The Art & Commitment of Municipal Fiscal Recovery

eBlog, 04/11/17

Good Morning! In this a.m.’s eBlog, we consider the ongoing recovery of the city of Flint, Michigan, before heading east to one of the smallest municipalities in America, Central Falls, Rhode Island, as it maintains its epic recovery from chapter 9 municipal bankruptcy, before finally turning south to assess recent developments in Puerto Rico. We note the terrible shooting yesterday at North Park Elementary School in San Bernardino; however, as former San Bernardino School Board Member Judi Penman noted, referring to the police department: “It is one of the most organized and well-prepared police departments around, and they are well prepared for this type of situation.” Indeed, even if sadly, the experience the city’s school police department gained from coordinating with the city’s police department in the wake of the December 2, 2015 terrorist attack appeared to enhance the swift and coordinated response—even as calls came in yesterday from the White House and California Gov. Jerry Brown to offer condolences and aid, according to San Bernardino Mayor Carey Davis.

Could this be a Jewel in the Crown on Flint’s Road to Fiscal Recovery? In most instances of severe municipal fiscal distress or bankruptcy, the situation has been endemic to the municipality; however, as we have noted in Jefferson County, the state can be a proximate cause. Certainly that appears to have been the case in Flint, where the Governor’s appointment of an emergency manager proved to be the proverbial straw that broke the camel’s back at an exceptional cost and risk to human health and safety. The fiscal challenge is, as always, what does it take to recover? In the case of Flint, the city’s hopes appear to depend upon the restoration of one of the small city’s iconic jewels: the historic, downtown Capitol Theatre—where the goal is to restore it to its original glory, dating back to 1928, when it opened as a vaudeville house: it was listed on the National Register of Historic Places in 1985, but has been empty now for more than a decade—indeed, not just empty, but rather scheduled to become still another parking lot. Instead, however, the property will undergo a $37 million renovation to become a 1,600-seat movie palace and performance venue, which will provide 28,000 square feet of ground-floor retail and second-floor office space; an additional performance space will be created in the basement for small-scale workshops, experimental theater, and other performances. Jeremy Piper, chairman of the Cultural Center Corp., a Flint lawyer, will manage the new performing arts venue in the cultural center; he will also serve as co-chair of a committee that is raising the last $4 million of the $37 million needed to bring the theater back to life. The goal and hope is that the renovated theater will, as has been the experience in other cities, such as New York City’s Lincoln Center for the Performing Arts, help serve as a foundation for Flint’s fiscal and physical recovery. The new theater is intended to become the focal point of 12,000, 13,000, or 14,000 people coming into downtown Flint for a performance and then going out for dinner—that is, to benefit and revive a downtown economy. Indeed, already, the venture firm SkyPoint is planning to open a large fine-dining restaurant on the ground floor and mezzanine timed to the rejuvenated theater’s reopening—SkyPoint Ventures being the company co-founded by Phil Hagerman, the CEO of Flint-based Diplomat Pharmacy Inc., and his wife, Jocelyn, whose Hagerman Foundation (the author, here, notes his middle name, derived from his great grandfather, is Hagerman) donated $4 million toward the Capitol’s renovation. In 2016, the Flint-based C.S. Mott Foundation announced a grant of $15 million for the Capitol Theatre project as part of $100 million it pledged to the city in the wake of the water crisis. The project also received $5.5 million from the Michigan Strategic Fund.

The ambitious effort comes as Michigan has paid $12 million to outside attorneys for work related to the Flint drinking water crisis, but out of which nearly 30% has gone to pay criminal and civil defense attorneys hired by Gov. Rick Snyder—an amount expected to climb as the lead poisoning of Flint’s drinking water has proven to be devastating for Flint and its children, but enriching for the state’s legal industry: Jeffrey Swartz, an associate professor at Western Michigan University-Cooley Law School, notes: “It’s a lot of money…I can see $10 million to $15 million being eaten up very quickly.” He added, moreover, that the state is still “on your way up the slope” in terms of mounting legal costs. The approved value of outside legal contracts, not all of which has been spent, is at least $16.6 million, adding that the Michigan Legislature may want to appoint a commission to review the appropriateness of all outside legal bills before they are approved for payment: already, Gov. Rick Snyder’s office has spent a combined $3.35 million for outside criminal and civil defense lawyers; the Michigan Department of Environmental Quality has spent $3.65 million; the Department of Health and Human Services has spent $956,000; and the Treasury Department has spent $35,555, according to figures released to the Free Press. In addition, the state has paid $340,000 to reimburse the City of Flint for some of its civil and criminal legal defense costs related to the drinking water crisis, which a task force appointed by Gov. Snyder has said was mainly brought on by mistakes made at the state level. Yet to be equitably addressed are some $1.3 million in Flint legal costs. Michigan Attorney General Bill Schuette, whose investigation is still ongoing, has charged 13 current or former state and municipal officials, including five from the Dept. of Environmental Quality, the Dept. of Health and Human Safety, the City of Flint, and two former state-appointed emergency managers who ran the city and reported to the state’s Treasury Department; no one, however, from Gov. Snyder’s office has been charged.

The Remarkable Recovery of Chocolateville. Central Falls, Rhode Island Mayor James A. Diossa, the remarkable elected leader who has piloted the fiscal recovery of one of the nation’s smallest cities from chapter 9 municipal bankruptcy, this week noted: “Our efforts and dedication to following fiscally sound budgeting practices are clearly paying off, leaving the City in a strong position. I would like to personally thank the Council and Administrative Financial Officer Len Morganis for their efforts in helping to lead the comeback of this great City.” The Mayor’s ebullient comments came in the wake of credit rating agency Standard and Poor’s rating upgrade for one of the nation’s smallest cities from “BB” to “BBB,” with S&P noting: “Central Falls is operating under a much stronger economic and management environment since emerging from bankruptcy in 2012. The City of Central Falls now has an investment grade credit rating from S&P due to diligently following the post-bankruptcy plan in conjunction with surpassing budgetary projections.”

One of the nation’s smallest municipalities (population of 19,000, city land size of one-square-mile), Central Falls is Rhode Island’s smallest and poorest city—and the site of a George Mason University class project on municipal fiscal distress—and guidebook for municipal leaders. Its post-bankruptcy recovery under Mayor Diossa has demonstrated several years of strong budgetary performance, and has “fully adhered to the established post-bankruptcy plan,” or, as Mayor Diossa put it: “S&P’s latest ratings report is yet another sign of Central Falls’ turnaround from bankruptcy.” Mr. Morganis noted: “The City of Central Falls now has an investment grade credit rating from S&P due to diligently following the post-bankruptcy plan in conjunction with surpassing budgetary projections,” adding that the credit rating agency’s statement expressed confidence that strong budgetary performance will continue post Rhode Island State oversight. S&P, in its upgrade, credited Mayor Diossa’s commitment to sound and transparent fiscal practices, noting the small city has an adequate management environment with improved financial policies and practices under their Financial Management Assessment (FMA) methodology—and that Central Falls exhibited a strong budgetary performance, with an operating surplus in the general fund and break-even operating results at the total governmental fund level in FY2016. Moreover, S&P reported, the former mill town and manufacturer of scrumptious chocolate bars has strong liquidity, with total government available cash at 28.7% of total governmental fund expenditures and 1.9 times governmental debt service, along with a strong institutional framework score. Similarly, Maureen Gurghigian, Managing Director of Hilltop Securities, noted: “A multi-step upgrade of this magnitude is uncommon: this is a tribute to the hard work of the City’s and the Administrative Finance Officer’s adherence to their plan and excellent relationship with State Government.” The remarkable recovery comes as one of the nation’s smallest cities heads towards a formal exit from chapter 9 municipal bankruptcy at the end of FY2017. S&P, in its upgrade, noted the city is operating under a “much stronger economic and management environment,” in the wake of its 2012 exit from municipal bankruptcy, or, as Mayor Diossa, put it: “Obviously we’ve had a lot of conversations with the rating agencies, and I was hoping we’d get an upgrade of at least one notch…When we got the triple upgrade, first, I was surprised and second, it reaffirmed the work that we’re doing. Our bonds are no longer junk. We’re investment level. It’s like getting good news at a health checkup.”  S&P, in its report, noted several years of sound budgeting and full adherence to a six-year post-bankruptcy plan which state-appointed receiver and former Rhode Island Supreme Court Justice Robert Flanders crafted. The hardest part of that recovery, as Judge Flanders noted to us so many years ago in City Hall,was his swift decision to curtail the city’s pension payments—cuts of as much as 55 percent—a statement he made with obvious emotion, recognizing the human costs. (Central Falls is among the approximately one-quarter of Rhode Island municipalities with locally administered pension plans.) Unsurprisingly, Mayor Diossa, maintains he is “fully committed” to the fiscal discipline first imposed by Judge Flanders, noting the municipality had a general fund surplus of 11% of expenditures in FY2016, and adding: “That reserve fund is very important.” He noted Central Falls also expects a surplus for this fiscal year, adding that the city’s expenses are 3% below budget, and that even as the city has reduced the residential property tax rate for the first time in a decade, even as it has earmarked 107% of its annual required contribution to the pension plan and contributed $100,000 toward its future OPEB liability.

The End of an Era? Mayor Diossa, recounting the era of chapter 9 bankruptcies, noted Pennsylvania’s capital, Harrisburg, in 2011; Jefferson County, Alabama; Stockton, Mammoth Lakes and San Bernardino, California; and Detroit: “I think Central Falls is a microcosm of all of them…I followed Detroit and heard all the discussions. They had the same issues that we had…sky-high costs, not budgeting appropriately,” adding his credit and appreciation—most distinctly from California—of the State of Rhode Island’s longstanding involvement: “The state’s been very involved,” commending Governors Lincoln Chafee and Gina Raimondo. Nevertheless, he warns: fiscal challenges remain; indeed, S&P adds: “The city’s debt and contingent liability profile is very weak…We view the pension and other post-employment benefit [OPEB] liabilities as a credit concern given the very low funded ratio and high fixed costs…They are still a concern with wealth metrics and resources that are probably below average for Rhode Island, so that’s a bit of a disadvantage…That adds more importance to the fact that they achieved an investment-grade rating through what I think is pretty good financial management and getting their house in order.” The city’s location, said Diossa, is another means to trumpet the city.

The Uncertainties of Fiscal Challenges. Natalie Jaresko is the newly named Executive Director of the PROMESA federal control board overseeing Puerto Rico’s finances, who previously served during a critical time in Ukraine’s history from 2014 to 2016 as it faced a deep recession, and about whom PROMESA Board Chair Jose Carrion noted: “Ukraine’s situation three years ago, like Puerto Rico’s today, was near catastrophic, but she worked with stakeholders to bring needed reforms that restored confidence, economic vitality and reinvestment in the country and its citizens. That’s exactly what Puerto Rico needs today;” came as Ms. Jaresko yesterday told the Board that with the tools at its disposal, Puerto Rico urgently needs to reduce the fiscal deficit and restructure the public debt, “all at once,” while acknowledging that the austerity measures may cause “things to get worse before they get better.” Her dire warnings came as the U.S. territory’s recovery prospects for the commonwealth’s general obligation and COFINA bonds continued to weaken, and, in the wake of last week’s moody Moody’s dropping of the Commonwealth’s debt ratings to its lowest rating, C, which equates with a less than 35% recovery on defaulted debt. Or, as our respected colleagues at Municipal Market Analytics put it: “[T]he ranges of potential bondholder outcomes are much wider than those, with a materially deeper low-end. For some (or many) of the commonwealth’s most lightly secured bonds (e.g., GDB, PFC, etc.) recoveries could hypothetically dip into the single digits. Further, any low end becomes more likely the longer Puerto Rico’s restructuring takes to achieve as time:

1) Allows progressively more negative economic data to materialize, forcing all parties to adopt more conservative and sustainable projections for future commonwealth revenues;

2) Allows local stakeholder groups—in particular students and workers—to organize and expand nascent protest efforts, further affecting the political center of gravity on the island;

3) Worsens potential entropy in commonwealth legislative outcomes;

4) Frustrates even pro-bondholder policymakers in the US Congress, which has little interest in, or ability to, re-think PROMESA and/or Federal aid compacts with the commonwealth.”

On the other hand, the longer the restructuring process ultimately takes, the more investable will be the security that the island borrows against in the future (whatever that is). So while the industry in general would likely benefit from a faster resolution that removes Puerto Rico from the headlines, the traditional investors who will consider lending to a “fixed” commonwealth should prefer that all parties take their time. Finally, if bleakly, MMA notes: “In our view, reliable projections of bondholder recovery impossible, and we fail to understand how any rating agency with an expected loss methodology can rate Puerto Rico’s bonds at all…Remember that the Governor’s Fiscal Plan, accepted by the Oversight Board, makes available about a quarter of the debt service to be paid on tax-backed debt through 2027, down from about 35% that was in the prior plan that the Board rejected. As we’ve noted before, the severity of the proposal greatly reduces the likelihood that an agreement will be reached with creditors by May 1 (when the stay on litigation ends), not only increasing the prospect of a Title III restructuring (cram down) un-der PROMESA, but also a host of related creditor litigation against the plan itself and board decisions both large and small. The outcomes of even normal litigation risks are inherently unpredictable, but the prospects here for multi-layered, multi-dimensional lawsuits create a problem several orders of magnitude worse than normal.

The Key Lessons Learned after a Decade of Municipal Bankruptcies

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eBlog, 04/07/17

Good Morning! In this a.m.’s eBlog, we consider Detroit’s first steps to address the blight which crisscrossed the city leading to its municipal bankruptcy. Then we look to New Hampshire to assess whether the state legislature will preempt municipalities’ authority to set election dates. Then we slip south to assess fiscal developments in the efforts to recover from insolvency in Puerto Rico. Finally, we assess and consider some of the broader issues related to municipal bankruptcy.

Post Chapter 9 Recovery. One of Detroit’s first tests with regard to whether it can find new use for the vast stretches of land it cleared of blight went into effect this week when development teams announced by  Mayor Mike Duggan, along with partners: The Platform, a Detroit-based firm, and Century Partners announced they would be investing an estimated $100 million to rehab the architectural jewels in the city’s downtown—the Fisher and Albert Kahn buildings, with the two organizations declaring they will take the lead in overhauling 373 parcels of vacant land and houses in the Fitzgerald neighborhood on the northwest side, where they will coordinate with other firms on a $4 million development plan to rehab 115 vacant homes over two years, create a two-acre park, and landscape 192 vacant lots—with the work occurring in neighborhoods wherein the Detroit Land Bank took control of most of the properties and razed some abandoned homes. Mayor Duggan and other officials described the plan as a kind of reverse gentrification—or, as Mayor Duggan framed it: “We are going to keep the families here while improving the neighborhoods,” making his announcement on an empty lot which is scheduled to become a city park and include a greenway path to nearby Marygrove College: the city leaders hope to transform the neighborhood into a “Blight-Free Quarter Square Mile,” and, if the model works, seek to propagate it other neighborhoods.

Granite State Preemption or Cure? House Speaker Shawn Jasper wants to give New Hampshire towns that postponed their municipal elections due to a snowstorm a way out of facing potential lawsuits from voters who may have been disenfranchised. Speaker Jasper had proposed letting towns ratify the results of their elections by holding another vote, offering a bill to give towns which moved Election Day the option of letting townspeople vote to ratify, or confirm, the results on May 23rd. However, in the wake of about five hours of testimony, the House Election Law Committee voted 10-10 on the Jasper plan, so that a tie vote killed the Speaker’s amendment, leaving 73 towns on their own to address potential legal problems resulting from their decisions to hold their elections on days other than March 14th. The fiscal blizzard in the Granite State now depends upon whether state legislators determine whether or not a special election is needed with regard to those results. New Hampshire Deputy Secretary of State David Scanlan noted: “The concept is not entirely new…what is different is that it is applying to an entire class of towns that decided to postpone.”

In the past, the Legislature has voted to “cure” individual election defects. Speaker of the House Shawn Jasper, (R-Hudson, N.H.) noted: “Well, the fact that a bunch of towns moved the day of their town election was unprecedented…And so as a result of doing that, those towns that moved had to start bending other laws to make other issues related to the election work…The Legislature is just granting the authority to allow the towns to correct any defects that may exist,” he added, listing changed time listings, lack of proper notice, and absentee ballot date issues as possible defects in the process. All of those questions, of course, have fiscal consequences—or, as Atkinson Town Administrator Alan Phair put it; “Well, I don’t know the exact cost, what it would be, but I do know that in our case we certainly don’t have the money budgeted to (hold a special election), because we obviously just budgeted for one election…We would certainly go considerably over and have to find the money elsewhere to do it.” Under the proposed amendment, towns and school districts which postponed would hold a hearing, at which the respective governing body would vote on whether to hold a special election with one question: whether or not to ratify results, where a “no” vote would kick out anyone elected in a postponed vote, while nullifying warrant articles, with elected roles to be appointed until the next election. Salem Town Manager (Salem is a town of just under 30,000 in Rockingham County) Leon Goodwin said his elected leaders were of the opinion that its postponement was legal, so that the municipality is moving forward on projects voted on last month, noting: We’re moving on as if the votes were accepted even though there is a cloud hanging over us from Concord,” adding that town counsel advised the town moderator that it was legal to move elections. Yet, even as he remained confident the election issue will be resolved, he cautioned that the town has not budgeted for an additional election; Windham (approximately 14,000) Town Manager David Sullivan said the municipality’s town Counsel would sign off on the town’s fire truck bond, notwithstanding bond counsel elsewhere in the state advising that ratification of the elections would be necessary.

Municipal authority to act has been hampered by different state House and Senate approaches: while the two bodies have been moving on parallel tracks in the wake of state officials’ questioning the authority of town moderators to reschedule the March 14 voting sessions of their town meetings, the Senate this week passed SB 248, a bill introduced to ratify actions taken at the rescheduled meetings; however, the bill passed with a committee amendment which deletes all of the original language and provides instead for the creation of a committee to “study the rescheduling of elections.” Senators acknowledged that the bill was not likely to pass through the House in that form—asserting the intent was simply to get a bill to the House for further work. Subsequently, a floor amendment was introduced to restore the bill’s original language, ratifying all actions taken at the rescheduled meetings; however, that amendment failed on a party-line vote, with all nine Democrats voting in favor and all fourteen Republicans voting against, leaving most unclear how this could have become a partisan issue. The question comes down to what level of control local officials should have over local elections. The Speaker described the outcome thusly: “I think it was a case of 10 people (on the committee) thinking that what happened was legal;” however, he maintained that the postponed votes were not legal, adding: “The sad thing is that for school districts with bond issues that passed in those meetings, I don’t see a path forward for them,” adding: “I think if you’re afraid of snowstorms, you ought to move your meetings, probably to May,” noting that state officials are forbidden by law from moving state primary and general elections, as well as the first-in-the-nation presidential primary. Unsurprisingly, town moderators and attorneys who work with them on municipal bond issues disagreed with the Speaker’s interpretation that the postponed elections were illegal and his belief that the only way to rectify the issue was for them to act to individually ratify them, with many arguing they acted legally under a state law which allows them to postpone and reschedule the “deliberative session or voting day” of a town meeting to another day; however, the Speaker maintains that law applies only to town meetings, while town elections are governed under a different statute, which provides: “All towns shall hold an election annually for the election of town officers on the second Tuesday in March.” He also noted that the state’s official political calendar, which has the force of law, states that town elections must be held on March 14, adding: “Without trying to place blame, laws are sometimes very confusing if you look only at parts of them,” noting: “I don’t believe for one second that moving the election was legal.”

The Speaker added that still another state law provides that at special town meetings, no money may be raised or appropriated unless the number of ballots cast at the meeting is at least half the number of those on the checklist who were eligible to vote in the most recent town meeting, albeit adding that such meetings do not apply to the current situation, because they are not elections. The state’s Secretary of State said that after three weeks of research, he was able to report on voter turnout at town elections for the past 11 years, advising that 210 towns held elections in March, and 137 of them “followed the law” by holding their elections on March 14th, while 73 towns had postponed their elections by several days. Now Speaker Jasper asks: “Why would we give over 300 individual moderators the ability to do that when our Secretary of State doesn’t have the ability to do that for a snowstorm in our general election or our presidential primary?” The Speaker notes: “I think we need to provide a way to ensure that we don’t clog up the courts, and we don’t have people spend a lot of their own money to fight this, and the towns don’t have to spend a lot of money fighting it.”

Un-positive Credit Rating for Puerto Rico. Moody’s Investors Service has lowered the credit ratings on debt of the Government Development Bank and five other Puerto Rico issuers, with a total of approximately $13 billion outstanding, and revised down the Commonwealth’s fiscal outlook, and the outlooks for seven affiliated obligors linked to the central government to negative from developing, with the downgrades reflecting what the agency described as “persistent pressures on Puerto Rico’s economic base that indicate a diminishing perceived capacity to repay,” noting that while it continues to “believe that essentially all of Puerto Rico’s debt will be subject to default and loss in a broad restructuring, the securities being downgraded face more severe losses than we had previously expected, in the light of Puerto Rico’s projected economic pressures. For this reason, we downgraded to C from Ca not only the senior notes issued by the now defunct Government Development Bank, but also bonds issued by the Puerto Rico Infrastructure Financing Authority and backed by federal rum tax transfer payments, the Convention Center District Authority’s hotel occupancy tax-backed bonds, the Employees Retirement System’s bonds backed by government pension contributions, and the 1998 Resolution bonds of the Puerto Rico Highways and Transportation Authority.”

Puerto Rico Governor Rossello late Wednesday said that the U.S. territory’s fiscal plan, approved by the PROMESA Board, does not contemplate any double taxation, adding that, between the increase in the property tax and the reduction of expenses in the municipalities, he favored the latter as a measure to compensate for the absence of the state subsidy of $350 million. He reiterated that, as a substitute for these funds, the properties which are not currently paying taxes to the Centro de Recaution de Ingresos Municipales (CRIM: the Municipal Revenue Collection Center) should be identified, because they are not included in their registry. The Governor also stressed that the economic outcome of these two fiscal initiatives is still being evaluated, albeit he estimated that they could generate about $100 million, noting: “Whatever the differential after that for the municipalities, there are two mechanisms that can be worked: One, a mechanism to seek an additional source of income, or, two, to avail cuts…The central government has taken the cutting position. We are already establishing a protocol to cut in the agencies, to consolidate, to eliminate the expenses that are not necessary, to go from 131 to between 35 to 40 agencies. That has been our action. The municipalities—now we will have a conversation with our technical team—will have several options: ‘either cut as did the central government or seek mechanisms to raise more funds or impose taxes.’” Currently, mayors evaluate to increase the arbitrage of the real property to 11.83% or to 12.83% in all the municipalities; the concept is for members of the Executive to offer assistance to do the modeling. Thus, the president of the board of CRIM, Cidra Mayor Javier Carrasquillo, said CRIM will be “sensitive to the reality of the pockets of Puerto Ricans: We have to be cautious and responsible in the recommendation that we are going to make…There is nothing definitive yet. There are recommendations.” The Governor noted that the PROMESA Board approved fiscal plan approved last month does not contemplate an increase in property taxation, asserting it was “false to imply that our fiscal plan entails an increase in the rate or a double rate on properties,” albeit recalling that the disappearance of $350 million in transfers to municipalities begins on July 1, when the fiscal year begins, promising it will be done progressively, so that in the next budget (2017-2018) $175 million disappear, and the remaining $175 million, the next fiscal year, describing it as a “two-year fade out.” Unsurprisingly, he did not specify when or how the plan would fiscally benefit this island’s municipalities, stating: “We have already been able to have pilot efforts to identify different municipalities where 60% of their properties are not being assessed…We are going to commit ourselves so that all these properties are in the system.”

The End of a Chapter 9 Era? Municipal bankruptcy is a rarity: even notwithstanding the Great Recession which produced a significant number of corporate bankruptcies—and federal bailouts to large for-profit corporations and quasi-federal corporations, such as Fannie Mae; the federal government offered no bailouts to cities or counties. Yet from one of the nation’s smallest cities, Central Falls, to major, iconic cities such as Detroit and Jefferson County, the nation experienced a just-ended spate, before—with San Bernardino’s exit last month, the likely closure of an era—even as we await some resolution of the request by East Cleveland to file for chapter 9 municipal bankruptcy. The lessons learned, compiled by the nation’s leading light of municipal bankruptcy, therefore bear consideration. Jim Spiotto, with whom I had the honor and good fortune over nearly a decade of effort leading to former President Reagan’s signing into law of the municipal bankruptcy amendments of 1988, offers us a critical guide of ten lessons learned:

  1. Do not defer funding of essential services and infrastructure: Detroit is a wake- up call for others that there is never a good reason to defer funding of essential services and infrastructure at an acceptable level. If you do, Detroit’s fate will be yours.
  2. Labor and pension contracts under state constitutional and statutory provisions should not be interpreted as a mutual suicide pact: It appears one of the reasons why resolution of pension and labor costs was not achieved in Detroit prior to filing Chapter 9 was the belief of the workers and retirees that, under the Michigan constitution, those contractual rights could not be impaired or diminished to any degree. This position failed to take into consideration that the municipality can only pay that which it has revenues to pay and, in an eroding declining financial situation, there will never be sufficient funds to pay all obligations, especially those that may be unaffordable and unsustainable.
  3. Don’t question that which should be beyond questioning and is needed for the long-term financial survival of the municipality: A dedicated source of payment, statutory lien or special revenues established under state law must be honored and should not be contested. Capital markets work effectively when credibility and predictability of outcome are clear and unquestioned. Current effort to pass new legislation (California SB222 and Michigan HB5650) to grant statutory first lien on dedicated revenues. Further, as noted in the Senate Report for the 1988 Amendments to the Bankruptcy Code and Chapter 9 “Section 904 [of Chapter 9 limiting the jurisdiction and power of the Bankruptcy Court] and the tenth amendment prohibits the interpretation that pledges of revenues granted pursuant to state statutory or constitutional provisions to bondholders can be terminated by filing a Chapter 9 proceeding”. This follows the precedent from the 1975 financial distress of New York City and the State of New York’s highest court ruling the state imposed moratorium was unconstitutional given the constitutional mandate to pay available revenues to the general obligation bondholders. See Flushing Nat. Bank et. al. v. Mun. Assistance Corp. of New York, 40 N.Y.S.2nd 731, 737-738 (N.Y. 1976). Just as statutory liens and special revenues, there is a strong argument that state statutory and constitutional mandated payments (mandated set asides, priorities, appropriations and dedicated tax revenue payments) should not and cannot be impaired, limited, modified or delayed by a Chapter 9 proceeding given the rulings of the Supreme Court in the Ashton and Bekins cases and the prohibitions of Sections 903 and 904 of Chapter 9 of the Bankruptcy Code.
  4. Debt adjustment is a process, but a recovery plan is a solution: As noted above, while Detroit has proceeded with debt adjustment which provides some additional runway so it can take takeoff in a recovery, such plan is not the cure for the systemic problem. Rather, the plan provides additional breathing room so that the municipality, through its Mayor and its elected officials, may proceed with a recovery plan, reinvest in Detroit, stimulate the economy, create new jobs, clear and develop blighted areas and raise the level of services and infrastructure to that which is acceptable and attract new business and new citizens.
  5. Successful plans of debt adjustment have one common feature: virtually all significant issues have been settled and resolved with major creditors: While the Detroit Plan started with sound and fury between the emergency manager and creditors and what they would receive, in the end, similar to what occurred in Vallejo, Jefferson County and even in Stockton (with one exception), major creditors ultimately reached agreement and supported the Plan of Debt Adjustment that allowed the municipality to move forward, confirm the Plan and begin its journey to recovery.
  6. One size does not fit all: There are many ways to draft a plan of debt adjustment and sometimes the more creative, the better. As noted above, traditionally major cities of size with significant debt did not file Chapter 9. They refinanced their debt with the backing of the state which reduced their future borrowing costs and allowed them to recover by having the liquidity and the reduced costs necessary to deal with their financial difficulties. Detroit chose a different path.
  7. A recovery plan must provide for essential services and infrastructure: “Best interest of creditors” and “feasibility” can only mean an appropriate reinvestment in the municipality through a recovery plan where there is funding of essential services and infrastructure at an acceptable level to stimulate the municipality’s economy to attract new employers and taxpayers thereby increasing tax revenues and addressing the systemic problem. While no plan of debt adjustment is perfect or assured, there should be, as the Bankruptcy Court in Detroit throughout the case pointed out, a plan to show the survivability and future success of the City.
  8. Confirmation of a plan of debt adjustment is only the beginning of the journey to financial recovery, not the end: It is important to recognize, as noted above, that Chapter 9 is a process, not a solution. The recovery plan, which will take dedication and effort by the elected officials of the City along with residents, public workers and other creditors is the only way to achieve success. It is measured not by months, but by years, and by the constant vigilance to ensure that the systemic problem is addressed effectively in a permanent fix.

Addressing Municipal Fiscal Distress

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eBlog, 04/05/17

Good Morning! In this a.m.’s eBlog, we consider some unique efforts to address municipal fiscal distress by the Illinois Legislature, based upon tag team efforts by the irrepressible fiscal tag team of Jim Spiotto and Laurence Msall of the Chicago Civic Federation. The effort matters, especially as the Volker Alliance’s William Glasgall, its Director of State and Local Programs, has raised issues and questions vis-à-vis state roles relating to addressing severe municipal fiscal distress. As we have noted—with only a minority of states even authorizing municipal bankruptcy, there are significant differences in state roles relating to severe municipal fiscal distress and insolvency. Thus, this Illinois initiative could offer a new way to think about state constructive roles. Then we turn to Ferguson, Missouri to assess its municipal election results—and its remarkable, gritty fiscal recovery from the brink of insolvency.

Addressing Municipal Fiscal Distress. The Illinois Legislature is considering House Bill 2575, the Illinois Local Government Protection Authority Act, offered by Rep. David Harris (R-Arlington Heights), which would establish an Authority for the purpose of achieving solutions to financial difficulties faced by units of local government, creating a board of trustees, and defining the Authority’s duties and powers, including the ability to obtain the unit of local government’s records—and to recommend revenue increases. The legislation provides for a petition process, whereby certain entities may petition the Authority to review a unit of local government; it also sets forth participation requirements. The effort comes in the wake of distressed local governments struggling under the weight of pension, healthcare, and other debts: it would propose this new, special authority for fiscal guidance to fiscally strapped local units of government, but without mandating severe budget cuts—or, as Rep. Harris described it: a “cooperative effort between the state and financially unit of local government…(one which) involves local elected officials and local governmental bodies and taxpayers, workers, and business entities developing a plan of financial recovery — is the best way to find a permanent solution to current financial challenges.” According to the Chicago Civic Federation, which asserts the intent is to help the state’s municipalities recover without being forced into chapter 9 municipal bankruptcy, such an authority could be valuable—especially in a state which, like the majority of states, does not generally permit a city, county, or other municipal entity to file for bankruptcy. Under the proposal, nine trustees would oversee the new authority, including four appointed by the Illinois Municipal League; the Governor, Speaker of the House, and Minority Leader, and their state Senate counterparts would each appoint one member: the new authority would rely on the Illinois Comptroller’s office to provide reports and some operational support; the legislation would also set a fee schedule to enable coverage of its administrative costs.

The exceptional leader of the Federation, Laurence Msall, noted: “The LGPA would serve as a resource to assist distressed municipalities in making determinations as to what essential governmental services are sustainable and affordable and what combination of revenue increases and service cuts, and other actions would be necessary to ensure fiscal sustainability and access to critical services.” Under the proposed legislation, a municipality could petition the authority to intervene; but also, the Illinois Comptroller, a public pension fund, or even a large creditor owed a substantial debt could. The proposal would authorize a municipality to petition too—provided it committed to participate—and provided it met specific criteria, including inadequate liquidity, overdue debt, weak pension funding ratios, or signal budget imbalances. If triggered, the suggested new authority would be authorized to recommend budget cuts, tax increases, and/or pension funding actions: as proposed, the authority would be charged with reviewing whether the city, county, or other unit of government should:

  • try to negotiate a debt restructuring,
  • explore public-private partnerships, or
  • asset sales and consolidation.

The authority would be authorized to consider potential pension reforms, such as whether the municipality should offer more corporate-style retirement plans, as well as whether it should establish a trust to fund its OPEB post-retirement healthcare obligations.

The proposed legislation authorizes authority to set fiscal targets; it offers the option for the proposed new authority to serve as a mediator in negotiations between a municipality and debtors, to endorse tax increases—increases which might trigger a public referendum, and issue recommendations to the Illinois state government with regard to the diversion of funds to address specific municipal funding mandates—granting authority too to seek declaratory and injunctive relief with regard to the exercise of its powers and implementation of its findings and recommendations. Finally, as a last resort, the authority could recommend pursuit of chapter 9 municipal bankruptcy. The nation’s architect of the federal municipal chapter 9 municipal bankruptcy law, Jim Spiotto, notes: “This municipal protection authority concept could be the means of providing state and local government cooperation and oversight while allowing the municipality, its elected officials, workers and unions, creditors and bondholders to have a means of participation with a definitive end result.” For his part, Mr. Msall described the rationale as vital to establishing “a systematic means of evaluating and assisting these governments,” instead of taking on municipal fiscal distress on a case-by-case effort, noting that “The Civic Federation is very concerned about the financial condition of many local governments in the state of Illinois, and many of them which will not be able to seek assistance unless there is the creation of this authority.”

& The Winner is: Ferguson, Missouri voters have reelected incumbent Mayor James Knowles III to a third term in the municipality’s first mayoral election since protests erupted there three years ago in the wake of one of the city’s white police officer’s shooting of an unarmed black 18-year-old—a shooting which ignited a national protest and led to a federal Justice Department intervention and harsh fiscal penalties for the nearly insolvent municipality. Mayor Knowles won by a 56%–44% margin against Councilwoman Ella Jones, who is black, in a small municipality which was once an overwhelmingly white “sundown town” where, until the 1960s, African-Americans were banned after dark. Perhaps ironically, the Mayor’s reelection followed just one day in the wake of U.S. Attorney General Gen. Jeff Sessions’ order that the U.S. Justice Department review its existing consent decrees with municipal police departments—the agreement in Ferguson, imposed under the Obama administration, imposed unfunded federal mandates, including demands to levy new taxes. In its report, the Obama Justice Department had alleged that the Ferguson Police Department and the City of Ferguson relied on unconstitutional practices in order to balance the city’s budget through racially motivated excessive fines and punishments, so that former U.S. Attorney General Eric Holder stated the federal government would use its authority to dismantle the Ferguson Police Department—a threat, which at the time, Ferguson’s then-Mayor had warned could mark the first time in the nation’s history that the federal government might force a municipality into municipal bankruptcy, and led credit rating agency Moody’s to place the municipality’s municipal bond rating on review for downgrade because of threats to the city’s solvency—with the downgrade of the city’s general obligation rating reflecting what the credit rating agency described as “the continued pressure on the city’s finances from a persistent structural imbalance and incorporating the recently approved U.S. Department of Justice (DOJ) consent decree, projected to increase annual General Fund expenses over the next several years,” in the wake of Moody’s assessment after the U.S. Justice Department lawsuit against the small city, noting its downgrade then had reflected concerns related to the uncertainty of the potential financial impact of litigation costs from the federal lawsuit and the price tag for implementing the proposed DOJ consent decree, writing: “We believe fiscal ramifications from these items will be significant and could result in insolvency.”

Indeed, the Justice Department’s unfunded federal mandates included federally imposed financial penalties, and the mandate to levy new, municipal taxes: leading to voter approval of a utility tax hike projected to generate $700,000 annually—an increase which Mayor Knowles, at the time, described as a critical vote, because, had the measure failed, the city’s police force’s authorized number would have been cut to 44, and firefighter jobs would also have been cut; he had warned, in addition, that the vote was intended to make clear the city was fiscally viable. So, today, in the wake of resignations and elections, Ferguson features three black council members, a black police chief, and a black city manager—and, in the interim, Mayor Knowles has survived a recall attempt (in 2015), noting in a Facebook post during the campaign that he wanted to follow the example set by former President Abraham Lincoln: “For those familiar with history, during the Civil War, Lincoln was often criticized by people on both sides of the issues of slavery and the war because of his even-handedness and his resistance to the pressures of radicals on both sides. He knew radicalism, even after the war, would further divide us, which it has for generations.”

Mayor Knowles’ challenger, Councilmember Jones, ran, because, she said, it was “time for Ferguson to unite and become one Ferguson, and we cannot move forward under the leadership that we are under at this point,” harshly criticizing the U.S. Attorney General’s move to review the city’s consent decree—one which Mr. Sessions had previously claimed was based on a report that was “anecdotal” and “not so scientifically based,” with Councilmember Jones warning that the Attorney General’s action was “not going to help Ferguson at all,” adding: “We need that consent decree in order to keep Ferguson moving forward.” Nevertheless, the gritty, can-do leadership of the city’s elected officials appears to have defied the odds: City Manager De’Carlon Seewood recently wrote that in the wake of a “drastic decline” in revenue, “the city’s operating budget is beyond lean. It’s emaciated.”

 

Governance & Fiscal Recovery

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eBlog, 04/03/17

Good Morning! In this a.m.’s eBlog, we consider the ongoing recovery efforts in Ferguson, Missouri; then we return to the Motor City to assess what and how home ownership might have changed in the wake of the city’s recovery from the largest chapter 9 municipal bankruptcy in U.S. history, before returning to the azure waters of Puerto Rico to assess its most recent fiscal developments.

A Recovering City’s Future? Ferguson, Missouri voters tomorrow will pick between Mayor James Knowles III and Councilwoman Ella Jones in the Mayoral election–for a 3-year term: Mayor Knowles was first elected Mayor on April 5, 2011, after serving on the Ferguson City Council for six years: he became the youngest mayor in Ferguson’s history when he took office at the age of 31, while Councilwoman Jones became the first African-American woman to be elected to her position. But tomorrow could mark a check point in the wake of the dramatic leadership changes since the 2014 shooting of Michael Brown put the St. Louis suburb at the center of the debate over the treatment of blacks by the nation’s police forces–and on the brink of insolvency. Mayor Knowles, who is finishing his second term, noted: “These past three years have been very difficult, but I’ve been the one who has shown I can lead through tough times…That I can take the heat, but also make the changes, the reforms necessary to make the community move forward.” Nevertheless, in the wake of the killing of an unarmed black teenager, by a white police officer nearly three years ago, Mayor Knowles has borne the brunt of considerable anger, as Ferguson went from a mostly unheard-of St. Louis suburb to a flash-point of racial unrest. After months of protests following the shooting, people rioted that November when a grand jury declined to charge the officer, who resigned that month. There was further unrest the following March when the U.S. Department of Justice cleared the officer of wrongdoing—and issued a scathing report alleging racial bias and profiling by the small city’s police department and courts—a report which appeared to lead to the resignations of the city’s police chief, city manager, municipal judge, and city attorney. Indeed, of all the city’s top officials, only Mayor Knowles remains—and that notwithstanding threats in phone calls and emails, a stolen identity, and having his home’s windows broken.  In contrast, Councilwoman Jones has lived most of her life in Ferguson: she is serving her first term as a Councilwoman, and, in her campaign, assert she wants the Mayor’s office to be “inclusive for everyone, instead of exclusive,” noting: “We have to listen and stop turning our heads and turning a deaf ear to people, because they’re just like you and I. They want to be heard and they have a right to be heard.”

Whomever the voters elect will confront a daunting fiscal challenge: the city lost millions of dollars of revenue after municipal court reforms were implemented following Mr. Brown’s death: sales and use tax revenues dropped as businesses victimized by looters were burned and closed: many have not returned. Similarly, the city has more than a dozen police vacancies: the city lacks sufficient budget resources to compete with larger, better funded governments in St. Louis County—and still is handicapped by its unfunded costs of compliance with U.S. the Justice Department imposed consent decree to improve the police and municipal court systems and eliminate racial bias: an unfunded federal mandate projected to cost the impoverished city budget and taxpayers more than $2 million. The city of about 20,000, which actually experienced a population decline of nearly 6% since 2000, nevertheless has experienced a gradual increase in median income to $43,998 by 2015—approximately 86% of average statewide household income.

And, irrespective of whom the voters select, this is not a position of responsibility that pays much: the Mayor’s pay is $4,200 annually; rather, as the incumbent notes: it’s the love of their community and the opportunity to be its face to the outside world: “These past three years have been very difficult, but I’ve been the one who has shown I can lead through tough times…That I can take the heat but also make the changes, the reforms necessary to make the community move forward.” In contrast, Councilwoman Jones said she wants the Mayor’s office to be “inclusive for everyone, instead of exclusive…We have to listen and stop turning our heads and turning a deaf ear to people, because they’re just like you and I. They want to be heard and they have a right to be heard,” she said.

A Lost Fiscal Decade? Joel Kurth and Mike Wilkinson, writing in Bridge Magazine, note that still, today, home mortgages remain a rarity in Detroit: “Home sales with mortgages are rare in Detroit, occurring in just a few areas: Miles from downtown Detroit and its debates about gentrification, a more modest question surrounds the real estate in many city neighborhoods. Cash or charge?” The pair found that “sales with mortgages are rare in Detroit, occurring in just a few areas.”  Their piece outlines remarkable oscillations in assessed property values, noting that the average home sale price in the city went from $84,109 in 2001 down to $12, 517 in 2009, and then back up to $50,308 by last year—still far below the unadjusted 2001 level—albeit they found that the average price last year for homes purchased with a mortgage was $155,650. In comparing homeownership rates, they noted that last year’s rate of 47% remained under the year 2000 rate of 55%. Thus, they found that obtaining a mortgage continues to be challenging in outlying neighborhoods across Detroit, with the vast majority of homes sold for cash to landlords and investors, rather than homeowners, according to sales data and numerous interviews—posing hard questions about who will benefit in a revival rooted in downtown and Midtown in what remains the nation’s poorest city—a city where, according to the Census Bureau, 39.3% of people live below the poverty line (defined as $24,250 for a family of four), making it “the poorest in America with more than 300,000 people, followed by Cleveland (39.2%), Fresno, Calif., (30.5%), Memphis (29.8%), and Milwaukee (29%), albeit finding the Motor City’s rate has actually decreased from 2012, when it was 42.3%. The authors quoted a real estate agent: “Detroit is evolving into a new place, but outside of hot areas, neighborhoods just aren’t where they need to be to increase property values enough for banks to lend money.”

Nevertheless, a joint report by Bridge and Detroit public radio station WDET did find some grounds for optimism, determining that home sales and prices are increasing citywide after bottoming out after the mortgage meltdown, which left in excess of 65,000 foreclosures; the report noted that in some neighborhoods, prices are rising so swiftly that they are creating bidding wars, albeit the gains are uneven, and mortgage lending is mostly confined to more affluent neighborhoods, according to records from Realcomp Ltd. II: last year, only 19% of 3,800 Detroit homes sold by conventional means were financed with mortgages, demonstrating signal disparities: homes with mortgages sold for an average of $155,000; cash sales averaged $30,000—an imbalance Mayor Mike Duggan fears could “cripple” the Motor City’s recovery, according to Erica Ward Gerson, Chairwoman of the Detroit Land Bank Authority, which assembles and sells properties: she deemed the number of cash sales a “serious, serious problem,” because they can deter home ownership and depress property values, noting that cheap sales are usually rentals or vacant houses, while pricier sales are often out of reach for ordinary buyers. Most home sales in Detroit require cash; only 19 percent of the 3,800 sales in 2016 involved a mortgage, reflecting the difficulty to secure loans in a city where property values are less than half what they were a decade ago. 

In response, Mayor Duggan has sought to team with banks, foundations, and nonprofits to offer a number of programs to increase the availability of home loans; to date, as one non-profit in the city notes, the programs have demonstrated some success; however, most focus on stable neighborhoods, e.g., not where the most serious challenges remain: in more impoverished east side neighborhoods, homes last year sold for $4,000 to $40,000 in cash, according to Realcomp data—even as, a few miles away in downtown and Midtown, homes and lofts sell for $250,000 or more, according to records. Indeed, according to the Urban Institute, in 2014, 97% of Detroit homes sold for cash—nearly thrice the national average of 36%; cities with comparable populations, such as Memphis, Columbus, and El Paso, last year had at least five times as many mortgages as the approximately 710 mortgages sold in Detroit, according to data from RealtyTrac, a California-based company that tracks real estate. Indeed, according to the Urban Institute, Detroit once had one of the highest rates of home ownership among African-Americans nationwide; but, today, the city is majority renters: since 2000, the percentage of renters has increased to 53 percent from 45 percent, according to the U.S. Census.

Don’t Bank on the City’s Future. A key fiscal issue appears to be the reluctance of banks in Detroit to offer home mortgages for less than $50,000, a figure higher than many Detroit homes are worth—a seeming legacy of the sharp withering of assessed property values after the real-estate crash. Moreover, acquiring clear titles necessary for mortgages has become more difficult, because all too many Detroit homes have liens, and way too many are in such disrepair that making them livable can multiply purchase prices. Then, almost as if adding injury to insult, current federal regulations promulgated after the crash have increased the cost of issuing mortgages. Indeed, according to the Urban Institute: only one in five Detroit residents have credit scores high enough to obtain a mortgage. Erica Ward Gerson, Chair of the Detroit Land Bank, notes that Mayor Duggan, even before he took office three years ago, had recognized how critical mortgages would be to the city’s fiscal recovery: he went, in 2015, to Denver to the Clinton Global Initiative America to plead his case to the former President and leaders of foundations and banks: afraid that low appraisals and the refusal to loan small amounts would undercut any long-term recovery chances for the city. That leadership turned out to be key: In the wake of Mayor Duggan personally taking at least one bank leader on tours of stable neighborhoods in Detroit where lending was impossible, Ms. Gerson noted that in “lightning speed,” five banks, community foundations, and nonprofits teamed to form the Detroit Home Mortgage program, which removes barriers to lending and issues mortgages for up to $75,000 more than appraised value. Now, in this new initiative, announced in February, the Mayor hopes to secure financing for 1,000 mortgages over the next 3-5 years.

Governing from Afar. It is now expected to take the PROMESA Oversight Board several more months to set up the administrative structure to pass judgment over the budgetary impact of every law enacted by Puerto Rico; nevertheless, the announcement that this process will be set in motion marks the consolidation of Puerto Rico’s public finances, coming just as Puerto Rico bondholders and bond insurers have repeated a request to the Oversight Board to initiate immediate debt negotiations. The Ad Hoc Group of GO Bondholders, which had requested the negotiations get started last week, had joined with other creditors in asking the PROMESA Board to commence negotiations this morning in New York City, with the creditors having rejected the Board’s request for a mediator to oversee the negotiations. The creditors complained it would take too long to set up the mediation ground rules and that there are only a few weeks to complete the debt negotiations, writing they had “all agreed not to participate in a mediation that lacks basic process,” seeking to trigger the PROMESA provision on a consensual debt negotiation process, which can run until May 1, when a stay on litigation allowed by PROMESA and the board will end. PROMESA Board Chair José Carrión III, for his part, has claimed that his plan is not to create a “super government,” at least in terms of the amount of people in the organism, notwithstanding that the Board’s new executive director and former Ukraine Minister of Finance, Natalie Jaresko, has been tasked with creating an office which, among other things, should have the capacity to pass judgment over the fiscal impact of each law passed in the last few months and those which might be ratified from now onward—or, as the Chairman describes it: “She will start hiring (personnel), of whom the vast majority will be Puerto Rican. We are searching for people who don’t just see this as an employment opportunity, but as a patriotic duty.”

To date, the PROMESA Board’s primary task has been to certify a long-term fiscal plan, but now the hard part of agreeing on the details and putting the legislative process under the magnifying glass commence—much like the long and painful process of reaching resolution of a plan of debt adjustment under chapter 9. To date, via letters addressed to the Governor and the leaders of the legislative chambers, the PROMESA Board first established a work calendar to which the Puerto Rico Legislature is to comply with the budget the Governor must submit before the end of the month—then granting the legislature just two weeks in May to assess and amend said budget—upon which the PROMESA Board will have the final say. Indeed, if, by the end of June, the Governor and the Legislature have not complied with the Board’s mandates, the Board—which has powers greater than Puerto Rico’s elected officials—could impose its own budget for Puerto Rico’s FY2018 year that begins on July 1st.

The process, in contrast to chapter 9 in local governments, will not include all branches; rather, the PROMESA Board is expected to continue to makes its exchanges with the Governor—not the legislators, which make up a branch of government with two leaders and where, at least on paper, Senate President Thomas Rivera Schatz promises to ignore the members of the fiscal authority. Indeed, according to PROMESA, the exchange related to the revision of every law is made directly with the Governor, to whom the Board has granted seven days—after the statute is adopted—to present the fiscal impact estimate, if any, on the Governments revenues and expenditures. Or, as former Senator Fernando Martín, who is the executive president of the Puerto Rican Independence Party, put it: “As long as they take their draconian powers seriously, I believe they will do what they announced: examine passed legislation; repeal any legislation that proves contradictory with the fiscal plan; or, to soften the blow, try to make the Legislature modify it,” adding that the PROMESA Board’s defense against the Government of Puerto Rico’s bondholders is to be rigorous in controlling expenses: “Paraphrasing the current Governor’s father, the worst is yet to come: austerity, by itself, cannot be a recipe,” rather they will have to encourage solving “the structural problem in the relations between Puerto Rico and the U.S., since the solution means ending colonialism”.

Mr. Martin believes that the Governor—as the leader of the Executive branch—, the Senate President, and the House Speaker could have the judicial strength to sue: “If the Governor accepts my call to challenge the Board and the intervention in the Island’s governmental affairs, I am more than willing to help combat the Board. If I was Governor and they rejected a law I signed, I would challenge the Board’s actions in court.” However, because the PROMESA Board was imposed by Congress, in exchange for offering Puerto Rico the possibility of a quasi-chapter 9 territorial bankruptcy procedure, and because the federal law bases the Board’s control over the Island on the power Congress has to legislate through the territorial clause of the United States Constitution; it would seem his advice would be unlikely to pass judicial muster—even as Mr. Martin notes: “The Governor of Puerto Rico is Ricardo Rosselló, elected by the people’s votes. It is not Mr. Carrión. Even though Ricardo Rosselló does not belong to my party, I respect the position he holds and the power he has according to what is established by our Constitution.” Ferrer added.

Donde Estamos? Currently, while the PROMESA Board is still reviewing the workday reduction for public employees and the elimination of the Christmas bonus if its members believe that there will not be enough cash in the coffers by July 1st, the tax reduction for doctors would cost $185 million per year. Thus, the Representative from the New Progressive Party, José Enrique “Quiquito” Meléndez, opines that Governor Rosselló’s government has had “a particular worry,” which is if the Board’s power over Puerto Rico’s laws includes measures passed before the certification of the fiscal plan. Ergo. Rep. Meléndez considers that the one with the greatest cost will be the doctors’; however, among the laws which would be subject to the Board’s review would lie the financing for the plebiscite and the office of the Inspector General—or as he described it: “The plebiscite’s impact is not substantial, even without the $2.5 million that the federal government can grant.” The cost of the plebiscite—whose possible celebration is mentioned in PROMESA, has been estimated at $5 million at least—an amount that Mr. Martín does not foresee that the Board would want to say that holding a consultation on Puerto Rico’s political future, even under a Board that could only exist under the territorial status, to be “a superfluous cost.”

The Uneven Shape of Colonial Governance. Because of the PROMESA Board’s absolute power over Puerto Rico’s elected officials and even the finances of the Puerto Rico Judicial Branch, the governance situation appears to be without precedence since Congress granted Puerto Rico a structure to form a local government.

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.”

State and Local Insolvency & Governance Challenges

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eBlog, 03/29/17

Good Morning! In this a.m.’s eBlog, we consider the efforts to recover from the brink of insolvency in the small municipality of Petersburg, Virginia, before considering the legal settlement between the State of Michigan and City of Flint to resolve the city’s state-contaminated water which nearly forced it into municipal insolvency.

On the Precipice of Governing & Municipal Insolvency. Consultants hired to pull the historic Virginia municipality of Petersburg from the brink of municipal bankruptcy this week unveiled an FY2018 fiscal plan they claim would put the city on the path to fiscal stability—addressing what interim City Manager Tom Tyrrell described as: “It’s bad, it’s bad, it’s bad.” With the city’s credit ratings at risk, and uncertainty with regard to whether to sell the city’s utility infrastructure for a cash infusion, former Richmond city manager Robert Bobb’s organization presented the Petersburg City Council with the city’s first structurally balanced spending plan in nearly a decade: the proposed $77 million operating budget would increase spending on public safety and restore 10 percent cuts to municipal employees’ pay, even as it proposes cutting the city’s workforce, deeming it to be bloated and structurally inefficient. The recommendations also propose: restructuring municipal departments, the outsourcing of services that could eliminate up to 12 positions, and the reduction through attrition of more than 70 vacancies.

As offered, the plan also recommends about a 13 percent increase in the city’s current operating budget of $68.4 million, which was amended twice this fiscal year: the $77 million total assumes a $6 million cash infusion labeled on a public presentation as a “revenue event,” referring to a controversial issue dividing the elected leaders versus the consultants: Council members and the Washington, D.C. based firm have been at loggerheads over unsolicited proposals from private companies offering to purchase Petersburg’s public city’s utility system—a challenge, especially because of citizen/taxpayer apprehension about private companies increasing rates for consumers at a time when double-digit rate increases already are on the horizon. That, in turn, has raised governance challenges: Mr. Bobb, for instance, has expressed frustration with the city’s elected leaders’ decision to stall negotiations and study the prospect by committee, noting: “The city is out of time…They’re out of time with what’s needed with respect to the long-term financial health of the city. Time’s up.” Mr. Bobb believes the city cannot cut its way to financial health, or raise tax rates for city residents who themselves are struggling to get by, noting that at $1.35 per $100 of assessed value, the city’s real estate tax rate is currently the highest in the region—and at a potential tipping point, as, according to Census data, nearly half the city’s children live below the poverty line, which is set at $24,600 for a family of four. Moreover, Petersburg’s assessed property values have stagnated for the past five years, according to the credit rating agency Standard & Poor’s, which rated the city with a negative outlook at the end of last year: the lowest of any municipality in the state. (The city ended FY2016 with $18.8 million in unpaid bills and began the new fiscal year $12.5 million over budget. The budget since has been balanced, but debts remain.)

Under Mr. Bobb’s proposed plan, in a city where public safety is already the largest expense in the operating budget, he has proposed increasing police pay, addressing salary compression in the department, and providing for a force of 111 full-time and seven part-time employees. He suggests that should Petersburg not reap a $6 million “revenue event” in FY2018, the operating budget would be about 5 percent above this year’s, and a few million below revenues for fiscal years 2016 and 2015. Mr. Bobb’s consultant, Nelsie Birch, who is serving as Petersburg’s CFO, reports the city’s budget process and the development of the upcoming year’s budget have been thwarted by a lack of administrative infrastructure, noting that in the wake of starting work last October, he walked into a city finance department that had two part-time workers out of seven allocated positions—and a municipality with only $75,000 in its checking account. (Last week, there was approximately $700,000.) Today, Mr. Birch holds one of more than a half-dozen high-profile positions now filled by interim workers and consultants; Petersburg is paying about $80,000 for a Florida-based head hunter to help fill some of the city’s key vacancies, including those for city manager, deputy city manager, police chief, and finance director—with the City Council having voted last week to extend the Bobb Group’s contract through the end of September—at a cost to Petersburg’s city taxpayers of about $520,000.

Nevertheless, the eventual governance decisions remain with the Petersburg City Council, which secured its first opportunity to study the plan this week—a plan which will be explored during more than a half-dozen public meetings planned for the coming weeks: explorations which will define the city’s fiscal future—or address the challenge with regard to whether the city continues on its road to chapter 9 municipal bankruptcy.

The fiscal and governance challenges in this pivotal Civil War city, however, extend beyond its borders—or, as the ever so insightful Neal Menkes, the Director of Fiscal Policy for the Virginia Municipal League notes:  

“Perhaps the unstated theme is that the push for ‘regionalism’ is related not just to changing economic realities but to the state’s outmoded governance and taxation models. Local finances are driven primarily by growth in real estate and local sales, revenues that are not sensitive to a service economy. Sharing service costs with the Commonwealth is another downer. K-12 funding formulae are more focused on limiting the state’s liability than meeting the true costs of education.  That’s why locals overmatch by over $3.0 billion a year the amounts required by the state to access state basic aid funding.”

State Preemption of Municipal Authority & Ensuing Physical, Governing, and Fiscal Distress. U.S. District Judge David Lawson yesterday approved a settlement under which Michigan and the City of Flint have agreed to replace water lines at 18,000 homes under a sweeping agreement to settle a lawsuit over lead-contaminated water in the troubled city—where the lead contamination ensued under the aegis of a state-appointed emergency manager. The agreement sets a 2020 deadline to replace lead or galvanized-steel lines serving Flint homes, and provides that the state and the federal government are mandated to finance the resolution, which could cost nearly $100 million; in addition, it provides for the state to spend another $47 million to replace lead pipes and provide free bottled water—with those funds in addition to $40 million budgeted to address the lead-contamination crisis; Michigan will also set aside $10 million to cover unexpected costs, bringing the total to $97 million.

The lawsuit, filed last year by a coalition of religious, environmental, and civil rights activists, alleged state and city officials were violating the Safe Drinking Water Act—with Flint’s water tainted with lead for at least 18 months, as the city, at the time under a state-imposed emergency manager, tapped the Flint River, but did not treat the water to reduce corrosion. Consequently, lead leached from old pipes and fixtures. Judge Lawson, in approving the settlement, called it “fair and reasonable” and “in the best interests of the citizens of Flint and the state,” adding the federal court would maintain jurisdiction over the case and enforce any disputes with residents. Under the agreement, Michigan will spend an additional $47 million to help ensure safe drinking water in Flint by replacing lead pipes and providing free bottled water, with the state aid in addition to $40 million previously budgeted to address Flint’s widespread lead-contamination crisis and another $10 million to cover unexpected costs, bringing the total to $97 million. The suit, brought last year by a coalition of religious, environmental, and civil rights activists, alleged Flint water was unsafe to drink because state and city officials were violating the Safe Drinking Water Act; the settlement covers a litany of work in Flint, including replacing 18,000 lead and other pipes as well as providing continued bottled water distribution and funding of health care programs for affected residents in the city of nearly 100,000 residents. It targets spending $87 million, with the remaining $10 million saved in reserve. Ergo, if more pipes need to be replaced, the state will make “reasonable efforts” to “secure more money in the legislature,” Judge Lawson wrote, adding that the final resolution would not have been possible but for the involvement of Michigan Governor Rick Snyder. Judge Lawson also wrote that the agreement addresses short and long-term concerns over water issues in Flint.

The settlement comes in the wake of last December’s announcement by Michigan Attorney General Bill Scheutte of charges against two former state-appointed emergency managers of Flint, Mich., and two other former city officials, with the charges linked to the disastrous decision by a former state-appointed emergency manager to switch water sources, ultimately resulting in widespread and dangerous lead contamination. Indeed, the events in Flint played a key role in the revocation of state authority to preempt local control—or Public Act 72, known as the Local Government Fiscal Responsibility Act, which was enacted in 1990, but revised to become the Emergency Manager law under current Gov. Rick Snyder. Michigan State University economist Eric Scorsone described the origin of this state preemption law as one based on the legal precedent that local government is a branch of Michigan’s state government; he noted that Public Act 72 was rarely used in the approximately two decades it was in effect through the administrations of Gov. John Engler and Gov. Jennifer Granholm; however, when current Gov. Rick Snyder took office, one of the first bills that he signed in 2011 was Public Act 4, which Mr. Scorsone described as a “beefed-up” emergency manager law—one which Michigan voters rejected by referendum in 2012, only to see a new bill enacted one month later (PA 436), with the revised version providing that the state, rather than the affected local government paying the salary of the emergency manager. The new law also authorized the local government the authority to vote out the state appointed emergency manager after 18 months; albeit the most controversial change made to PA 436 was that it stipulated that the public could not repeal it. The new version also provided that local Michigan governments be provided four choices with regard to how to proceed once the Governor has declared an “emergency” situation: a municipality can choose between a consent agreement, which keeps local officials in charge–but with constraints, neutral evaluation (somewhat akin to a pre-bankruptcy process), filing for chapter 9 municipal bankruptcy, or suffering the state appointment of an emergency manager. As Mr. Scorsone noted, however, the replacement version did not provide Michigan municipalities with a “true” choice; rather “what you actually find is that a local government can choose a consent agreement, for example, but actually the state Treasurer has to agree that that is the right approach. If they don’t agree, they can force them to go back to one of the other options. So it is a choice, but perhaps a bit of a constrained choice.”

Thus, the liability of the emergency managers and the decisions they made became a major issue in the Flint water crisis—and it undercut the claim that the state could do better than elected local leaders—or, as Mr. Scorsone put it: “The state can take over the local government and run it better and provide the expertise, and that clearly didn’t work in the Flint case. The situation is epically wrong, perhaps, but this is clearly a case of where we have to ask the question: why did it go wrong, and I think it’s a complex answer, but one of the things that needs to be done…we need a better relationship between state and local government.” That has proven to be especially the case in the wake felony charges levied against former state appointed Emergency Managers in Flint of Darnell Earley and Gerald Ambrose, who were each charged with two felonies that carry penalties of up to 20 years—false pretenses and conspiracy to commit false pretenses, in addition to misconduct in office (also a felony) and willful neglect of duty in office, a misdemeanor.

Today, Michigan local governments have four choices in the wake of a gubernatorial declaration of an “emergency” situation: a municipality or county  can choose between a consent agreement, which keeps local officials in charge but with constraints; neutral evaluation, which is like a pre-municipal bankruptcy process;  filing for chapter 9 municipal bankruptcy directly; or suffering the appointment of an emergency manager—albeit, as Mr. Scorsone writes: “The choice is a little constrained, to be truthful about it…If you really carefully read PA 436, what you actually find is that a local government can choose consent agreement, for example, but actually the state Treasurer has to agree that that is the right approach. If they don’t agree, they can force them to go back to one of the other options. So it is a choice, but perhaps a bit of a constrained choice…The law is pretty clear that the emergency manager is acting in a way that does provide some governmental immunity…The emergency manager, if there’s a claim against her or him, has to be defended by the Attorney General. That was fairly new to these new emergency manager laws. The city actually has to pay the legal bills of what the Attorney General incurs, and it’s certainly true that there is a degree of immunity provided to that emergency manager, and I suppose the rationale would be that they want some kind of protection because they are making these difficult decisions. But I think this issue is going to be tested in the Flint case to see how that really plays out.” Then, he noted: “The theory is that the state can do it better…The state can take over the local government and run it better and provide the expertise, and that clearly didn’t work in the Flint case. The situation is especially wrong, perhaps, but this is clearly a case of where we have to ask the question why did it go wrong, and I think it’s a complex answer, but one of the things that needs to be done…we need a better relationship between state and local government.”

The Challenge of Recovering from or Averting Municipal Bankrupty

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eBlog, 03/28/17

Good Morning! In this a.m.’s eBlog, we consider the ongoing recovery in Detroit from the largest municipal bankruptcy in U.S. history, before spinning the tables in Atlantic City, where the state takeover of the city has been expensive—and where the state’s own credit rating has been found wanting.

Home Team? A Detroit developer, an organization, Dominic Rand, has initiated a project “Home Team,” seeking to purchase up to up 25 square miles of property on the Motor City’s northwest side with a goal of keeping neighborhoods occupied by avoiding foreclosures and offering renters a path to homeownership. Nearly four years after the city’s chapter 9 filing for what former Emergency Manager Kevyn Orr deemed “the Olympics of restructuring,” to ensure continuity of essential services while developing a plan of debt adjustment to restructure the city’s finances—and to try to address the nearly 40 percent population decline and related abandonment of an estimated 40,000 abandoned lots and structures, as well as the loss of 67 percent of its business establishments and 80 percent of its manufacturing base, Mr. Rand reports he is excited about this initiative by an organization for purchases of homes slated for this year’s annual county tax foreclosure auction. His effort is intended to rehabilitate the homes and help tenants become homeowners. The effort seeks to end the cycle of home foreclosures due to unpaid property taxes. 

This is not the first such effort, however, so whether it will succeed or not is open to question. Officials at the United Community Housing Coalition note that previous such initiatives have failed, remembering Paramount Mortgage’s comparable effort, when the company purchased 2,000 properties, in part financed through $10 million from the Detroit police and fire pension fund—an effort which failed and, in its wake, left 90 percent of those in demolition status. Fox 2 reported that the City “does not support this proposal,” questioning its “ability to deliver on such a massive scale with no particular track record to indicate they would be successful,” adding the organization, if it wants to “start out by becoming a community partner through Detroit Land Bank and show what they can do with up to nine properties, they are welcome to do so.”

At first, the Home Team Detroit development group considered purchasing every property in Detroit subject to this year’s annual county tax foreclosure auction; instead, however, the group focused on the northwest quadrant covering 25 square miles and 24 neighborhoods—an area larger than Manhattan—with founder David Prentice noting: our “game plan is pretty simple: You are going to have a quadrant of (Detroit) with properties that are primarily occupied.” Mr. Prentice believes this initiative would address what he believes is one of Detroit’s biggest problems: halting the hemorrhaging of home foreclosures due to unpaid property taxes—an initiative one Detroit City Council member told the Detroit News was “unique and comprehensive.” Thus, city officials are reviewing the entity’s proposal—even as it reminds us of the Motor City’s ongoing home ownership challenge—a city where, still, more than 11,000 homes a year have ended in foreclosure over each of the last four years. Under the city’s process, the city warns property owners in January if their properties are at risk of tax foreclosure: as of last January, the Home Team group reports its targeted area has 11,073 properties headed for foreclosure.

Home Team is seeking approval from Detroit to purchase the properties via a “right of first refusal,” under which Mayor Mike Duggan and the Detroit City Council would have to approve the sale—and Wayne County and the State of Michigan would at least have to agree to not buy them as well, since both also have the option to buy the properties prior to such public auctions. Home Team claims it has the resources and expertise to buy the properties, rehab the homes, find new residents, and allow it to work with people traditional lenders would not consider due to poor credit ratings or because of the locations of the properties. The group claims its land contract system, or contracts for deeds, under which tenants make payments directly to the property owner and often have no ownership stake until the entire debt is paid, would work as an alternative to traditional mortgages—even as housing advocate groups such as the United Community Housing Coalition warn that land contracts are financial traps, and the nonprofit Michigan Legal Services told the Detroit News that many land contract deals are “gaming the system,” referencing a recent Detroit News story about many residents with land contracts losing out on actually getting a home—and others warning that those families sign contracts may end up owing significantly more than they would by renting, yet, at the end of such transactions, “have nothing to show for it.” (In recent years, the News reports, land contracts have outnumbered traditional mortgages in Detroit.) Mr. Prentice, while agreeing that “most land contracts are designed for the tenants to fail,” suggested his company’s land contracts would come without the high penalties, high monthly payments—payments which increase in time, and rising interest rates which have trapped unwary families in the past—and, he has vowed the company would fix up every property before putting it back on the market.

Detroit City Councilman George Cushingberry, who represents a major portion of the targeted area, told the News: “I like that it’s comprehensive and takes into account that one of the issues that prevents home ownership is financial literacy.” Yet, the ambitious proposal has also encountered neighborhood opposition: the Northwest Detroit Neighborhood Coalition has launched a petition drive to block the plan—and drawn support from eight neighborhood groups, with the Coalition issuing a statement: “We the people of northwest Detroit hereby declare our strong opposition to high-volume purchases of tax-foreclosed properties (10+ parcels) and other high-volume transfers of properties to real estate investors…Proposals like the one currently being circulated by (Home Team Detroit) do not serve the needs or interests of Detroit neighborhood residents. These bulk purchases only accelerate vacancy, blight, and further erosion of our community.” However, Melvin “Butch” Hollowell, Detroit’s Corporation Counsel, said the city opposes the effort, which would require the city to authorize a purchase agreement for the properties, noting: “The city does not support this proposal: We have a number of serious concerns, especially Home Team Detroit’s ability to deliver on such a massive scale with no particular track record to suggest they would be successful. If they want to start out by becoming a community partner through the Detroit Land Bank (Authority) and show what they can do with up to nine properties, they are welcome to do so and go from there.”

Robbery or the Cost of Municipal Fiscal Distress? The law firm of Jeffrey Chiesa, whom New Jersey Governor Chris Christie named to oversee the state takeover of Atlantic City, has billed the State of New Jersey about $287,000 for its work so far, according to multiple reports, including some $80,000 alone for Mr. Chiesa. The fiscal information came in the wake of the release by the state of invoices that showed the law firm submitted more than $207,000 in bills for the first three months of work, November through January—with some twenty-two members of the firm billing the state. In addition, Mr. Chiesa, who bills the State $400-an-hour for his time, reports he himself has billed $80,000 over that same period, noting to the Press those invoices were not included in the state’s data released last Friday, because they have yet to be fully reviewed. He added that the state has imposed “no cap” on the fees his firm may charge—leading State Assemblyman Chris A. Brown (R-Atlantic), who has been critical of the takeover, to note: “The governor handing over the city to a political insider without a transparent plan is like leaving your home without locking the door, and it looks like we just got robbed.”  The release of the data could not have come with more awkward timing, with the figures aired approximately a week after Mr. Chiesa wrote to Atlantic City police officers announcing the state was seeking to cut salaries, change benefits, and introduce longer shifts to save the city money—and as the state is calling for similar cuts and 100 layoffs in the city’s fire department—efforts in response to which Atlantic City’s police and fire unions have filed suit to prevent, with a judge last week ruling the state cannot yet move forward with the fire layoffs until he determines whether the state proposal is constitutional—even as Mr. Chiesa has defended the cuts, calling negotiations with the unions “money grabs.” For his part, at the end of last week, Mr. Chiesa defended his bills, claiming his firm helped negotiate a $72 million settlement with the Borgata casino in a long-running tax dispute with the city, gaining more than a 50 percent savings to the city from the refund it owed in the wake of tax appeals, deeming that an “important success on behalf of the city.”

Nevertheless, as S&P Global Ratings noted last week in upgrading Atlantic City’s credit rating from “CC” to “CCC,” despite assistance from the state, there is still the distinct possibility the city could still default on its debt over the next year and that filing for chapter 9 municipal bankruptcy remains an option down the line.  Nevertheless, S&P analyst Timothy Little wrote that the upgrade reflected S&P’s opinion that “the near-term likelihood” of Atlantic City defaulting on its debt has “diminished” because of the state takeover and the state’s role in brokering the Borgata Casino agreement—an upgrade which a spokesperson for the Governor described as “early signs our efforts are working, that we will successfully revitalize the Atlantic City and restore the luster of this jewel in the crown.”  However, despite the upgrade, Atlantic City still remains junk-rate, and S&P reported the city’s recovery remains “tenuous:” It has a debt payment of $675,000 due on April Fool’s Day, $1.6 million on May Day, $1.5 million on June 1st, and another $3.5 million on August 1st—all payments which S&P believes will be made on time and in full, albeit warning that more substantial debts will come due later in the year, meaning, according to S&P, that the city’s recovery remains “tenuous,” and that Atlantic City is unlikely “to have the capacity to meet its financial commitment…and that there is at least a one-in-two likelihood” of a default in the next year.” Or, as Mr. Little wrote: “Despite the state’s increased intervention, [municipal] bankruptcy remains an option for the city and, in our opinion, a consideration if timely and adequate gains are not made to improve the city’s structural imbalance.”