: “I think certainly these are questions raised by someone who was a county Commissioner for eight years: You have to take it seriously, and there may be good answers to these questions, but they are questions that should be answered to make sure certain actions don’t turn out to be missteps which could lead to financial difficulty.”
S&P Global Ratings has reported that income levels in the Jefferson County sewer system service area are 90% of the national average, but that the poverty rate is approaching 20%, with analyst James Breeding last December writing: “Since the county emerged from [municipal] bankruptcy, the County Commissioners increased rates about 7.8% per year through fiscal 2018, as planned, and 3.5% per year for fiscal year 2019.” The most recent sewer rate increase was implemented nearly one year ago—leading Mr. Breeding to note: “Although not yet a significant credit negative, rate affordability is increasingly becoming a concern.”
Commissioner Scales did not answer a question with regard to whether she obtained an attorney’s opinion about the legality of using Jefferson County funds for sewer payment assistance. Commissioner Stephens said that after first exiting chapter 9 municipal bankruptcy in 2013, County Commissioners built up reserves and targeted spending to benefit local residents the most, such as repairing roads and addressing other back-logged capital needs. The Government Finance Officers Association, as a general rule, recommends that governments hold in reserves an amount equal to no less than two months of operating expenses, said GFOA Deputy Executive Director Mike Mucha. “However, GFOA also understands that governments also face different levels of uncertainty and risk related to their revenues and expenses,” said Mucha, who is also director of the Research and Consulting Center. “We would also advise the governments take this into account when determining an appropriate level of reserves.” Jefferson County filed for reorganization in 2011 and emerged from bankruptcy in December 2013 after closing on the issuance of $1.8 billion of 40-year sewer warrants to write down $3.2 billion of old sewer debt, resulting in an overall 40% haircut to bondholders. Attorney Calvin Grigsby appealed the plan of adjustment on behalf of a group of ratepayers, launching a years-long and ultimately unsuccessful process that ended when the U.S. Supreme Court denied his request for a writ of certiorari in March. Mr. Grigsby is continuing to pursue a $1.6 billion proof of claim made by ratepayers in the bankruptcy case, based on an argument that the old sewer warrant proceeds refunded in 2013 were used for private purposes and therefore are unconstitutional and uncollectable.
Commissioner Stephens, who won his third term in November, said he believes certain spending in the upcoming budget should have been dedicated to continue boosting the budget stabilization fund and other reserves “to make sure that during a downturn in the economy that we can still administer government without a disruption of services.”
As adopted, the budget allocates $1.22 million to support nearly two dozen community entities and events, including $200,000 to the annual Magic City Classic. The City of Birmingham is contributing $793,575 to next month’s football game between Montgomery-based Alabama State University and Huntsville-based Alabama Agricultural and Mechanical University. Commissioner Stephens said Jefferson County has not contributed money toward the Magic City Classic during his time in office, but Commissioner Scales said Jefferson County has contributed to the Magic City Classic in the past and that the largest football classic between two historically black colleges and universities in the nation garners more than $22 million in economic impact to Jefferson County and the region, noting: “Taxes generated from the 50,000 room nights alone represent a major funding mechanism for the Birmingham-Jefferson Convention Complex.” Commissioner Scales also said the recently passed budget reflects the Commission’s support for the diverse needs of Jefferson County, and that it includes funding for life-saving storm shelters, programs to remove blight throughout the county, and funds for major capital improvement projects. The budget also assists law enforcement with funding for the Crime Stoppers program as well as the Jefferson County library, “in addition to supporting revenue generators such as the Magic City Classic and others,” she said. Stephens said the county should maintain a good fiscal policy because there are plans to refund about $2 billion of back-loaded outstanding sewer warrants using a 10-year call provision in 2023.
Commissioner Stephens noted the County’s FY2020 budget “is completely contrary to what we’ve done past six years,” adding that the sewer department’s operations have been steady, with revenues exceeding projections and expenses less than anticipated, noting: “We are in good shape with our sewer refunding, and we want to be in a good environment under better creditworthiness to go back to the market.”
For his part, Commissioner Carrington said he had urged the commission last month to delay a decision on the budget in order to give more consideration to apportioning revenues from a 1% sales tax authorized by the Alabama Legislature in 2015: said sales tax enabled the county to refinance $595 million of school warrants; it also established a waterfall for excess sales tax collections after paying debt service on the refunding warrants that includes funding for discretionary use that the Commissioner said was supposed to help build reserves, noting that a minimum of $10 million, or about 5% of the general fund budget, should have been used to fund contingencies and reserves: “I believe this Commission is beginning to move the county toward a slippery slope that could very well lead to a future bankruptcy…“Since my pleas, as well as the formal requests of Commissioners Stephens and Ammons were ignored, I believe this Commission is beginning to move the county toward a slippery slope that could very well lead to a future bankruptcy.” Commissioner Stephens said he plans to request an opinion from the Alabama Attorney General with regard to whether the county can legally spend money on it. Chapter 9 guru Jim Spiotto notes that the issues raised by Commissioner Carrington will be of concern to the municipal bond market, warning that if Jefferson County needs to borrow money, people will want answers to the questions Commissioner Carrington raised: “Everybody wants the best for Jefferson County and would really like them to succeed and overcome the past history of the bankruptcy…So they want to get their numbers right and do it in the right way, because nobody wants them to have financial distress and return to bankruptcy.”