• PROGRAM NOTE: As of this week, we are implementing password-protection for the bondcasebriefs.com website.  The initial password is: muni.  The links contained in the weekly newsletter have the password embedded, so a reader who clicks on a link will be taken directly to the corresponding item hosted on the website without being required to enter a password.  The password will be required only in the event that the website is accessed directly.  We apologize for any technical glitches that may arise during the implementation process.
• MSRB Requests Comment on Requiring Disclosure of Mark-Ups.
• MSRB: Dealers Would Have to Disclose Markups on Principal Transactions.
• S&P Credit FAQ: Proposed Criteria Changes Will Bring Greater Transparency to U.S. Municipal Water and Sewer Systems.
• Incentive To Pay: How Recent Bankruptcies Inform Analysis Of Distressed Local Government Credits.
• BDA Submits Issue Price Comment Letter to IRS.
• IRS Chief Counsel Blasted for Favorable Ruling on Total Return Swaps.
• NABL Submits Issue Price Comments.
• SIFMA Submits Comments to the IRS on Re-proposed Issue Price Rules.
• And finally, Unclear on the Concept is brought to you this week by Sherman v. Town of Randolph, in which the the court’s opinion included the following, “Four of those candidates are relevant here: Sherman, who was ranked highest on the eligibility list, and the three candidates who ultimately bypassed him, whom we shall call Walter Burton, Blair Lewis, and Martin Duval.”  Did the court simply decide to get gratuitously creative with its fictitious naming (“No John Doe for us!”) or was it indeed unclear on the concept?  Please direct your inquiries to the opinion’s author, whom we shall call Justice Fernande R.V. Duffly.

Residential owners of property adjacent to high school filed suit against school Board of Education and high school district seeking to privately enforce city’s zoning restrictions with respect to construction of new bleachers for high school football stadium.

Board filed third-party complaint against city and school superintendent, seeking declaratory judgment that city lacked authority to enforce its zoning and storm water ordinances against Board.

The Circuit Court entered summary judgment for city, based on determination that school property was subject to ordinances. Board appealed. The Appellate Court affirmed. Board and superintendent’s petitions for leave to appeal were allowed.

The Supreme Court of Illinois held that:

• City had home rule authority to enforce zoning and storm water management ordinances on school property;
• City’s exercise of home rule authority to enforce zoning and storm water management ordinances did not interfere with constitutional authority of General Assembly to regulate public education system;
• City’s home rule authority to enforce ordinances on school property was not limited to school property that was not used for school purposes; and
• Nothing in Health/Life Safety Code for Public Schools had any bearing on city’s home rule authority to enforce ordinances on school property.

Property owners brought action against director of Alabama Department of Transportation (ALDOT) in his official capacity, asserting inverse-condemnation claim and seeking declaratory and injunctive relief to enjoin director from prohibiting property owners from obtaining legal permits to build houses on their property. The Circuit Court granted property owners injunctive relief. Director appealed.

The Supreme Court of Alabama held that director was entitled to sovereign immunity.

Denial by Director of the Alabama Department of Transportation (ALDOT), in his official capacity, of property owners’ requests to build houses on their property was strictly in accordance with ALDOT’s purchased rights in easement and were not done fraudulently, in bad faith, beyond his authority, or under mistaken interpretation of law, and therefore director was entitled to sovereign immunity in injunctive relief action by property owners seeking to enjoin director from prohibiting them from obtaining permits to construct houses on property subject to easement. Director contended that he denied requests to build homes because construction would have required digging, cutting trees, and removing soil, which could have compromised interstate bridge structure and integrity of peninsula on which property was located in flooding conditions by speeding up erosion and causing possible bridge failure.

Citizen filed application for writ of mandamus seeking to compel city and city clerk to accept and file referendum petitions challenging the city council’s approval of a resolution and settlement agreement, under which city agreed to drop its opposition to Indian tribe’s proposed casino project on land contiguous to city’s border. The Superior Court denied the application. Citizen appealed.

The Court of Appeals held that:

• Provisions of resolution unrelated to settlement agreement were not legislative acts subject to referendum;
• Settlement agreement was not referable; and
• City clerk had authority to reject referendum petitions.

Provisions of city council resolution that affirmed or acknowledged prior resolutions of the council, expressed support for Indian tribe’s proposed gaming project on land contiguous to city’s border, and urged the State and its representatives to withdraw their opposition to the project, reflected the council’s changed position and did not amount to “legislation,” and thus provisions were not subject to referendum. Resolution merely reflected city council’s changed position as to the proposed gaming project.

City council’s approval of settlement agreement between city, Indian tribe, and gaming enterprise was not “legislation” subject to referendum, although the agreement was a substantive measure that obligated the city to construct infrastructure for the benefit of the gaming project. Council determined that it was in the city’s best interests to stop its challenges to the tribe’s proposed gaming facility and to end the disputes between them, city’s agreement to initially fund off-site infrastructure was a non-referable administrative act, and allowing city’s voters to control litigation would result in chaotic and absurd result if settlement agreement was later rejected by voters.

City clerk had authority to reject referendum petitions challenging city council’s approval of a resolution and related settlement agreement in support of construction of a casino on land contiguous to city’s borders, taken in trust by the Secretary of the Department of the Interior on behalf of Indian tribe, although statute governing challenges to a legislative measure via referendum couched clerk’s duties in response to a petition in terms of what the clerk “shall” do in response. Petitions professed to challenge a non-legislative act of the city council, and statutory scheme and relevant constitutional provisions revealed that clerk had authority to reject petitions challenging non-legislative and non-referable acts.

Volunteer fire department and its chief brought action for declaratory and injunctive relief against city, city fire chief, city fire marshal, and city’s director of public safety, health, and welfare, alleging that new organizational structure of the fire department violated their corporate, statutory, and constitutional rights. Following trial, the Superior Court rejected all claims. Volunteer fire department and its chief appealed.

The Appellate Court held that:

• Charter amendments did not compel volunteer fire department to continue to provide firefighting services or usurp volunteer department’s rights as a private corporation;
• Statute governing the authority of towns to establish a fire department did not apply to municipal fire department created by charter as opposed to an ordinance;
• Charter amendments did not “supersede” volunteer department in violation of statute;
• Charter amendments did not cause a per se regulatory taking in violation of the Fifth Amendment; and
• Volunteer chief did not have a constitutionally-protected property right to direct the volunteer department’s fire protection services free from oversight.

Municipality brought action against police officer seeking declaratory judgment that municipality was not obligated, under the Public Safety Employee Benefits Act (Act), to pay health insurance premiums for officer and his family after officer was awarded a line-of-duty disability pension by the board of trustees for the municipality’s police pension fund.

The Circuit Court, Lake County, Margaret entered judgment in favor of officer but denied his motion for sanctions. Municipality appealed and officer cross-appealed. The Appellate Court affirmed. Municipality petitioned for leave to appeal.

The Supreme Court of Illinois held that:

• Where it is uncontroverted that a line-of-duty disability pension has been awarded to a police officer pursuant to the Pension Code, section of Act providing for health insurance benefits upon a “catastrophic injury” is satisfied as a matter of law, and
• Construction of Act as such did not deny due process to municipality.

Where it is uncontroverted that a line-of-duty disability pension has been awarded to a police officer pursuant to the Pension Code, section of the Public Safety Employee Benefits Act (Act) providing for health insurance benefits upon a “catastrophic injury” is satisfied as a matter of law, and there is no need to engage in discovery or present evidence regarding the officer’s injury in order to recover benefits under the Act.

Construction of Public Safety Employee Benefits Act (Act) to provide that where it is uncontroverted that a line-of-duty disability pension has been awarded to a police officer pursuant to the Pension Code, section of Act providing for health insurance benefits upon a “catastrophic injury” is satisfied as a matter of law, did not deny due process to municipality, despite argument that construction of statute denied municipality opportunity to litigate nature of officer’s injuries, in municipality’s action seeking declaration that it was not obligated to pay health insurance premiums for officer and his family after officer was awarded line-of-duty disability pension. Enactment of Act itself afforded municipality all of the process that it was due.

Visitor who tripped and fell on pathway at zoo located on county forest preserve district land brought negligence action against zoological society, alleging it breached duty to inspect and maintain pathway. The Circuit Court dismissed the action on limitations grounds. Visitor appealed. The Appellate Court reversed and remanded. Zoological society petitioned for leave to appeal, which was granted.

The Supreme Court of Illinois held that zoological society did not conduct “public business,” and was thus not a “local public entity” to which one-year limitations period would apply under Local Governmental and Governmental Employees Tort Immunity Act.

No factor is more important, in determining whether a not-for-profit is a “local public entity” under Local Governmental and Governmental Employees Tort Immunity Act, than control, since without evidence of local governmental control, it cannot be said that a not-for-profit corporation conducts “public business.” Indicative of such control would be evidence that the entity remains subject to state statutes, such as the Open Meetings Act and the Freedom of Information Act, with which governmental units must comply, or even local ordinances that dictate the means and methods to be used by the not-for-profit corporation in conducting its business.

Zoological society, a not-for-profit corporation located in county forest preserve district, did not conduct “public business,” and was thus not a “local public entity” to which one-year limitations period would apply to negligence action arising when visitor tripped and fell at zoo, under Local Governmental and Governmental Employees Tort Immunity Act. Contract between zoo and district gave zoological society entire control and management of zoo, including control over daily operations, maintenance of zoo building and collections, 90% of zoological society’s board of trustees and governing members were neither employees nor elected officials of district, and zoo employees were not entitled to state pension or state workers’ compensation.

Police officer sought review of Decision of the Civil Service Commission dismissing his appeal from town’s decision to bypass him for promotion to sergeant. The Superior Court Department entered judgment for Commission. Officer appealed, and petition for direct appellate review was allowed.

The Supreme Judicial Court of Massachusetts held that town’s decision to bypass officer was reasonably justified despite flaws in process.

Town’s decision to bypass police officer for promotion to sergeant was reasonably justified, even though town’s interview process was flawed. Officer received an overall low score, post-interview letters from member of panel articulated reasons why candidates’ interview performances warranted bypass, and officer’s supervisors had raised concerns that officer had difficulty in following through on case investigation and needed supervision.

A promotional decision may be reasonably justified on the merits, even where the appointing authority uses flawed procedures for selecting candidates, in the following limited circumstance: where the appointing authority had a reasonable justification on the merits for deciding to bypass a candidate, and the flaws in the selection process are not so severe that it is impossible to evaluate the merits from the record.

Property owner that was previously denied a building permit for failure to satisfy the frontage requirement appealed from the denial by town’s zoning board of adjustment (ZBA) of its application for a variance from the frontage requirement. The Superior Court dismissed the appeal on the basis of res judicata. Owner appealed.

The Supreme Court of New Hampshire held that owner’s application for a variance was not the same cause of action as its application for a building permit.

Property owner’s application to town’s zoning board of adjustment (ZBA) for a variance from the frontage requirement was not the same cause of action as its earlier application for a building permit, which was denied for failure to satisfy the frontage requirement, and thus res judicata did not bar the variance application. Owner could not have added the variance claim to its appeal from the denial of the building permit application, since the building permit could have been granted without a variance if certain other conditions were met, and it was for the ZBA rather than the trial court to decide in the first instance whether to issue a variance.

Homeowners brought action challenging town’s exercise of its power of eminent domain.

The Supreme Court, Appellate Division held that homeowners were afforded full opportunity to raise their objections to town’s proposed condemnation, and thus town’s error was harmless in omitting information regarding homeowners’ right to seek judicial review in both its notice of hearing and its notice of determination, which authorized eminent domain and resolved to condemn permanent easement across homeowners’ property to install underground drainage and temporary easement for access and stockpiling of materials, where homeowners appeared and participated at public hearing and timely sought judicial review of town’s determination.

Police officer brought action against city, alleging that injuries he sustained when he was shot in the torso while apprehending a suspect were caused by city’s negligence in failing to provide him with bulletproof vest that covered a larger area of his torso, allegedly provided to most other officers and new recruits. City moved for summary judgment. The Supreme Court, Queens County, granted motion. Police officer appealed.

The Supreme Court, Appellate Division, held that city was entitled to qualified immunity.

City’s decision-making process regarding particular type of bullet proof vests it issued to police officers was discretionary governmental function, and city’s decision to issue certain vest to officer was not irrational or arbitrary, and thus city was entitled to qualified immunity in police officer’s negligence action, alleging that city was negligent in issuing vest to officer that was not large enough to protect officer from injuries to his torso he sustained during shooting while apprehending suspect.

Town taxpayers residing in incorporated village brought action against town trustees, town board, and town comptroller, alleging waste and unlawful expenditure of public funds by town trustees, and seeking declaratory and injunctive relief. The Supreme Court, Suffolk County, denied trustees’ motion to dismiss and granted plaintiffs’ motion for preliminary injunction. Trustees appealed.

The Supreme Court, Appellate Division, held that:

• Statute granting town trustees control over their affairs and finances governed duties and powers of the trust, and
• Reference to trusts in town law governing town funds did not require revenue of trust to be turned over to town board.

Statute granting town trustees control over their affairs and finances, which was not codified, governed duties and powers of the town trust, precluding town taxpayer’s claim that revenues of trust must be turned over to town board. Statute had never been repealed or amended, statute was enacted after creation of town officers further indicating that trustees’ authority was independent of town control, and town laws defining town officers and town’s administrative unit did not refer to trustees.

Reference to trusts in town law governing town funds did not require revenue of town trust to be turned over to town board, or amend definition of town officers to include town trustees, by instead merely required town boards to designate where trustees’ funds were to be deposited and provided that by depositing their funds in such a manner, the trustees would be relieved of liability in the event that the depositing institution failed.

After city police officer fatally shot his girlfriend while off duty and then killed himself, girlfriend’s estate brought wrongful death action against city, alleging that city was negligent in supervising and retaining officer. The Supreme Court, Bronx County, granted summary judgment to city. Estate appealed.

The Supreme Court, Appellate Division, held that:

• Estate sufficiently alleged a connection or nexus between girlfriend’s injuries and officer’s malfeasance;
• Person on whom injury was inflicted was foreseeable; but
• Fact issues existed as to breach of duty and proximate cause.

Estate of girlfriend of city police officer sufficiently alleged a connection or nexus between girlfriend’s injuries and officer’s malfeasance, in action against city for negligent retention and supervision, brought after officer fatally shot girlfriend while off duty and then killed himself. City was alleged to have played a part in both creating the danger, by training and arming the officer, and in rendering the public more vulnerable to the danger, by allowing the officer to retain his weapon and ammunition after it allegedly learned of his dangerous propensities, so that officer’s alleged tort was made possible through use of his pistol, which he carried by authority of city.

The person on whom the injury was inflicted was foreseeable, as required for duty element of claim against city for negligent retention and supervision, brought by estate of girlfriend of city police officer after officer fatally shot girlfriend while off duty and then killed himself. City could reasonably have anticipated that its alleged negligence in failing to discipline an officer who had violent propensities would result in the officer using his gun to injure a member of his own family, including his girlfriend.

Genuine issues of material fact regarding breach of duty and proximate cause, i.e., whether city had received complaints about city police officer’s alleged abusive conduct toward his girlfriend and her infant daughter, and whether the intervening intentional tort of the off-duty officer was itself a foreseeable harm that shaped the duty imposed upon city when it failed to guard against a police officer with violent propensities, precluded summary judgment for city, in action for negligent retention and supervision, brought by girlfriend’s estate after officer fatally shot girlfriend while off duty and then killed himself.

Softball game spectator, who sustained injuries in trip-and-fall accident while exiting baseball complex at city park, brought premises defect action against city. City filed plea to the jurisdiction. The District Court denied plea. City appealed. The Court of Appeals reversed. Spectator petitioned for review.

The Supreme Court of Texas held that spectating at youth softball game at city park was not “recreation” under recreational use statute, and thus statute did not limit city’s liability for damages claimed by spectator.

Alexandria, VA – The Municipal Securities Rulemaking Board (MSRB) announced today that municipal advisors may now begin enrolling to take the pilot Municipal Advisor Representative Qualification Examination (Series 50). The registration window for the pilot exam begins today, September 21, 2015 and closes on January 14, 2016.

Municipal advisor firms will need to utilize the Financial Industry Regulatory Authority’s (FINRA) Form U10 to enroll their municipal advisor professionals for the Series 50 pilot exam and to remit the exam fee of $265. Once the Form U10 is accepted, individuals will be able to select a date to sit for the exam during the pilot period of January 15, 2016 – February 15, 2016.

As part of its expanded mandate under the Dodd-Frank Wall Street Reform and Consumer Protection Act, the MSRB amended its Rule G-3 on professional qualifications to establish the requirement that all municipal advisor professionals take and pass a qualifying exam. A municipal advisor professional who takes and passes the Series 50 pilot exam will be qualified as a municipal advisor representative and will not be required to take the permanent Series 50 exam when it is implemented in 2016. A municipal advisor professional who takes and does not pass the Series 50 pilot exam will have the exam fee waived for the first re-take of the permanent Series 50 exam.

“The MSRB encourages municipal advisor professionals to consider participating in the Series 50 pilot exam,” said MSRB Executive Director Lynnette Kelly. “Strong participation in the pilot is a good way for municipal advisors to establish their qualifications and will assist the MSRB in validating the question bank and setting the passing score for the permanent exam.”

For more information regarding the Series 50 pilot exam, see the MSRB’s Regulatory Notice 2015-15.

Access resources and information about municipal advisor professional qualifications and the Series 50 pilot exam on the MSRB’s website.

Date: September 21, 2015

Contact: Jennifer A. Galloway, Chief Communications Officer
(703) 797-6600
[email protected]

Alexandria, VA – The Municipal Securities Rulemaking Board (MSRB) is seeking public comment on a proposal to require municipal securities dealers to disclose on retail customer confirmations the amount of the mark-up in a class of principal transactions. The mark-up disclosure proposal seeks to enhance the transparency of investor transaction costs and dealer compensation in the municipal securities market and is the first proposal of its kind in over 20 years.

“Investors need a way to understand the true costs of their municipal securities transactions,” said MSRB Executive Director Lynnette Kelly. “Our new proposed approach would offer greater clarity for investors as to dealer compensation while leveraging the existing processes and systems dealers use to comply with their fair-pricing obligations.”

The draft amendments to MSRB Rule G-15, in essence, would require dealers acting as principal to disclose to retail customers their mark-up from the prevailing market price of a municipal security if the dealer makes a corresponding trade within two hours of the customer trade. To assist investors in learning more about the market for their traded security, the draft amendments also would require all retail customer confirmations to include a link to the main page for the security on the MSRB’s Electronic Municipal Market Access (EMMA®) website. The EMMA website provides free public access to official disclosures, trade data, credit ratings, educational materials and other information about virtually all municipal securities.

The MSRB’s request for comment seeks input on possible alternatives to its preferred approach, including a modified version of the MSRB’s earlier proposal to require dealers to provide on retail customer confirmations a reference price for a comparable transaction by the dealer and the difference between those prices.

The MSRB’s mark-up disclosure proposal to increase the transparency of dealer compensation and transaction costs aligns with the MSRB’s strategic priorities and is based on a recommendation in the SEC’s 2012 Report on the Municipal Securities Market. Read the request for comment.

The MSRB will host an educational webinar to review its request for comment on Thursday, October 29, 2015 at 3 p.m. Eastern Time. Register for the webinar.

Comments should be submitted no later than November 20, 2015.

Date: September 24, 2015

Contact: Jennifer A. Galloway, Chief Communications Officer
(703) 797-6600
[email protected]

“Everyone in the financial markets – including issuers of new debt – is focused on the prospect of the Fed raising rates in September; we’re seeing that reflected in the CUSIP data,” said Richard Peterson, Senior Director of Global Markets Intelligence, S&P Capital IQ. “The combination of increased market volatility and uncertainty around interest rates has created a perfect storm for a slowdown in new issuance. The question now is: how long will it last?”

Read the Press Release.

September 15, 2015

The purpose of this survey is to gather information regarding the activities that governments engage in when preparing and publishing their audited annual financial reports in conformity with generally accepted accounting principles (GAAP), when those activities take place, and the number of technical staff hours involved. To assist you in completing the survey, the GASB staff will be available to answer questions throughout the survey period.

The staff also will be conducting two telephone conferences to provide an overview of the survey and answer your questions—on Wednesday, September 30, at 10:00 am EDT and Thursday, October 8, at 4:00 pm EDT.

Download the survey.

Register for the September 30 teleconference.

Register for the October 8 teleconference.

The completed survey should be emailed to [email protected] no later than December 15, 2015.

If you have any questions about this survey, please contact:

Pam Dolan ([email protected])

Amy Shreck ([email protected])

THANK YOU

TOLEDO, Ohio — Standing at the edge of the Great Lakes, the world’s largest surface source of fresh water, this city of 280,000 seems immune from the water-supply problems that bedevil other parts of the country. But even here, the promise of an endless tap can be a mirage.

Algae blooms in Lake Erie, fed by agriculture runoff and overflowing sewers, have become so toxic that they shut down Toledo’s water system in 2014 for two days. The city is considering spending millions of dollars to avoid a repeat.

Similar concerns about water quality are playing out elsewhere. Farm fertilizers, discarded pharmaceuticals, industrial chemicals and even saltwater from rising oceans are seeping into many of the aquifers, reservoirs and rivers that supply Americans with drinking water.

Combating these growing threats means cities and towns must tap new water sources, upgrade aging treatment plants and install miles of pipeline, at tremendous cost.

Consider tiny Pretty Prairie, Kansas, less than an hour’s drive west of Wichita, where the water tower and cast-iron pipes need to be replaced and state regulators are calling for a new treatment plant to remove nitrates from farm fertilizers. The fixes could cost the town’s 310 water customers $15,000 each.

Emily Webb never gave a second thought to the town’s water until she became pregnant almost two years ago. That’s when she learned through a notice in the mail that the water could cause what’s known as “blue baby” syndrome, which interferes with the blood’s ability to carry oxygen.

“It just kind of scared me,” she said. “Now we don’t drink it at all.”

Instead, she and her husband stock up on well water from her parents’ home and buy bottled water even though health officials say the risk is limited to infants. When it comes time to buy their first home, she said, they will look somewhere else.

Pretty Prairie’s leaders hope to find a less expensive solution. They say the cost of a new treatment plant would drive people away and threaten the farm town’s survival.

Across the country, small towns and big cities alike are debating how much they can afford to spend to make contaminated water fit for drinking.

Cash-strapped cities worry that an unfair share of the costs are being pushed onto poor residents. Rural water systems say they can’t expect the few people they serve to pay for multimillion-dollar projects.

The U.S Conference of Mayors, in a report released this summer, found spending by local governments on all water-supply projects nearly doubled to $19 billion between 2000 and 2012. Despite a slowdown in recent years, it remained at an all-time high, the report said.

“We have a real dilemma on our hands,” said Richard Anderson, author of the report. “We know we need to increase spending on water, but many houses can’t afford it, and Congress won’t increase funding.”

In California’s Central Valley, low-income farming communities have gone without clean water for years because they don’t have money to build plants to remove uranium, arsenic and nitrates. Drinking fountains at schools have been put off limits, and families spend a large share of their income on bottled water.

A study released in June by the U.S. Geological Survey found nearly one-fifth of the groundwater used for public drinking systems in California contained excessive levels of potentially toxic contaminants.

Compounding the problem is the drought. Because farmers are using more groundwater for irrigation, contaminants are becoming more concentrated in the aquifers and seeping into new wells.

The drought has pushed Los Angeles to plan for the nation’s largest groundwater cleanup project, a $600 million plan to filter groundwater contaminated with toxic chemicals left over from the aerospace and defense industry. Some of the water will be drawn from polluted wells abandoned 30 years ago.

In the Midwest, where shortages typically have not been a concern, more attention is being paid to farming’s effect on drinking water supplies.

Minnesota’s governor this year ordered farmers to plant vegetation instead of crops along rivers, streams and ditches to filter runoff. The water utility in Des Moines, Iowa’s largest city, is suing three rural counties to force tighter regulations on farm discharges.

And in the wake of Toledo’s water crisis, Ohio has put limits on when and where farmers can spread fertilizer and manure on fields.

“But no one really knows how well that works,” said Chuck Campbell, the city’s water treatment supervisor.

Given that, the city has spent $5 million in the past year to bolster its ability to cleanse water drawn from Lake Erie. It is planning a renovation that could approach $350 million and include a system that uses ozone gas to destroy toxins produced by the algae. A 56 percent water rate increase is footing most of the bill.

In many coastal areas, rising seas mean saltwater can intrude into underground aquifers and in some cases ruin existing municipal wells. It’s especially problematic in the Southeast, from Hilton Head Island in South Carolina to Florida’s seaside towns near Miami.

“Nature’s calling the shots and we’re reacting,” said Keith London, a city commissioner in Hallandale Beach, Florida, where six of eight freshwater wells are no longer usable.

The city is considering relocating wells, upgrading its treatment plant or buying water from a neighboring town.

The water that comes out of the tap in the oceanside town of Edisto Beach, South Carolina, is so salty that it corrodes dishwashers and washing machines within just a few years, resident Tommy Mann said.

While technically safe to drink, it tastes so bad that the town gives away up to five gallons of purified water a day to residents and vacationers.

Voters narrowly rejected a proposal two years ago that would have doubled water rates to pay for an $8.5 million reverse-osmosis filtering system.

Said Mann: “We’re living in a beautiful little town with Third World water.”

By THE ASSOCIATED PRESS

SEPT. 25, 2015, 10:03 A.M. E.D.T.

CHICAGO — Chicago is poised to issue more than $2.7 billion of debt amid warnings that its core credit ratings could be downgraded depending on the outcome of the city’s fiscal 2016 budget.

Both Standard & Poor’s and Fitch Ratings said this week they could downgrade Chicago’s BBB-plus general obligation ratings if the city does not adequately address escalating pension payments.

“If the final budget that is adopted by the end of the calendar year fails to cover the larger pension payments with an identifiable and reliable revenue source, it would likely strain the rating, potentially resulting in the rating being lowered by multiple notches,” S&P said in a report.

Fitch Ratings said Chicago risks a downgrade if it fails to put pension payments on a solid funding path or raids budget reserves. Moody’s Investors Service, which dropped Chicago’s rating to junk in May, withheld comment until a final budget is enacted.

Mayor Rahm Emanuel proposed a budget on Tuesday that includes the biggest-ever city property tax hike to cover increased contributions to public safety worker pensions.

To make the $543 million tax hike, phased in through 2018, palatable to city aldermen, Emanuel is seeking an expanded tax exemption in the Illinois Legislature to shield homes valued at $250,000 or less from the increase. His budget also counts on enactment of a bill that spreads out the city’s police and fire pension payments.

Additionally, Chicago is betting the Illinois Supreme Court will uphold the constitutionality of a state law aimed at shoring up the sagging finances of its municipal and laborers’ retirement systems, partly through benefit cuts.

S&P said that given these “uncertainties,” it expects city officials to consider contingency plans for addressing a $20 billion unfunded pension liability.

At a press conference on Thursday, Emanuel said the city is “on strong ground” with its legislative efforts.

Earlier, the city council gave final approval to the sale of up to $500 million of general obligation bonds in a deal that will push out payments on $225 million of outstanding debt and refund the rest for possible savings.

Aldermen also approved up to $2 billion of new and refunding O’Hare Airport revenue bonds and up to $225 million of sewer bonds, including $125 million to end interest-rate swap agreements. The airport and sewer bonds are expected to price in October, with the GO bonds selling in the coming months, a city spokeswoman said.

By REUTERS

SEPT. 24, 2015, 3:33 P.M. E.D.T.

(Reporting By Karen Pierog; Editing by David Gregorio)

Legislation that would subject Puerto Rico mutual funds to the same regulations as mainland funds is expected to be introduced in Congress on Friday, the latest sign that Puerto Rico’s financial crisis is drawing greater scrutiny from U.S. lawmakers.

Rep. Nydia Velazquez, a Democrat from New York, said she plans to introduce the bill, the Puerto Rico Investor Protection Act of 2015, in the House of Representatives, where it is expected to be referred to the House Committee on Financial Services for discussion. Rep. Maxine Waters of California, the top Democrat on the financial services committee, signed on as co-sponsor.

The proposed law aims to establish federal oversight for Puerto Rico’s mutual-fund industry after investors in Puerto Rico municipal-bond funds sustained heavy losses as the island’s fiscal crisis deepened. Puerto Rico has faced a sluggish economy and high unemployment for years, and Gov. Alejandro Garcia Padilla in June called the island’s $72 billion debt load unpayable.

“It is outrageous that, when investing their hard-earned money for retirement, Puerto Ricans are not afforded the same transparency requirements and consumer protections that apply in the mainland,” Ms. Velazquez said in a statement.

Ms. Velazquez, who represents parts of Manhattan, Brooklyn and Queens, is the first Puerto Rican woman elected to Congress. She’s not the only official from New York state, which has the nation’s largest Puerto Rican population outside the island, to make Puerto Rico’s debt woes a priority. In September, New York Gov. Andrew Cuomo visited the island and said he supported allowing Puerto Rico to seek bankruptcy protection. Puerto Rico and its public agencies currently can’t file for bankruptcy.

Puerto Rico is attracting broader attention as well. Presidential contenders Hillary Clinton and Sen. Marco Rubio have also visited the island in recent weeks, and Jeb Bush paid a visit in April. In Washington, the Senate Committee on Finance will hold a hearing on Puerto Rico’s financial and economic problems on Tuesday.

Mutual funds in the U.S. mainland are subject to the Investment Company Act of 1940. The law, however, doesn’t apply to funds located in U.S. possessions that are sold only to residents of those possessions. At the time, the thinking was that the cost of travel would make it too expensive for regulators in Washington to oversee funds in far-flung, overseas territories.

Puerto Rico passed its own fund-oversight law in 1954, but analysts say it had become less stringent than current federal regulations. In Puerto Rico, UBS Group AG—whose local brokerage unit has a dominant position on the island—was able to underwrite bonds from Puerto Rico municipal entities and then sell those bonds to funds managed by UBS, collecting fees along the way. Some of the UBS funds amassed big positions in certain bond issues that were underwritten by UBS.

That behavior wouldn’t have been allowed under federal law, said Mercer Bullard, a securities law professor at University of Mississippi School of Law who has also created an investor advocacy organization called Fund Democracy. Federal regulations would have “prevented the chain of relationships that UBS had at every step of the underwriting and distribution process,” Mr. Bullard said.

The losses in UBS’ Puerto Rico bond funds have been so severe that investors have filed hundreds of legal claims against the Swiss giant’s Puerto Rico brokerage unit. UBS says it is facing more than $1.1 billion in damages tied to its Puerto Rico activities. Many investors who filed claims are retirees who say that UBS brokers told them the funds were safe, when in fact they were heavily invested in just a few Puerto Rico bond issues and had used leverage, a risky strategy, to boost returns.

The legal claims have been filed with the Financial Industry Regulatory Authority, which uses arbitrators to adjudicate the cases. Arbitrators have ruled in favor of investors in some cases and in favor of UBS in others. The bank has also settled some cases, at times for millions of dollars.

UBS declined to comment on whether its Puerto Rico funds should be regulated under federal law. The bank has said previously that investors in the funds had received excellent returns for years, often exceeding the broader bond market.

Puerto Rico passed a new fund-oversight law in 2013, which according to Fitch Ratings aligns more closely to federal law. Still, making Puerto Rico funds subject to federal regulations “may help restore some confidence from investors that have had some difficulties,” said Ian Rasmussen, senior director in the fund and asset manager group at Fitch.

THE WALL STREET JOURNAL

By MIKE CHERNEY

Sept. 25, 2015 12:01 a.m. ET

Write to Mike Cherney at [email protected]

As investors fled Chicago’s debt this year when its ratings were cut to junk, Nuveen Asset Management LLC fund manager John Miller gathered his team of analysts and asked if it was finally time to buy.

It was a typical move by Mr. Miller, who digs around in the corners of the $3.7 trillion municipal-bond market for big bets that might pay off for his High Yield Municipal Bond Fund.

The approach once counted as fringe behavior in a market typically described as dull and safe. But business is booming as the long stretch of interest rates near zero pushes investors into riskier holdings and redefines what it means to be a buyer of bonds.

Investors poured about $9 billion into high-yield municipal-bond funds last year, according to Lipper. Nuveen’s High Yield fund has been a big beneficiary, swelling to about $10.6 billion of assets from a peak of around $6 billion before the financial crisis. It is now the sixth-largest municipal-bond fund in the U.S., according to Morningstar Inc.

“It’s a reflection of the fact that interest rates have been low for so long,” said Howard Cure, director of municipal research at Evercore Wealth Management. “In their search for yield, investors are more willing to buy high-yield paper.”

Mr. Miller’s willingness to look for winners among bonds most prone to distress and default has produced market-leading returns in two of the past three years. But it is also a strategy that can lead to hefty volatility in times of market stress and outsize losses when investors want their money back.

In 2008, when municipal bonds fell about 2.5%, the High Yield fund dropped 40%. Then the market’s risks increased as bond insurance all but vanished, Detroit declared bankruptcy and Puerto Rico began slipping into financial crisis.

“We want to manage risk, but not shy away from risk altogether,” said Mr. Miller, who heads a team that manages more than $100 billion.

The municipal-bond market used to be all about shying away from risk. Investors prized protecting wealth over increasing it and bought the debt seeking tax-free income to fund their retirements. Mr. Miller’s introduction to it came in 1993, when he worked as a credit analyst at a Chicago firm managing highly rated bonds for wealthy individuals.

In 1996, he joined Nuveen as an analyst and soon was running a new $20 million high yield municipal-bond fund.

One of his big bets was on the Pocahontas Parkway, a nine-mile stretch of highway southeast of Richmond, Va. In 2003 and 2004, he said, he bought parkway bonds that were backed by tolls and had a face value of about $100 million for 80 cents on the dollar. The bonds were under stress, because some drivers were choosing free alternative roads and because the road had a reputation for being haunted.

It was the fund’s largest holding when an Australian company bought the parkway and backed the debt with Treasurys. The bonds went to about 110 cents on the dollar.

Mr. Miller has also poured money into charter schools, which can lose state funding if students leave. Today, his funds own about $1.4 billion in charter-school debt, a big chunk of the roughly $10 billion that has ever been sold in the U.S.

In 2008, Lehman Brothers failed, and clients pulled out hundreds of millions of dollars. Selling the bonds needed to meet those redemptions wasn’t easy. About half of the High Yield fund involved bonds with no ratings at all that wouldn’t mature for years. Mr. Miller had tried to hedge his funds against higher interest rates by betting against Treasurys. But interest rates fell and the price of U.S. government debt rose, amplifying the losses.

“I went out on the road, and it was difficult to be out there, because people were upset about the performance of the High Yield fund,” Mr. Miller said.

That year left the High Yield fund with about $2.8 billion in assets. It has since bounced back. Over five years, its total return of 7.71% was almost double the market’s, counting interest payments and price appreciation, according to Morningstar. Even so, an investor would have made more money over the past decade in an investment-grade municipal-bond fund from Vanguard—and would have paid lower fees and had less anxiety, several financial advisers said.

Mr. Miller says he adjusted the portfolio structure to prevent that kind of volatility from hitting the fund again. He also says he doesn’t court risk for risk’s sake. Unlike other operators of high-yield funds, Mr. Miller was wary early on about junk-rated Puerto Rico, which is in talks to restructure its $72 billion in debt.

But he did take a big swing on American Airlines. In 2012, when the airline went through bankruptcy, he went shopping for the riskiest debt available: $100 million in unsecured bonds issued by cities to build its facilities and paid by fees from the airline. Those bonds, worth pennies on the dollar, surged more than 60% in value two years later when American merged with US Airways. The new company converted the debt to equity, and the fund now holds about $145 million in American Airlines stock, one of its largest holdings.

Chicago, meanwhile, has underfunded its pensions for a generation and sold billions in debt, but Mr. Miller sees no sign of future financial distress. It has a strong business and financial community, many universities and few fiscal problems that couldn’t be solved by raising its relatively low taxes, according to Nuveen research.

The week after the downgrade, Chicago sold about $674 million in bonds at yields approaching 6%—more than 2 percentage points higher than comparably rated bonds.

As the sale opened, Mr. Miller sat in the tip of a triangular room full of traders manning their terminals and started buying.

THE WALL STREET JOURNAL

By AARON KURILOFF

Sept. 22, 2015 8:54 p.m. ET

Write to Aaron Kuriloff at [email protected]

CHICAGO — Mayor Rahm Emanuel is proposing a historic property tax increase, while expanding fees on trash collection and taxi rides under a plan to confront a growing fiscal crisis in the nation’s third largest city.

The proposal comes months into the second term of Mr. Emanuel, a former congressman and chief of staff to President Barack Obama, as he runs out of options to address ballooning pension costs that are coming due.

During his first term, the mayor focused on trying to gain concessions from city workers and retirees, but was stymied by the courts and organized labor.

Mr. Emanuel’s plan would raise an additional $544 million from property taxes alone phased in over four years under what is being described as the largest tax rise in city history. He also proposes raising additional revenue by taxing e-cigarettes, expanding fees on garbage pickup, and adding fees on taxi and ride-sharing services.

“As we continue to grow our economy, create jobs and attract families and business to Chicago, our fiscal challenges are blocking our path,” Mr. Emanuel said in a statement.

Details of the proposal were released by the Emanuel administration Monday ahead of his budget address to the city council on Tuesday.

Parts of the plan leaked in recent weeks have faced pushback from some aldermen and public rebuke at hearings. Many have voiced concerns about the cost to working families.

“We must ask the very wealthy and big corporations to pay their fair share in taxes so we can finally fix our structural deficit and get on track to fiscal sanity,” said Alderman Leslie Hairston, who is among the council members pushing for tax rebates for working families and changes in how commercial buildings are taxed.

The Emanuel administration said it would seek changes in state law to protect those who own homes valued at $250,000 or less from the brunt of the tax increase.

The proposal comes as Mr. Emanuel looks to keep Chicago from becoming an increasing outlier among U.S. cities. The Midwest hub faces many of the challenges that other aging cities are experiencing, from population declines to crumbling infrastructure.

But sharply rising municipal pension costs and mounting state fiscal problems have helped set Chicago apart. Moody’s Investors Service dropped the city’s credit rating to junk earlier this year.

Mr. Emanuel’s proposal includes cost savings from eliminating vacant positions to redesigning how streets are swept, but largely relies on new revenue to confront its fiscal problems.

The property-tax boost would go to pay for a $550 million increase in pension costs for police officers and firefighters required by the state to ensure their retirement systems remain solvent. The Emanuel administration is lobbying the state to allow the hike to be phased in over time, matching the property-tax-increase schedule.

Administration officials said the mayor has few options.

During his first term, Mr. Emanuel had focused on reaching agreements with city workers to lower pension expenses by reducing cost of living increases and requiring current employee to increase their contributions. But a court ruling in July derailed such efforts, saying the city couldn’t change already promised retirement benefits.

Monday’s proposal is separate from the Chicago school district’s budget, which isn’t funded through the school year and is counting on help from the state.

THE WALL STREET JOURNAL

By MARK PETERS

Updated Sept. 21, 2015 8:07 p.m. ET

Write to Mark Peters at [email protected]

BDA letter to IRS on Issue Price highlights potential negative impact to market and smaller issuers

Today, BDA submitted a comment letter to IRS in response to its request for comment on a proposed rule to re-define ‘issue price’. The proposal partially withdraws the 2013 issue price proposal.

The BDA’s draft letter focuses on:

• Problems for issuers and the marketplace that will be caused by an actual sales approach and the absence of a reasonable expectation standard
• Issues associated with the unworkable proposed alternative to the general rule, including compliance concerns
• The rule’s negative impact on smaller issuers, especially due to the 10% maturity-by-maturity ‘substantial amount’/actual-sales requirement
• The need for a safe harbor or alternative standard for competitive deals

BDA’s previous issue price letters, including the BDA letter to IRS in May 2015 can be read here.

09-22-15

Fitch Ratings-New York-22 September 2015:  Market participants have expressed concern over a perceived increase in the incidence of widely divergent U.S. municipal ratings. One area in which Fitch Ratings’ opinion differs from some other rating agencies’ is the conditions under which dedicated tax backed (DT) debt may be rated higher than the general credit quality (GO debt) of the issuing municipality.

A notable example is the divergent ratings on the City of Chicago, IL sales tax bonds, which carry ratings ranging from ‘AAA’ to below investment grade. Bondholders should insist on a reasonable legal basis to separate ratings of DT bonds such as the Chicago sales tax bonds from the city’s GO rating. Fitch notes that there is none in this case.

Fitch rates the bonds ‘BBB+’ with a Negative Outlook, on par with the city’s GO debt rating. Certain other agency ratings (Kroll and S&P) are not capped by the city’s general credit quality which Fitch believes may lead bondholders to mistakenly conclude that these DT bonds backed by general sales tax revenues are legally inoculated from the bankruptcy risk of the city. In Fitch’s view, if the legal protections do not insulate revenues supporting the rated DT bonds from the automatic stay provisions of the bankruptcy code in a bankruptcy proceeding, the rating must be capped at the city GO. Although the risk of bankruptcy remains remote at ‘BBB+’, the city’s GO rating is the clearest, most direct expression of both the risk of bankruptcy and the linkage its DT bond has to that risk. Rating above the city GO can only be supported by one of three legal structures, none of which apply to Chicago’s DT bonds backed by general sales tax revenues.

SPECIAL REVENUE DESIGNATION ONE OF THREE LEGAL FRAMEWORKS SUPPORTING RATINGS DISTINCT FROM GENERAL CREDIT

One legal framework that permits Fitch to rate debt based on specific revenues free of the risk that a related municipality’s bankruptcy proceeding would interrupt payments is created under the federal bankruptcy code in the provisions that define ‘special revenues”. Fitch could rate debt backed by a strong revenue source multiple categories above the general credit of the municipality if Fitch believes the case for special revenue status is very clear.

The concept of “special revenues” is unique to Chapter 9 and the municipal bankruptcy process. Special revenue bonds are insulated from the municipality’s bankruptcy in two powerful ways. First, the lien interest in the special revenues continues even if it is a mere consensual lien. If the revenues are not special revenues, then the lien is lost as applied to revenues collected post-bankruptcy. Second, the application of special revenues and actions to apply them to debt payment is exempt from the automatic stay provision of the bankruptcy code. This exemption means that the trustee can continue to apply the pledged special revenues to pay debt service on qualified DT bonds. The power of these protections was evident in both the Stockton bankruptcy and the Detroit bankruptcy where water system bondholders were continuously paid debt service. Additionally, Fitch rates the Chicago water and sewer senior and junior debt as special revenue obligations at ‘AA+’ and ‘AA, respectively, notably higher than the city’s GO.

In Fitch’s opinion, there is no plausible basis to claim that the pledged sales taxes are “special revenues”. The Chicago sales taxes supporting the DT bonds are unmistakably general revenue for general governmental purposes and as such, are excluded from the definition of ‘special revenues’ in section 902 of the U.S. Bankruptcy Code. Fitch expects the sales tax revenues would be subject to the automatic stay and default of the DT bonds would be likely in the case of a city bankruptcy. Therefore, an accurate and fair signal of the likelihood of in-full and on-time payment of the sales tax bonds must incorporate the city’s GO credit quality and ratings which ignore it understate bondholder risks.

SECURITIZATION AND SEPARATE REVENUE OWNERSHIP ALSO SUPPORT DISTINCT RATINGS

A second legal framework is a securitization authorized by state law where a municipality is empowered to “sell” its future revenues and these revenues are in turn used to support an asset backed security. This legal framework is the technique used by the New York City Transitional Finance Authority whose debt Fitch rates ‘AAA’. A third legal framework supporting higher ratings is a state intercept program where the state creates a flow of revenues and establishes a legal framework that directs those flows into a trust account solely for benefit of bondholders in which the municipality has no property rights except to flows released from the trust. In both of these frameworks, the basic idea is that the flows into the account are not property of the municipality. The municipality’s interest is only in residuals as they emerge, so the flows available to the debt are not interrupted when a municipality files a bankruptcy proceeding. The Chicago sales tax bonds fall into neither of these two categories.

RECOVERY PROSPECTS AND RECOVERY NOTCHING

Fitch’s ratings of municipal debt obligations are default risk ratings and are not “notched up” from default risk to incorporate an assessment of recovery. However, even if some form of notching methodology was applied, it is unlikely to benefit the rating of the Chicago sales tax bonds and certainly not by full rating categories. As the sales tax bonds are clearly not special revenue obligations, the consensual lien on revenues granted by the city would not continue following a bankruptcy filing. Bondholders would be competing with pension claims and GO debt holders for recovery. Of course a statutory lien could improve prospects for bondholders compared to general obligation debt and pension claims as a statutory lien continues post-bankruptcy. But there is no statutory lien benefiting the Chicago sales tax bonds. Even if there were one it would not in Fitch’s view support a multiple category separation.

LACK OF CHAPTER 9 OPTION IN ILLINOIS NOT A CREDIT FACTOR

Fitch does not make rating distinctions between municipalities in states where bankruptcy is an option and those where it is not. If bankruptcy is not currently authorized, Fitch believes it likely that the state could authorize it if necessary, or absent that, the municipality in severe fiscal distress would default on its obligations and take its chances in state court lien enforcement proceedings. Recent proposals and discussion in Illinois to allow municipal bankruptcy as an option for financially stressed issuers illustrates the basis for this approach.

Kroll acknowledges the risk when it writes in its Local Special Revenue Report on Chicago sales tax debt that a key rating concern on its AA+ rating of the sales tax debt is “the uncertainty of the lien on pledged revenues that would result if the city were granted the ability to seek relief under Chapter 9 of the Bankruptcy code and in addition if such relief was sought.” Fitch’s view is that this risk needs to be reflected in the rating up front. Failing to signal this connection in the ratings sets up a scenario in which bond pricing and yield can change radically when DT bond ratings inevitably begin aligning to the GO rating if distress increases and the GO rating declines.

For more information see ‘Statutory Liens Do Not Boost Debt Ratings’, dated July 21 of this year and available at ‘www.fitchratings.com’ or by clicking on the link at the end of the press release.

Contact:

Amy Laskey
Managing Director
+1-212-908-0568
Fitch Ratings, Inc., 33 Whitehall Street, New York, NY, 10004

Jessalynn Moro
Managing Director
+1-212-908-0608

Tom McCormick
Managing Director
+1-212-908-0235

Media Relations: Sandro Scenga, New York, Tel: +1 212-908-0278, Email: [email protected].

Additional information is available at ‘www.fitchratings.com’.

Puerto Rico’s pledge to take the constitutional priority of its general-obligation bonds in consideration is seen as a message that the commonwealth is willing to work with investors as debt restructuring talks begin.

“It’s an important step for them just to reinforce that there are rules and that they know that there are rules and that they’re going to be trying to work around them with bondholders,” said Matt Fabian, a partner at Concord, Massachusetts-based Municipal Market Analytics. “Maybe that works, maybe it doesn’t.”

Administration officials tasked with reducing the island’s debt load or suspending debt-service payments met Thursday with Governor Alejandro Garcia Padilla and lawmakers to develop guidelines for a potential voluntary exchange of existing debt for new bonds with possible security improvements, according to a document released late Thursday. Those principles include seeking to take into account the priorities of the debt that creditors hold.

Puerto Rico has $13 billion of general-obligation debt outstanding, which the island’s constitution stipulates must be repaid first. Other securities are backed by specific revenues and lack that protection. Acknowledging that it would seek to respect the constitutional priority of its general obligations may help Puerto Rico in the future when it looks to borrow through the capital markets, said Fabian.

Puerto Rico’s government and its advisers said on Sept. 9 that a proposal to pare the commonwealth’s debt would be released in a few weeks. The government plans to start meeting with investors by mid-October to begin negotiations.

Puerto Rico has already initiated talks with advisers to bondholders of Government Development Bank debt, seeking to potentially exchange those obligations for new securities. About $336 million of GDB debt matures Dec. 1.

Here’s a list of the island’s biggest bond issuers, how much long-term debt they have, and when major monthly payments are due, according to data compiled by Bloomberg.

General-obligations: $13 billion. The debt backed by the commonwealth’s full faith and credit. The island’s constitution says general obligations must be repaid before other expenses. Puerto Rico owes $357 million of interest in January and an additional $805 million of principal and interest is due July 1.

Puerto Rico Sales Tax Financing Corp.: $15.2 billion. The bonds, known by the Spanish acronym Cofinas, are repaid from dedicated sales-tax revenue. A $6.2 billion portion of the debt, called senior-lien, is repaid first. The remaining $9 billion, called subordinate-lien, get second dibs. After paying $12.5 million of principal and interest in August, $1.2 million of interest is due in November, February and again in May.

Puerto Rico Electric Power Authority: $8.3 billion. Prepa, as it’s called, is the island’s main supplier of electricity and repays the debt from what it charges customers. The utility owes $196 million of interest in January and $420 million of principal and interest July 1.

Puerto Rico Government Development Bank: $5.1 billion. The GDB lends to the commonwealth and its localities. When those loans are repaid, the bank can pay off its debt. The GDB is seeking to restructure its obligations through a debt exchange. The bank owes $354 million in December and $422 million in May.

Puerto Rico Highways & Transportation Authority: $4.7 billion. The highway agency repays its debt with gas-tax revenue. It owes $106 million of interest in January and $220.7 million of principal and interest in July.

Puerto Rico Public Buildings Authority: $4.1 billion. The PBA bonds are repaid with lease revenue from public agencies and departments of the commonwealth. The agency owes $102.4 million of interest in January and $207.6 million of principal and interest in July.

Puerto Rico Aqueduct & Sewer Authority: $4 billion. The utility, called Prasa, supplies most of the island’s water. The debt is repaid from water rates charged to customers. The water agency owes $86.5 million of interest in January and $135.1 million of principal and interest in July.

Puerto Rico Pension-Obligation Bonds: $2.9 billion. The taxable debt was sold to bolster the island’s main pension fund. The bonds are repaid from contributions that the commonwealth and municipalities make to the retirement system. The next maturity is July 2023 and the system pays $13.9 million of interest every month in this budget year.

Puerto Rico Infrastructure Financing Authority: $1.9 billion. Called Prifa, the agency has sold the island’s rum-tax bonds. These are securities repaid from federal excise taxes on rum made in Puerto Rico. Prifa owes $37.2 million of interest in January and $77.8 million of principal and interest in July.

Puerto Rico Public Finance Corp.: $1.09 billion. The PFC bonds are repaid with money appropriated by the legislature. The agency defaulted on its Aug. 3 and Sept. 1 debt-service payments because the legislature failed to allocate the funds. It owes interest every month, the largest being a $24 million payment in February.

Bloomberg News

by Michelle Kaske

September 25, 2015 — 12:59 PM PDT

An investment firm focusing on high-yield and distressed municipal bonds sued the developer of a power plant that serves Atlantic City’s shuttered Revel Casino for securities fraud.

Rosemawr Management LLC, a $1 billion fund started by Lehman Brothers Holdings Inc.’s former head of municipal-derivatives trading, alleged that ACR Energy Partners LLC concealed defaults and used almost all its assets to make improper dividend payments to its parent company. In March 2014, New York-based Rosemawr bought $35 million of bonds that financed the power plant at 92.25 cents on the dollar. The securities have since lost 70 percent of their value.

“Although it was public knowledge that the Revel facility was not performing as well as Revel had intended, there was no reason to believe that Revel was defaulting on its payment to ACR,” Rosemawr said in the Sept. 16 suit, filed in federal court in Camden, New Jersey. “As a direct result of the fraudulent concealment of material information, plaintiffs purchased the bonds at artificially inflated prices.”

Distressed Municipalities

Rosemawr was formed in 2008 by Greg Shlionsky, a former Lehman Brothers managing director. The firm, which bought bonds backed by revenue from Harrisburg, Pennsylvania’s parking garages and has lent money to an assisted living facility in Georgia and a storm drain project in the Detroit area, also includes former Lehman municipal derivatives trader James Lister.

Greg Usry, Citigroup Inc.’s former co-head of municipal credit and financial products and Julie Morrone, who formerly managed Morgan Stanley’s high yield muni funds, also work at Rosemawr, according to the firm’s website.

Revel, which opened at a cost of $2.4 billion in 2012, was an attempt to bring a bit of Las Vegas to the east coast by offering more shows, restaurants and shopping. The property suffered from poor design and competition from new casinos in other states. It went bankrupt twice before closing in September 2014.
New Jersey’s Economic Development Authority issued about $119 million of unrated tax-exempt and taxable municipal bonds in 2011 on behalf of ACR, which used the money to build a heating, cooling and electric plant for the Revel resort and casino.

Bond Covenants

Revel had a 20-year contract to buy power and other utility services from ACR, a joint venture between South Jersey Industries Inc. and DCO Energy LLC. Dan Lockwood, a spokesman for South Jersey Industries, didn’t immediately return a call seeking comment. Frank DiCola, chairman of Mays Landing, New Jersey-based DCO also didn’t return a message.

Two Rosemawr funds bought $35 million of the power plant bonds at 92.25 cents per $100 face amount in March 2014. ACR and its owners “flatly lied” about defaults under the bond covenants which, if disclosed, would have lowered the price of the securities, Rosemawr said.

ACR hid Revel’s failure to make required monthly payments under the energy service agreement and entered into a “special arrangement” with the casino to extend payment terms without bondholder permission, Rosemawr said. ACR also didn’t notify bondholders it failed to fully fund a required reserve account.

The account “provided crucial protection of bondholders’ interests, because it provided a source of payments to bondholders until Revel became consistently profitable.”

Dividend Payments

Finally, ACR made $11 million in improper and fraudulent divided payments to its sole controlling member, an entity set up by South Jersey Industries and DCO, according to the suit. Under the bond documents, dividends were restricted if there was an event of default, Rosemawr said.

The $11 million payments “represented substantially” all of ACR’s liquid assets. ACR missed its June 15, 2014, debt service payment.

The offering statement for ACR’s bonds warned investors that the shuttering of the Revel resort or an ownership transfer meant bondholders couldn’t be assured energy produced by the plant was necessary or that new owners might get energy elsewhere.

Rosemawr said it believed financing wouldn’t be jeopardized because Revel would need power, regardless of who purchased the building or its long-term use.

“Had the plaintiffs known the information that was fraudulently concealed by the defendants prior to the purchase of the bonds, the plaintiffs would either have not purchased the bonds altogether, avoiding any losses, or would have purchased the bonds only at a dramatically lower price, thereby significantly reducing their losses,” Rosemawr’s complaint said.

Bloomberg News

by Martin Z Braun

September 21, 2015 — 11:22 AM PDT

New York, September 25, 2015 — More US not-for-profit hospitals are likely to venture into the commercial health insurance business in the next few years either to gain market share or reduce costs through improved healthcare management, Moody’s Investors Service says. However, starting a new plan or acquiring an existing business carries significant credit risks as managerial skills shift, competition intensifies, and start-up costs rise.

“Different management expertise is needed to operate a commercial health insurance business versus an acute care hospital. Health plans require actuarial skills for pricing models and specific marketing and service acumen, for example,” says Moody’s Vice President — Senior Analyst Mark Pascaris.

Despite substantial risks to cash flow margins, the trend is expected to persist, especially among larger systems which can absorb the costs. Drivers include the Affordable Care Act (ACA), which encourages care coordination and population health management; continued focus on cost reductions, synergies through greater economies of scale, and creating new revenue streams, Moody’s says in “Hospitals Entering Insurance Business Gamble on Long-Term Payoff.”

“Not-for-profit hospitals with a health insurance business (often known as an integrated delivery system, or IDS) tend to operate at noticeably lower operating cash flow margins than similar health systems without insurance,” Pascaris says. “Entering the insurance business inevitably suppresses hospital system margins from the beginning.”

Moody’s says this is due to the inevitable mismatch between expense ramp-up and premium reserves essential to meet cash reserve requirements to execute the plan. The effect on credit will largely be driven by the pace and magnitude of the strategy and management’s ability for rapid adjustment, if needed.

Aside from new managerial skills, competition from other national and regional health plans is intense. Moreover, this is compounded by recent merger and acquisition activity among Anthem Inc. (Baa2, under review possible downgrade) reached an agreement to acquire Cigna Corp . (Baa1, possible downgrade), following Aetna Inc.’s (Baa1, possible downgrade) deal to buy Humana Inc. (Baa3, possible upgrade) which has skewed negotiating leverage between commercial payors and hospitals decidedly toward the insurance companies.

There are some hospitals with long-standing health insurance plans that have developed an expertise in managing both the underwriting and delivery sides of the business. These health systems have ample cash reserves to weather insurance cycles and regulatory changes that come with the line of business.

The report is available to Moody’s subscribers here.

Taylor Riggs, an editor at Bloomberg Brief, talks with reporter Kate Smith about this week’s municipal market news.

Watch the video.

September 24, 2015

Puerto Rico’s $72 billion debt burden overshadows another financial threat to the Caribbean island: a government workers pension fund that’s set to go broke in five years.

As Governor Alejandro Garcia Padilla prepares to push for bondholders to renegotiate debts he says the commonwealth can’t afford, he’s also contending with an estimated $30 billion shortfall in the Employees Retirement System. The pension, which covers 119,975 employees, as of June 2014 had just 0.7 percent of the assets needed to pay all the benefits that had been promised, a level unheard of among U.S. states.

If not fixed, the depleted fund could jeopardize a fiscal recovery by foisting soaring bills onto the cash-strapped government even if investors agree to reduce the island’s debt. The system is poised to run out of money by 2020, which would leave the government on the hook for more than $2 billion in benefit payments the next year alone, according to Moody’s Investor’s Service. That’s equal to about one-fourth of this year’s general-fund revenue.

“As Puerto Rico shoulders that burden of paying for pension benefits outright, that’s obviously going to cripple their budget,” said Ted Hampton, a Moody’s analyst in New York.

Crisis Builds

The debt crisis gripping the island, with a population of 3.5 million, is the outcome of years of borrowing to pay bills while the economy stumbled and residents left for the U.S. mainland. In August, Puerto Rico defaulted on some bonds for the first time, and Garcia Padilla has said that reducing its debt is crucial to the island’s economic recovery.

His administration and outside advisers on Sept. 9 released a plan to repair the island’s finances, which included closing schools and reducing benefits to the poor. It also envisions making increased pension payments that have been delayed because the government hasn’t had the money.

“We believe this plan addresses the system’s needs and assures pensioners and participants that their benefits will be paid,” Pedro Ortiz Cortes, administrator for the retirement system, said in an e-mail Thursday.

Workers’ Doubts

Puerto Rico’s failure so far to address its long-building pension shortfall has fostered anxiety among workers, who are concerned that their benefits will be reduced amid competing demands from creditors. “A reduction in benefits would be horrible,” said Eduard Rodriguez Santiago, a 38-year old firefighter. “Things are getting more expensive.”

Garcia Padilla, in a speech after the release of the fiscal plan, said that workers have already sacrificed enough. In 2013, the government raised the retirement age, increased employee contributions and reduced or eliminated retiree bonuses.

“Solving the pension problem is almost tougher than debt because people will take to the streets if you start seeing pension checks quit going out,” said Tom Schuette, co-head of credit research at Solana Beach, California-based Gurtin Fixed Income Management LLC, which manages $9.6 billion of municipal securities. “It’s almost much easier to anger investors on the mainland as opposed to residents who can vote you out of office.”

Current and prior administrations have implemented changes to improve the pension system, including by closing it to new employees and offering them annuities instead. To give it cash to invest, it sold $2.9 billion of bonds in 2008, just before the credit crisis caused stock prices to plunge. The system is now obligated to repay the securities, which have tumbled in value amid doubts about its ability to do so.

As Puerto Rico has cut the number of workers on its payrolls, there are fewer paying into the retirement system. The island had 116,000 central-government employees in May 2015, down 27 percent from seven years earlier, according to the report by the government and its advisers.

While new employees haven’t been eligible for traditional fixed-benefit pensions since 2000, the step didn’t stop Puerto Rico’s growing liabilities. The new employees, called System 2000 participants, will receive an annuity instead. Their contributions are being used by the pension system to meet its obligations.

New Liabilities

“They’re using these payments to shore up their existing defined-benefit plan,” said Hampton, the Moody’s analyst. “Their defined-contribution plan isn’t really taking hold. It’s just creating new liabilities for the central government.”

Puerto Rico is facing more immediate concerns because it may be short of cash as soon as November. That may leave it forced to choose between paying workers and retirees or bondholders, with $357 million of interest on its general obligations due Jan. 1.

“If the government has to decide between making a big general-obligation payment in January or making sure they have enough for payroll or for pensioners in December, I think they’re going to go with the pensioners or payroll,” Sergio Marxuach, public-policy director at the Center for a New Economy, a research group in San Juan. “You’re not going to send government workers home without money during Christmastime.”

Bloomberg News

by Michelle Kaske

September 24, 2015 — 9:01 PM PDT Updated on September 25, 2015 — 5:33 AM PDT

Puerto Rico’s main power utility reached a tentative agreement with lenders on fuel purchases that would reduce interest rates on $700 million of debt that has already matured and extend repayment for at least six years.

The Puerto Rico Electric Power Authority and lenders including a unit of Bank of Nova Scotia and Solus Alternative Asset Management agreed to convert the debt, which matured in 2014, into six-year term loans with a 5.75 percent interest rate or exchange all or part of the principal due under existing credit agreements for new bonds. The securitized debt would include a 15 percent principal reduction and a five-year moratorium on payments.

The principal reduction is equal to the amount accepted by holders of about 35 percent of its $8.3 billion in bonds earlier this month. The utility, known as Prepa, is still in talks with tax-exempt bond insurers in what would be the largest-ever restructuring in the $3.6 trillion municipal-bond market.

The utility restructuring is the first step toward Puerto Rico’s goal to lower its debt burden.

“The terms for those lenders are very attractive in this agreement, but the total amount is small and Prepa needs access to fresh fuel financing,” said Matt Fabian, a partner at Concord, Massachusetts-based Municipal Market Analytics.

The tentative pact comes a year after the fuel lenders entered a forbearance agreement, where they pledged to not file suit against Prepa while the debt talks were ongoing. That accord was set to expire Sept. 25.

Bond Insurers

“The best path forward for Prepa, as well as the creditors, involves sharing the burden among all stakeholders. We continue to negotiate with our monoline bond insurers in an effort to reach agreement that will allow Prepa to continue to implement its transformation,” said Lisa Donahue, Prepa’s chief restructuring officer, said in a statement Tuesday.

Prepa owed Scotiabank de Puerto Rico about $550 million as of August 2014, according to the forbearance agreement. The utility owed another $146 million to Citigroup Inc. as of that period. Solus bought that loan from Citigroup earlier this year. The agreement would lower interest rates to 5.75 percent from 7.25 percent, according to Prepa’s statement.

“We are pleased that the syndicate of fuel-line lenders and Prepa have reached a mutually beneficial agreement in principle to support Prepa’s ongoing operational transformation,” Marcelo Gomez-Wiuckstern, a spokesman for Scotiabank, said in an e-mail.

Solus declined to comment through Julia Kosygina, a representative at Abernathy MacGregor Group Inc.
Bond insurers including Assured Guarantee Ltd. and Syncora Guarantee Inc. declined to extend their forbearance contract beyond Sept. 18. MBIA Inc. dropped out of the forbearance earlier this month. An accord with bondholders will expire Oct. 1 unless the parties extend it.

Bloomberg News

by Michelle Kaske

September 22, 2015 — 1:27 PM PDT Updated on September 22, 2015 — 2:43 PM PDT

Puerto Rico’s five-year budget deficit leans closer to the commonwealth’s $14 billion forecast rather than a Morgan Stanley estimate that cuts that figure by more than half, according to BlackRock Inc.’s Peter Hayes.

Commonwealth officials and their advisers, called the Working Group, unveiled on Sept. 9 a five-year fiscal and economic growth plan that projects the island’s budget will be short $14 billion because of increasing health-care expenses and retirement costs. The report’s base-case scenario estimates the island’s gross national product will decline by one percent and may increase by as much as 2 percent in a high-growth scenario, according to the plan.

One Morgan Stanley scenario takes a different view. Puerto Rico has overestimated its funding gap, according to a presentation distributed Sept. 11 by Ryan Brady, an analyst on Morgan Stanley’s municipal-debt trading desk in New York. The bank estimates a $5.57 billion deficit through fiscal 2020, according to the report. Yet that forecast may be too low, Hayes said Tuesday on Bloomberg Television.

“We’re on the higher side,” said Hayes, who helps oversee $116 billion as head of municipal debt, including Puerto Rico securities, at New York-based BlackRock. “We think some of the economic assumptions are well founded,” Hayes said about the Working Group’s estimates.

How to best gauge Puerto Rico’s estimates are even in dispute within Morgan Stanley. Research analysts led by Michael Zezas, who work separately from the trading desk, put out a note the day before Brady’s presentation stating that “we could not patch together a budget baseline with a strong enough degree of confidence.”

Puerto Rico and its agencies owe $72 billion. Officials plan to offer investors a debt-restructuring proposal in the next few weeks after saying the commonwealth will only have $5 billion in the next five years to repay $18 billion of principal and interest coming due. Governor Alejandro Garcia Padilla in June said Puerto Rico and its localities were unable to repay all of its obligations on time and in full.

The Working Group’s five-year plan follows a report compiled by former International Monetary Fund economists led by Anne Krueger and commissioned by Puerto Rico. The Krueger report calculates a five-year deficit of $9.6 billion.

“When you look at the economy of Puerto Rico, there’s a lot of reforms that need to take place,” Hayes said. “And if they don’t, it’s likely that deficit is going to be higher rather than smaller.”

Bloomberg News

by Michelle Kaske

September 22, 2015 — 11:48 AM PDT Updated on September 22, 2015 — 12:32 PM PDT

Goldman Sachs Group Inc. is extending the life of some debt that financed its downtown Manhattan headquarters.

The New York Liberty Development Corp. plans to issue $22 million of tax-free debt on behalf of a Goldman Sachs subsidiary that funded construction of the firm’s 1.9 million-square-foot building at 200 West Street. The 20-year bonds will be tacked onto its outstanding $1.24 billion of securities due in 2035 that were sold 10 years ago. Proceeds will pay off owners of obligations that mature Oct. 1, according to offering documents.

The New York agency, which was created to spur development after the terrorist attacks on Sept. 11, 2001, is an example of conduit agencies across the U.S. that give companies access to the tax-exempt securities market to reduce interest costs. Goldman Sachs initially borrowed about $1.3 billion in 2005 through the Liberty Bond program, which was projected to save it at least $100 million over the life of the debt.

Trade Center

“This is a relatively small chunk of the deal that’s coming due and to try to re-market that separately can be difficult,” Jonathan Beyer, senior legal counsel at Empire State Development, said at a Sept. 1 meeting. The Liberty Development Corporation is a subsidiary of the firm. “The idea is to extend the maturity and consolidate it in a larger package for sale.”

Others who have tapped the public corporation for financing include developer Larry Silverstein, who sold $1.6 billion of tax-exempt bonds last year to finance the construction of 3 World Trade Center, and Bank of America Corp., which borrowed for its tower across from Bryant Park in midtown Manhattan.

The new bonds for Goldman Sachs are considered a second tranche of the 2005 borrowing and will carry the same 5.25 percent interest rate as the 2035 debt. The securities could still be priced at a lower yield. Municipal debt due in two decades yield 0.6 percentage point less than 10 years ago, Bond Buyer data show.

While a security reopening is common in the U.S. Treasury market, it’s rare in the $3.6 trillion municipal market. In such a transaction, a borrower sells an extra portion of previously issued debt with the same maturity and interest rate, even though it comes to market later at a different price.

The bonds have the same ratings as Goldman Sachs, which guarantees the debt service payments of its subsidiary. Moody’s Investors Service has the debt at A3, four steps above speculative grade and equivalent to the A- rank from Standard and Poor’s.

Tiffany Galvin, a spokeswoman in New York for Goldman Sachs, declined to comment on the deal beyond the offering statement.

Bloomberg News

by Brian Chappatta

September 22, 2015 — 9:07 AM PDT Updated on September 22, 2015 — 1:38 PM PDT

BlackRock Municipal Bond Head Peter Hayes discusses municipal bonds and Puerto Rico’s debt. Bloomberg’s Kate Smith also reports on “Bloomberg Markets.”

Watch the video.

September 22, 2015

The Swiss bank packed pension bonds it underwrote into mutual funds it marketed on the island with a hard sell.

UBS had a good thing going in Puerto Rico. The Swiss bank served as an adviser to the commonwealth’s Employees Retirement System, led the underwriting of a $2.9 billion bond issue for the pension agency in 2008, and then stuffed half of those bonds into a family of closed-end mutual funds it sold exclusively to customers on the island. It collected fees at every step.

Now, with the U.S. territory in the downward spiral of a government debt crisis, it’s all coming apart for UBS, long the biggest retail brokerage on the island. After UBS helped the government dig itself into a deeper hole and put island customers on the hook for the losses that followed, its Puerto Rico saga has become a cautionary tale of how risks can multiply.

Angry customers have filed hundreds of arbitration claims with the Financial Industry Regulatory Authority. They’re seeking more than $1.1 billion in damages from UBS after huge losses in the tax-free bond funds, sold as high-income investments that would preserve their capital, and in the bonds themselves. Three of UBS Puerto Rico’s five offices have closed since 2010, and nearly 60 of the unit’s 140 financial advisers have departed. The bank’s retail brokerage market share on the island has dropped to 33 percent from 48 percent over that period.

Retiree Juan Burgos Rosado was 66 in December 2011, when he opened an account with UBS. A month earlier, he had taken a fall from a tall ladder, ending his career rehabbing real estate. Rosado was “the quintessential conservative investor,” according to the arbitration panel that heard his case. UBS advised him to move $325,000 from a maturing certificate of deposit into its high-income funds. Rosado invested a further $200,000 in 2012, when he sold a house, and $600,000 more in January 2013, when another CD matured. He tried to sell the funds later that year as they plunged in value. His statements showed they were still worth $450,000, but UBS offered him just $90,000. While most closed-end funds are listed on an exchange, these were not, so clients depended on bids and offers from UBS Puerto Rico to get in or out.

Rosado didn’t sell; he went to arbitration and won. In May, the arbitrators wrote in their decision that Rosado was “grossly over-concentrated” in the bond funds, which were unsuitable for a senior with no investing experience. UBS was ordered to pay Rosado $1 million, including $602,000 in damages. With six other arbitration cases decided on the merits so far this year, one of which went in favor of the bank, UBS has been ordered to pay out a total of more than $7 million.

The bank was disappointed in the outcome of Rosado’s case, says UBS spokesman Gregg Rosenberg. The claims arbitrated so far are not indicative of how other claims might be decided, says Rosenberg, who’s based in New York. “For more than 20 years, investors in UBS’s Puerto Rico municipal bonds and closed-end funds received excellent returns.” Losses beginning in mid-2013 occurred amid general weakness in municipal bond markets and Puerto Rican debt, the bank says. The funds, which have declined as much as 75 percent from their initial prices, have continued to pay dividends.

The UBS Puerto Rico funds were lucrative for the bank, bringing in hundreds of millions of dollars in fees and commissions. The fund family, which had as much as $8.9 billion in assets in 2009, was designed to be heavily invested in the island’s municipal bonds, using borrowed money. By mid-2013, the bonds UBS had underwritten for the pension agency represented more than half of the net assets in five of the funds. The pension agency bonds lost more than 80 percent of their value from when they were issued in 2008 through August of this year. On Sept. 10, Standard & Poor’s predicted with “virtual certainty” that the bonds will default.

Putting bonds UBS had underwritten into funds UBS managed would have been forbidden by the Investment Company Act of 1940—if the funds were sold on the mainland. But Congress exempted Puerto Rico when the law was enacted. Bloomberg Markets first reported on UBS’s activities on the island in 2009.

“UBS made itself a ton of money at the expense of its clients, with these huge conflicts of interest,” says Craig McCann, a former senior economist at the U.S. Securities and Exchange Commission who has been hired by investors’ lawyers to review more than 200 of the arbitration claims.

McCann, a principal at Securities Litigation & Consulting Group in Fairfax, Virginia, says UBS Puerto Rico sold its fixed-income mutual funds and the pension debt to customers with no regard for diversification or the appropriateness of the risk. “Whether it was a $50,000 account or a $50 million account, systematically UBS put clients into the same securities,” he says. “I’ve never seen anything like it.”

The bond funds have landed UBS Puerto Rico in trouble before. In May 2012, UBS paid $26.6 million in fines and restitution and was censured by the SEC, which said the bank had manipulated the prices of the funds in 2008 and 2009. UBS didn’t admit or deny wrongdoing.

While UBS settled with the regulators, Miguel Ferrer, then-chairman of UBS Puerto Rico, fought a parallel proceeding that the SEC brought against him—and got his case dismissed. In October 2013, an administrative law judge ruled the regulator had failed to prove its case. She found that the prospectuses and literature describing the funds were accurate. Ferrer, who built what eventually became UBS Puerto Rico, starting with a two-man office 50 years ago, retired in 2014.

Ferrer had championed the bond funds. “What is the problem?” he asked his brokers during a June 2011 sales meeting in San Juan that was recorded. “We have in your accounts almost $1 billion in cash that does not generate commissions,” he said. He touted the high income the funds offered and argued that they were diversified. “You have current yield, and you have a history of good performance. What the f-ck do you want?” The audio recording, first reported by Reuters earlier this year, wasn’t used in the SEC case; it’s in the hands of lawyers handling the arbitration claims. Ferrer didn’t respond to a request for comment made through his lawyers.

Retail investors aren’t the only UBS clients who’ve suffered. So has the pension agency whose bonds the bank underwrote. The debt issue was intended to help rescue a troubled system that was, at that time, underfunded by $10 billion. It actually made things worse, according to a 2010 study prepared for the pension fund by consulting firm Conway MacKenzie. “The $3 billion transaction was inherently flawed, misconceived and speculative as a mechanism to improve the system’s funded ratio,” it found.

In May, Puerto Rico estimated the fund’s deficit versus future obligations had tripled to $30 billion.

José J. Villamil, an economist in San Juan, said in a 2009 interview with Bloomberg Markets that the bond deal relied on unreasonable projections of future funding of the pension system to service the debt. “I don’t know what they were smoking when they put this together,” he said, referring to revenue forecasts in a report by Global Insight, a mainland U.S. consulting firm since acquired by IHS. Jim Diffley, lead author of the report, defends his work. “There were all sorts of disclaimers that these are forecasts and subject to error,” he says.

A year after settling with the SEC, UBS hired Villamil to serve as an independent director of 18 of its Puerto Rico mutual funds. So he’s now on the payroll of an affiliate of the underwriter, but Villamil still says that it was a terrible idea to issue the pension bonds in the first place. “I think it was a huge mistake.”

Bloomberg Markets Magazine

by David Evans

September 21, 2015 — 9:01 PM PDT

Chicagoans are bracing for the biggest property tax increase in the city’s history as Mayor Rahm Emanuel contends with a budget shortfall and soaring retirement bills that have sent its credit rating tumbling.

Emanuel, a Democrat, on Tuesday proposed raising property taxes by $588 million over the next four years. That would inject cash into the city as it faces a $426 million deficit and a pension-plan debt that’s grown to $20 billion, more than $7,000 for each resident.

The tax increase would mark one of the biggest steps yet by Emanuel to shore up the finances of the third-largest U.S. city, which is under pressure from Wall Street as investors demand higher yields to buy its securities. Moody’s Investors Service, Standard & Poor’s and Fitch Ratings have all downgraded Chicago this year, giving it the lowest rating of any big U.S. city except for once-bankrupt Detroit.

“Our greatest financial challenge today is the exploding cost of unpaid pensions,” Emanuel said during his budget speech, which ended with a standing ovation from the packed city council chamber. “It’s a dark cloud that hangs over the rest of our city’s finances.”

“The bill is due today,” Emanuel said. Without the new revenue, the city would need to lay off 2,500 police officers, close 48 fire stations and cut 2,000 firefighting jobs to cover pensions costs, he said.

Welcomed Move

The prospect of higher taxes has been welcomed by investors. Federally tax-exempt Chicago bonds maturing in 2035 traded Tuesday for an average of 94.6 cents on the dollar, up from 88.7 cents on Aug. 27. That lowered the yield to 5.5 percent, about 2.5 percentage points more than top-rated debt, according to data compiled by Bloomberg.

“This is not kicking the can down the road,” said Paul Mansour, head of municipal research in Hartford, Connecticut, at Conning, which holds Chicago debt among its $11 billion of municipal securities. “We’re actually going to do something here that is going to sting. We’re moving from gamesmanship to action steps.”

The financial squeeze on Chicago emerged after officials shortchanged the pension funds by more than $7 billion over the past decade, freeing up cash for other uses. That’s caused the projected retirement bill to swell to about $1 billion next year, more than doubling since 2014, as it makes up for years of failing to set aside enough to cover pension checks for police officers, firefighters and other city employees.

The move to raise taxes, which needs the approval of the city council, is a shift for Emanuel, who won re-election in April after touting his record of not lifting property, gas or sales taxes. In May, Moody’s cut Chicago’s bonds to junk, saddling the city with higher interest bills as it refinanced debt.

“I think that public service requires people to display courage and to take tough votes,” Alderman Edward Burke, chairman of the finance committee told reporters after Emanuel’s address. “This is going to be a tough vote.”

The property tax hike, which will be used for pensions, will start with a $318 million increase in 2015 followed by an additional $109 million in 2016, $53 million in 2017 and $63 million in 2018. A $45 million special real-estate levy that state lawmakers approved in 2003 would also be enacted to ease overcrowding at schools.

“It’s a good faith example of what Chicago needs to kind of right their ship and improve their finances,” said Alan Schankel, a managing director at Janney Montgomery Scott LLC in Philadelphia. “It’s not going to solve all the problems of the world, but they’re taking the right steps and that’s important.”

Chicago’s next annual pension payment will jump 10 percent $976 million, according to an annual financial analysis released July 31. That’s on top of the $549 million it still owes to police and firefighter retirement funds for this year. While state lawmakers approved lowering this year’s payment to $328 million, Republican Governor Bruce Rauner has yet to sign it.

The city is also fighting a court challenge to its effort to cut some employee benefits and require them to pay more into the retirement system. A state judge in July ruled that the steps are illegal, siding with the workers.

Business Opposition

The tax-increase plan has already drawn some opposition from businesses. The burden may fall largely on commercial property owners, said Ron Tabaczynski, director of government affairs for the Building Owners and Managers Association of Chicago. Emanuel wants to exempt owners of homes valued at $250,000 or less from the hike.

“Businesses start rapidly approaching that tipping point where it’s just not worth doing business here,” Tabaczynski said.

The fiscal pain is being shared in other ways. Residents who don’t already pay for garbage pick-up will have to pay $9.50 a month for refuse collection, generating about $62.7 million, according to Emanuel’s proposal. He’s also pitching higher fees on taxis and ride-hailing services like Uber Technolgies Inc. to produce about $48.6 million.

This tax increase is welcome step toward dealing with Chicago’s financial strains, said Dan Heckman, senior fixed-income strategist in Kansas City, Missouri, at U.S. Bank Wealth Management, which oversees about $127 billion of bonds.

“Doing nothing is not going to solve it, and doing only a little will only prolong this,” said Heckman, whose firm doesn’t hold Chicago debt. “That’s a concern on a lot of investors’ minds.”

Bloomberg News

by Elizabeth Campbell

September 21, 2015 — 3:46 PM PDT Updated on September 22, 2015 — 10:36 AM PDT

Nonprofit hospital bonds are being issued at the fastest pace since at least 2012 as earlier concerns over the Affordable Care Act’s implementation have largely abated.

As of Sept. 16, nonprofit hospitals in the U.S. have issued $18 billion of municipal bonds this year, already surpassing 2013’s and 2014’s annual totals, according to Bloomberg data.

This year’s pick-up in issuance reverses two years of pullback. As the Affordable Care Act — often dubbed Obamacare — began official implantation in 2013, wary hospitals put the brakes on capital investment until the future was more clear, said Mike Quinn, a managing director at Chicago-based B.C. Ziegler & Co.

“With factors like Obamacare decreasing utilization, reimbursement risk at the federal and state level and spirited negotiations with private health insurers, it’s hard to understand what your future earnings stream is going to look like with those headwinds,” said Quinn, who specializes in health-care investment banking. “So they borrowed less money for new money purposes.”

As a result, issuance in this sector fell 40 percent to $16 billion in 2013 from $27 billion in 2012, data from Bloomberg show. The following year, it fell even further, to $15 billion.

Trinity Health

The largest of this year’s deals was a $897 million borrowing from the Indiana- and Michigan-based Trinity Health Corporation Obligated Group priced in February, followed by a $504 million issuance from the North Shore-Long Island Jewish Obligated Group sold in June, data from Bloomberg show.

Issuers aren’t the only ones turning more bullish on the sector. The two biggest credit graders — Standard &Poor’s and Moody’s Investors Service — lifted their negative outlooks for nonprofit health-care bonds in the past few weeks, citing positive impacts from health-care reform. Moody’s had previously had the sector on negative watch since 2008, when the Affordable Care Act was first announced. S&P lifted its negative outlook on Sept. 9, noting that sector still had challenges ahead but was “stable.”

Refinancing Transactions

Much of the boost in issuance this year has been the result of refunding, as health-care providers have been eager to take out older more expensive debt with less expensive newer bonds.

“We’ve had pretty robust issuance in 2015,” Quinn said, noting that refinancing transactions have made up a bulk of the issuance. “Borrowers have taken advantage of the decrease in interest rates.”

A push to refund debt has been a broader theme in the municipal market this year. State and local governments have issued just under $300 billion in bonds this year, about two thirds of which has been refinancing older obligations, according to data provided by Bank of America Merrill Lynch.

Bloomberg News

by Kate Smith

September 21, 2015 — 7:03 AM PDT

Mississippi, the poorest U.S. state, is selling its first bonds backed by gambling taxes after its share of the winnings fell to the lowest since 1997, two casinos closed and its neighbors began looking at expanding into the business. Investors may still like the odds.

The $200 million of bonds carry Standard & Poor’s fifth-highest credit rating because the state’s gaming revenue covers the debt service 10 times over, even though it’s fallen almost 30 percent from the 2008 peak.

Potential competition from neighboring states, along with closures of a Harrah’s casino in Tunica and another on the Gulf Coast, may lead the the state to dangle higher-than-average yields to draw buyers to the offering on Wednesday, said Burt Mulford at Eagle Asset Management.

“There has been a trend of decline in this sector in terms of state gaming revenue,” said Mulford, a manager of tax-exempt funds for the St. Petersburg, Florida-based firm, which holds $2.4 billion of municipal bonds. “It’ll come at a very wide spread, at least initially, and because it’s a name a lot of managers don’t own, they’re going to want to add it.”

Mississippi joins states across the U.S. that have seen their share of gambling money dwindle as others expanded the industry to bring in cash after the recession. Last year, casino revenue dropped in 10 of the 12 biggest gambling states, including Mississippi, according to data compiled by the University of Nevada, Las Vegas.

With more than $2 billion in revenue from 28 casinos, Mississippi’s industry ranks sixth nationwide. That’s drawn the attention of its neighbors: Alabama and Georgia pushed to legalize gambling in the last legislative session, said Jon Griffin, who tracks the issue for the National Conference of State Legislatures in Denver.

Alabama sought to establish a lottery and authorize casino gambling. Georgia lawmakers proposed a constitutional amendment to overturn its casino ban. Neither effort succeeded.

“Legalized gaming in Alabama could severely affect gaming revenue” because Mississippi’s Gulf Coast casinos drew 2.5 million visitors from its neighbor in 2014, according to the offering statement. Gambling on the Mississippi River, a center of the state’s casino industry, has already suffered from expanded options in Arkansas, with visitors from the state and Tennessee declining more than 50 percent in the past four years, the statement says.

Declining Revenue

In addition to the two casinos that closed last year, the Isle of Capri Casino in Natchez will shutter next month, according to bond documents. Offsetting that, a new one is set to be built by the end of 2015 along the Gulf Coast with more than twice as many slot machines and seven times as many table games.

Mississippi’s tax revenue from gambling fell in the 2014 budget year to about $164 million, a 17-year low, from as much as $230 million in 2008, according to offering documents. For the 12 months ended June 30, the collections totaled $167 million.

The state’s view on the gaming industry “is it’s going to be stable for quite some time,” Mark Valentine, director of the bond advisory division in Mississippi, said in an interview. “It’s not like there’s just one or two casinos.”

Almost two-thirds of the 23 million visitors to Mississippi casinos in 2014 came from another state, according to bond documents. While that keeps cash in the pockets of its citizens, it also makes Mississippi more vulnerable to competition, said Howard Cure at Evercore Wealth Management.

Hurricane Katrina

“If you attract people from all over the country, you’re taxing tourists, which is always preferred from a political point of view,” said Cure, head of municipal research in New York at Evercore, which oversees about $6 billion. “But there’s definitely a saturation point to this. I usually stay away from these type of pure gaming-secured-type debt instruments because of those risks.”

Mississippi’s gambling revenue is also vulnerable to bad weather. After Hurricane Katrina struck in 2005, the Hard Rock Casino didn’t open until almost two years later, according to offering documents.

Proceeds will be used to repair and replace bridges. In particular, as much as $18 million will go toward the Vicksburg Bridge, which spans the Mississippi River into Louisiana. It’s the most-heavily traveled bridge in the state to be considered “structurally deficient,” according to Mississippi’s transportation department.

The state’s 23-year history in the casino business has given it a leg up on states trying to capture its market share, said Mulford, the investor at Eagle Asset Management. He said that provides some cushion for the bonds, which mature from 2016 to 2035.

Twenty-year tax-exempt revenue bonds with a similar rating yield about 3.7 percent, compared with about 3 percent for top-rated debt, according to data compiled by Bloomberg.

“The trend is down,” Mulford said. “But they have such excess coverage in their ability to cover debt service that they’re in a good position to cover declining revenues.”

Bloomberg News

by Brian Chappatta

September 20, 2015 — 9:01 PM PDT Updated on September 21, 2015 — 6:28 AM PDT

The recent bankruptcy rulings in California and Michigan protected retirees’ pensions. But at what expense?

Four cities emerged from bankruptcy court this past year, and in each case, their road to fiscal stability was paved not with cuts to the pensions of firefighters, teachers and other local government employees, but to the wallets of bondholders who had invested in those cities. In California’s San Bernardino, Stockton and Vallejo, and in Detroit, bondholders faced losses of up to 99 percent of their holdings, according to Moody’s Investor Services. In the bankruptcy resolutions in all three California cities, the courts preserved full pensions for retirees, while in Detroit pensions were cut only by about 18 percent.

This has neither ensured nor clarified the future fiscal sustainability of those cities or for others with structural debt problems. It has merely perpetuated concerns that cities have found a get-out-of-jail-free card. In May, Moody’s sharply downgraded Chicago’s credit rating, attributing the decision almost entirely to the city’s pension liabilities for its teachers and its inability to pay for schools. Should the Illinois Legislature grant Chicago and other municipalities access to bankruptcy, many fear that municipalities’ political inabilities to rein in pension liabilities could trigger future bankruptcy court decisions that, as in California and Michigan, would have repercussions for municipal bondholders throughout the nation.

Naturally this is pitting bondholders against retirees. The former are critical to a municipality’s future and its ability to raise money to build and modernize infrastructure and services. The latter are a fiscal burden, but their pensions are stabilizing factors in two ways: They help attract the most competitive applicants to provide city services, and they help ensure that retirees themselves do not become burdens. This was an imperative factor in the resolution of Detroit’s plan to exit bankruptcy.

The importance of stable retiree income is echoed in federal law. The Pension Benefit Guaranty Corp. explicitly provides for continuity in pension benefits — but only for nonmunicipal corporate bankruptcies. The exclusion of cities and counties in this critical matter discriminates against the fiscal capacity of a city or county to invest in its own future. Some states, such as Michigan and Rhode Island, have reacted by making unique and needed commitments to the fiscal sustainability of their municipalities. Others such as Alabama and California leave cities to twist in the fiscal wind.

Almost every state that authorizes cities or counties to file for municipal bankruptcy imposes requirements or mandates. In Michigan, for example, that included the suspension or preemption of the authority of elected leaders. The post-bankruptcy process in Detroit of reverting to municipal authority came with strings attached, one of which is a decade of oversight by the state Financial Review Commission. The commission is charged with reviewing and approving Detroit’s four-year financial plan and establishing programs and requirements for prudent fiscal management. To emerge from oversight in 2018, Detroit must maintain a balanced budget for three consecutive years.

This state oversight is important to Detroit’s fiscal future in two ways. First, it means the state has a stake in Detroit’s long-term fiscal sustainability. Second, it means that municipal bond investors have greater assurance and incentives to purchase and hold the Motor City’s bonds, providing critical capital investment for Detroit’s future. The bankruptcy events of the past two years — in California and Michigan specifically — suggest the need to establish firm and credible fiscal actions to guarantee citizens’ essential services and pensioners’ sufficient income. Fiscal boards, which are outside of political considerations, would bear the responsibility to guarantee the continuity and honor of the fiscal commitments agreed upon by states and their localities — especially in the wake of a restructuring process.

The road back from fiscal distress or bankruptcy for state and local governments is far more challenging under current federal laws than for nonmunicipal corporations, so innovations that encourage capital investments in these cities’ futures are invaluable. Bondholders are watching.

GOVERNING.COM

BY FRANK SHAFROTH | SEPTEMBER 2015

Standard & Poor’s Ratings Services is currently seeking comments on proposed changes in the criteria it uses to rate debt from publicly owned waterworks, sanitary sewer, and drainage utility systems. Our initial testing of the effects of these proposed changes—which will apply only to revenue-backed debt—indicate that roughly 75% of our more-than 1,500 ratings in this sector will remain the same if we adopt the criteria revisions. Of the remaining 25% of ratings, we are likely to see an even split between upgrades and downgrades, and nearly all will be no more than one notch. We don’t expect any rating to shift to speculative-grade status from investment-grade status, or vice versa. We view this sector as relatively safe and stable, and most of our ratings are in the ‘A+’ and ‘AA-‘ categories. Moreover, because several very large issuers dominate issuance in this sector, we expect the criteria changes to affect ratings on less than 25% of the par value of public water and sewer debt now in the market.

Standard & Poor’s last revised the criteria for public water and sewer facilities in 2008, and before, that in, 2002. The changes we’re considering now will increase the transparency and replicability of our criteria across the sector and more accurately reflect current and potential future risks associated with these debt issues, which are issued by cities, counties, or other public entities of widely divergent size and in all regions of the country. These new criteria will include some significant changes in how we assess water and sewer debt issues. (See “Request For Comment: U.S. Public Finance Waterworks, Sanitary Sewer, And Drainage Utility Systems: Methodology And Assumptions”, published Dec. 10, 2014.) We ask interested parties to send their comments on the proposed criteria revision HERE or HERE  by Feb. 28, 2015, and we will take them into consideration before issuing a definitive update to our criteria.

Here are answers to some frequently asked questions about the most significant changes we’re proposing to our criteria for these ratings.

Frequently Asked Questions

Can you explain the new “operational management” assessment in the proposed criteria?

As proposed, this assessment will account for 10% of an issuer’s total enterprise risk assessment and will take into account several factors pertaining to an entity’s day-to-day operations that can have an impact on credit quality. One of these factors, for instance, would be a water utility’s drought management plan—a factor that has taken on more importance in some states, such as California. Some questions to consider include “Does the issuer have a clear plan to address a prolonged decline in water availability?” and “Does the utility have the management expertise to fulfill its drought planning and to communicate effectively to its stakeholders?”

Another factor that we’ll now explicitly and separately consider as part of the operational management assessment is the utility’s rate-setting practices. Although municipal water and sewer systems tend to have wide latitude in their rate-setting ability, they must still comply with state and federal environmental regulations to ensure public health and safety, and doing so may sometimes require rate adjustments.

The operational management assessment is designed to not only assess the adequacy of the water supply or treatment capacity, but will also take a hard look at the physical integrity and capacity of a system’s assets, its ability to meet peak demand in its service area, along with its compliance with all environmental regulations.

How will the proposed “financial management” assessment section of the criteria work?

The financial management assessment will account for 10% of an issuer’s total financial risk assessment. This assessment will consider the robustness of a utility’s financial policies and internal controls and evaluate whether its long-term planning is well-constructed and realistic, and will also look at the assumptions that go behind that planning. We will also, as part of this assessment, consider the quality, transparency, and timeliness of the utility’s financial reports. The financial management assessment would be in line with a similar assessment that Standard & Poor’s currently performs for local government general obligation (GO) ratings.

The financial management assessment analyzes how a utility makes financial decisions, including how it identifies and addresses both ordinary and extraordinary costs, its ability to fund them, and whether it transparently reviews and publicly reports those risks. We assume that financial results manifest themselves in other visible ways and address them elsewhere in the criteria, specifically in coverage and liquidity assessments.

What is the “market position” assessment in the proposed criteria?

The market position assessment will essentially look at the rate affordability within a utility’s service area. It will account for 25% of the total enterprise risk assessment. Affordability has been an increasingly important factor in some localities, despite the long-held contention that because people can’t live without water, they’ll always find a way to pay for it. We’ve recently seen instances where a significant percentage of water bills are going unpaid and management is struggling with collections in light of public health concerns. Affordability has also been an issue for other systems facing consent decrees and rising capital costs. The affordability of water has also come under discussion by the U.S. Conference of Mayors and the Environmental Protection Agency.

This assessment will look at typical water usage in a utility’s service area and its cost to consumers, both on an absolute basis and as a share of median household income in that area. And recognizing that there will be households living well below an area’s median income, the proposed criteria change will also take into consideration the poverty rate in the utility’s service area. These measures will allow us to assess affordability across an area’s income spectrum to give a more complete picture of overall affordability.

Will evaluating affordability be separate from looking at an area’s local economy?

Although household income is clearly related to an area’s economy, we will continue to use a separate assessment of economic fundamentals as the largest part of an issuer’s total enterprise risk assessment score, at 45%. The economic fundamentals will continue to include assessments of a utility’s customer base, the demographics of its service area, the major employers located there, and trends in the local economy.

Can you explain the changes to coverage metrics in the proposed criteria?

We will now evaluate the total financial capacity of water and sewer bonds using a single metric of “all-in” coverage, regardless of the specific nature of the debt or its lien position. That means we will include any debt or debt-like instruments that are ultimately supported by ongoing utility revenues, whether on- or off-balance-sheet, in our calculation of all-in debt service coverage. We propose to include any debt that receives regular support from surplus net operating revenues, whether specifically pledged or not. We would also include any net revenue transfers from the utility to other jurisdictions (which we now treat as an operating expense) as part of this calculation.

We thus define all-in coverage as: (Revenues-Expenses-Net Transfers + Fixed Costs)/ (All Revenue Bond Debt Service + Fixed Costs + Self-Supporting Debt).

The effect of this change could, in many cases, reduce the debt service coverage we calculate for a utility. For instance, the coverage of its senior debt might be 2x, but when all-in coverage is the measurement, the ratio might fall to 1.5x. The use of a single metric for all-in debt coverage is, under the proposed criteria, similar to Standard & Poor’s treatment of coverage for U.S. public power utilities.

Will other major rating factors in your criteria remain the same?

Yes. We will continue to heavily weight economic fundamentals when rating these issues, and a utility’s liquidity and reserves—both the number of days of cash on hand and actual cash in dollar terms—will remain significant rating factors. A utility’s total debt will also continue to be a major rating factor, including not just the dollar figure, but also the allocation of debt by lien and how quickly or slowly that debt matures. And we will still evaluate how aggressive management has been in the type of debt it has selected, and whether its choices have introduced any contingent risks for the utility.

Will ratings that come out of the proposed criteria be subject to the same caps as before?

We are introducing several specific ratings caps into the rating process. These generally relate to very weak management or exceptionally poor financial performance that threatens timely bond repayment. We will base these caps on the presence or absence of particular characteristics or events that pose extreme risks, which likely have already indicated extraordinary credit weakness.

24-Feb-2015

A Ballard Spahr webinar on October 1, 2015
12:00 PM – 1:00 PM ET

More than 15 states have passed legislation encouraging the development of community solar projects, and more states are considering such legislation. Community solar projects expand access to renewable energy by allowing multiple residential, commercial or industrial electric customers to invest in or subscribe to one central solar energy project and offset their electric usage or charges–through virtual net metering–based on their share of the solar energy generated by the project.

While the “traditional” solar model generally requires direct home or business premise ownership, access, or control, community solar removes this obstacle. Community solar projects can be located in a variety of places, whether ground-mounted on open land, or installed on the roof of a commercial or government building or a community center.

An immense amount of development, finance, and M&A activity is underway in the community solar space. Please join us for a webinar where you will hear from key industry players who are directly involved in creating and financing community solar programs and projects and managing the associated regulatory and legal issues.

Speakers for the webinar include:

• John Mi, director, Structured Finance, NRG Energy Inc. John has more than six years of experience in solar and wind project financing and energy market analysis, with $180 million of investments closed to date. He leads the origination and structuring of financing for NRG’s community solar deals.
• Marie Steele, manager, Electric Vehicles & Renewable Energy, NV Energy Inc. (a Berkshire Hathaway Energy Company). Marie is in charge of the utility’s electric vehicle program and the “subscription solar” pilot program recently filed with the Public Utilities Commission of Nevada.
• Rick Umoff, Counsel and Regulatory Affairs Manager of State Affairs, Solar Energy Industries Association. Rick provides legal and regulatory support for SEIA on matters throughout the United States.
• Martin Mobley, CEO, United States Solar Corporation (US Solar). Marty manages the origination, development, and financing of US Solar’s offsite solar assets and is the former head of the Solar Desk within Morgan Stanley’s Commodities division.
• R. Thomas Hoffmann, (moderator) Practice Group Leader, Ballard Spahr’s Energy and Project Finance Group.

As part of this webinar we will also take your questions in advance. Our panel will address your questions on community solar proposals, projects and the associated regulatory and legal issues. Please let us know what questions you would like our panel to answer by typing them into the boxes at the bottom of the registration form. We encourage you to submit up to three questions.

DATE AND TIME

Thursday, October 1, 2015
12:00 PM – 1:00 PM ET

REGISTER

MODERATOR

R. Thomas Hoffmann, Practice Group Leader
Energy and Project Finance Group

SPEAKERS

Marie Steele, Manager of Electric Vehicles & Renewable Energy
NV Energy Inc.

John Mi, Director of Structured Finance
NRG Energy Inc.

Rick Umoff, Counsel and Regulatory Affairs Manager of State Affairs
Solar Energy Industries Association

Martin Mobley, CEO
United States Solar Corporation (US Solar)

This program is open to Ballard Spahr clients and members of the energy industry. There is no cost to attend. This program is not eligible for continuing education credits.

Please register at least two days before the webinar. Login details will be sent to all approved registrants. For more information, contact Lisa M. Cheresnowsky at [email protected].

LOS ANGELES — California Gov. Jerry Brown has signed legislation that brings back redevelopment, in a limited way.

Brown fought for the laws that dissolved California’s more than 400 redevelopment agencies in 2011 and has vehemently opposed efforts to bring them back in any form – until now.

“These important new measures enacted today will help boost economic development in some of our most disadvantaged and deserving communities,” Brown said in a statement Tuesday.

Brown signed a trio of bills.

One bill authorizes creation of new community revitalization investment authorities that can use tax-increment financing, the cornerstone of redevelopment.

Such financing involves the issuance of tax allocation bonds that use the incremental growth of property tax revenue in a designated district to back the debt.

Another bill tweaks 2014 legislation that created of new enhanced infrastructure financing districts, also with the power to issue tax-increment debt. The third bill, which received mixed reviews from local government officials and advocates, is designed to streamline the process of dissolving the previous redevelopment agencies.

“We have the trifecta,” said Larry Kosmont, president and chief executive officer of Kosmont Companies, a Los Angeles-based government and development consulting firm. “It is going to be a wild and exciting time in California for public-private financing.”

Assembly Bill 313 modifies the 2014 enhanced infrastructure financing district law to make it easier to create public-private partnerships while protecting the rights of residents displaced by projects financed through the districts.

Assembly Bill 2 establishes the new revitalization districts, a limited version of redevelopment targeting only the state’s most impoverished areas and boosting the set aside for affordable housing to 25%. Under the definition of blight in the new law, districts can only be created in places where residents make less than 80% of the state’s annual median income, the area has an unemployment rate 3% higher than the state average, a 5% higher crime rate than the state average, and a severely dilapidated infrastructure.

Neither measure allows the areas to benefit from school districts’ share of incremental property tax growth. Cities, counties and special districts, who would be contributing tax increment, have to agree to contribute their share to the joint partnership authority under AB2.

The exclusion of the school share, as well as the opt-in nature of the bill for other agencies with tax increment, made the concept more palatable to the governor, according to Assembly Speaker Toni Atkins office. Brown credited Atkins’ “tireless efforts” for the bills’ passage.

“The dissolution of redevelopment removed a valuable tool for creating affordable housing,” Atkins said. “Taken together, this trio of measures is a huge step toward filling that gap and helping our most disadvantaged citizens.”

The former redevelopment agencies have been going through a complex dissolution process since laws eradicating them took effect in early 2012.

Senate Bill 107 – a bill aimed at streamlining dissolution – went through major modifications in the final hours of the Legislature’s session.

Outstanding loans between cities and counties and their former redevelopment agencies have been a bone of contention between the state Department of Finance and the cities. Prior to the bill, the state tended to reimburse for cash loans, but was less likely to approve repayment when the city paid construction costs under an agreement that the redevelopment agency would bond for a project and reimburse the city later.

SB107 expands the definition of loans to include such agreements, but set a ceiling of $5 million on repayments.SB 107 would provide relief to 35 or 40 redevelopment successor agencies that have been prohibited from spending the proceeds of bonds issued between Jan. 1, 2011 and June 28, 2011. The bill sets a sliding scale for how much of the bond proceeds can be spent, ranging from 45% for bonds issued in January 2011 to 20% for those issued in June 2011.

The law that dissolved the state’s redevelopment agencies prohibited the use of bonds issued between Jan 1, 2011, the date the RDA dissolution law was introduced, and the June 28, 2011, the state it passed, because some lawmakers felt that agencies were racing to issue bonds before the law dissolving RDAs was passed.

The new law also permits 100% of the proceeds of redevelopment bonds issued for affordable housing in 2011 to be spent.

Kosmont called SB107 redevelopment’s last act, further describing it as “How do we bury redevelopment, sooner, rather than later?”

The regulatory processes are designed to insure that redevelopment winds down by 2018, he said.

THE BOND BUYER

BY KEELEY WEBSTER

SEP 23, 2015 4:22pm ET

A new public private partnership (“P3″ or “PPP”) is coming to PortMiami. Royal Caribbean Cruises, LTD (“RCCL”) seeks to design, build, finance, operate, and maintain a new cruise terminal in the northeast section of the Port. RCCL’s plans have been preliminarily memorialized in a non-binding Memorandum of Understanding that was approved at this Wednesday’s Miami-Dade County Commission meeting. Subsequent Commission approvals will be needed for the binding deal documents and agreements.

Typical of a P3, RCCL will do more than simply enter into a ground lease for space in a terminal. It will share the risk of designing, constructing, operating, and most importantly to the Port, financing the terminal. The maintenance responsibilities will be split between maintenance of the leasehold improvements by RCCL and maintenance of the common areas outside the leased premises by the County, satisfying the remaining “M” element in the DBFOM (design, build, finance, operate, maintain) acronym that is used to characterize a P3.

The P3 with RCCL comes after the successful completion of the Port Tunnel P3 that has garnered a visit and praise from President Obama who extolled it as an example of the kind of P3 that should be used around the country to modernize aging transportation infrastructure. The $1 billion P3 was built because it was expected to divert vehicles from and reduce congestion in Downtown Miami and reduce travel time to and from the Port. In less than a year, the Port Tunnel met and even exceeded many expectations.

The Port Tunnel P3 was structured as an availability payment-based concession agreement. With this financing structure, the private-sector partner constructs, operates, and maintains the facility with its own funds, and the public agency (in the case of the Port Tunnel, Florida Department of Transportation) makes payments to its partner based on the project’s availability for use by the public. The public agency bears risks pertaining to the demand for the facility because the amount it pays to the private sector party does not change even if the project is not used to the extent anticipated, though the availability fee may be offset with user fees received from public use of the project or facility. The risk for the private party includes the fact that this fee structure relies on the public budget, which may be subject to budgetary conditions and constraints and political pressure. There are also risks pertaining to delays, repairs, and increased costs that could lead to the private-sector partner missing key deadlines or taking the project out of service, which would lead to penalties for unavailability.

PortMiami is likely to also have new commercial development on its southwest corner given the interest that has been expressed by several groups, including one whose request for waiver of a competitive process was rejected. As Miami-Dade County continues to make strides in financing projects and providing solutions to infrastructure problems with P3s, it can look to the success at the Port as assurance that P3s can do well in Miami-Dade County.

© 2015 Bilzin Sumberg Baena Price & Axelrod LLP

posted on: Monday, September 21, 2015

The National Law Review

Stifel Financial Corp. is approaching yet another milestone in its transformation from a regional player into a national wealth management and investment banking firm.

With the acquisition of Sterne Agee Group Inc. just completed, the St. Louis-based firm is focused on finishing its deal to acquire Barclays Wealth and Investment Management Americas by year-end, as it pursues a strategy that has helped build its global wealth management platform to $1.3 billion, according to a September financial report.

“The Stifel story has changed dramatically in the last five to six years,” said Ken Williams, executive vice president of the broker dealer division, Stifel, Nicolaus & Co., and director of its municipal finance group.

“The Stifel today is different than it was seven or eight years ago … we have a lot more capital and capabilities,” Williams said, as the firm completes a 15th year of aggressive growth, fueled by mergers and acquisitions.

The acquisition of the Barclays unit will further expand Stifel’s public finance role and build its presence as a national underwriter seeking senior-managed roles on larger deals.

Williams said Stifel has already broadened its reach into different segments of public finance by increasing its total public finance staff to 170, with most of the growth attributable to key mergers and acquisitions over the last two years.

The most recent growth spurt included the expansion of its wealth management and fixed income capabilities through the June acquisition of Sterne Agee, a Birmingham, Ala.-based financial services firm.

Stifel, Nicolaus this year has advanced to seventh place among all senior book runners, from 10th in 2014, with 485 issues totaling $10.65 billion in the first half of 2015, as of July 6 data provided by Thomson Reuters.

It had secured a top-10 ranking in three categories in 2014. In addition to its 10th place ranking among all senior managers, it was in the top group for negotiated deals and small deals.

The acquisition of Sterne Agee was a seamless transition that added nine municipal professionals — five public finance bankers and four traders – to Stifel, Nicolaus, Williams said.

It also helped boost its public finance banking presence in the South, with the addition of two public finance bankers in Texas, and expanded its coverage of the housing sector.

The Sterne Agee merger is the latest move toward the 124-year-old firm’s “strategic vision,” which is “to build the premier wealth management and investment banking firm,” according to its September financial report.

Sterne Agee’s fixed income platform was complementary to Stifel’s existing products and services, and the acquisition would allow the firm to “catapult” to a new level, Ronald J. Kruszewski, chairman and chief executive officer of Stifel, said in a Feb. 2015 press release announcing the merger.

The deal will accelerate the growth in the firm’s fixed income platform and be a strong contributor to the expansion of the institutional group, Kruszewski said in a June 5 release, when the merger was completed.

“This acquisition furthers our goal of creating a balanced, well-diversified business mix with wealth management and institutional exposure,” he said.

Eric Needleman, chairman of Sterne Agee Group Inc., said the merger gives Sterne Agee’s shareholders, clients, and employees an opportunity to “prosper in the ever-challenging financial services arena” after a century of its own growth and success.

“Our goal of being a preeminent financial services company has not changed, but we are accelerating this plan by joining together with a like-minded company with a similar legacy,” Needleman said in the February release.

Stifel has similar expectations for the merger with Barclays, which is expected to come mid-fourth quarter, according to a Stifel spokesperson.

The deal will marry Stifel’s broad investment advisors platform, and asset management and investment capabilities with Barclays’ capital markets division and investment advisory and managed money divisions, among others.

Stifel attributes much of its recent growth and expansion since 2000 to its “transformational acquisitions” strategy.

Stifel’s build-up dates back to at least 2000, when it merged with Hanifen Imhoff. In 2005, it acquired Legg Mason Capital Markets. In 2006, it bought Miller Johnson Steichen Kinnard’s private client group.

In 2007, Stifel acquired Ryan Beck and separately purchased First Service Bank. In 2008, it formed Choice Financial Partners and separately acquired 17 offices from Butler Wick. In 2009, Stifel purchased 56 branches from UBS. In 2010, it acquired Thomas Weisel Partners Group. In 2011, it took Stone & Youngberg, where Williams was the former head of the municipal bond department. In 2012, it purchased Miller Buckfire. In 2013, it merged with Keefe, Bruyette & Woods.

Last year, Stifel acquired the Los Angeles-based public finance investment banking boutique De La Rosa & Co., and also picked up a bond-trading business in 2013 from Knight Capital Group Inc.

“Before Stone & Youngberg, the public finance footprint was primarily in the Midwest and a small footprint in Denver,” Williams said. Prior to Oct. 2011 the firm was mostly active in Missouri, Michigan, Ohio, and had bankers in Illinois and Colorado, he said.

The recent acquisitions have expanded that reach, specifically the municipal operations, he said. “The goal of the municipal division is really reflective of the CEO” and his vision of building a national, rather than a regional, presence.

“The CEO is a big believer of the municipal marketplace,” Williams said. “The growth of the municipal group is part of the overall plan to build a bigger firm and build out a part of the institutional side, which wasn’t what he wanted it to be.”

One of the largest long-term deals that Stifel has managed to date was a six-pronged sale totaling $537.48 million from the Industry, Calif., Public Facilities Authority in June.

Stifel was also senior manager in June of Los Angeles, Calif.’s $1.4 billion tax and revenue anticipation note sale in the short-term market.

“We do business in almost every region in the country,” and maintain public finance offices in 21 different locations, Williams said.

Currently its structure includes, but it not limited to, its global wealth management platform, which includes a private client division that grew by 35% as a result of the merger with Sterne Agee to 2,800 financial advisors in 349 branches with over $200 billion in client assets, according to the firm.

Its asset management platform has over $22 billion in total assets, including fixed income and municipals, according to the report.

The firm offers equity and fixed income sales and trading, and maintains investment banking and research platforms as part of its overall business structure.

“We had a very busy first half and we were busy in July,” Williams said, though the banking activity slowed down because of seasonal cycles like income tax season and summer vacations. “We are expecting the rest of the year to remain busy,” and expect municipal supply to be unencumbered by any potential movement by the Federal Reserve Board before year end, Williams said.

“I don’t know that a modest rate increase by the Fed will have any effects on refunding, and I don’t see a rate hike affecting the volume for new money.”

Williams said the firm hopes to continue the growth and expansion of its municipal operations. The firm aims to maintain its high distribution of municipal bonds and its status as a lead underwriter of K-12 financings and tax increment financings across the country, he said. It also strives to win larger issuer transactions as senior book-running manager and boost its retail presence from its institutionally-driven underwriting and trading focus.

“Our challenge and what we are trying to do,” he said, “is build a more dynamic and successful municipal practice.”

THE BOND BUYER

by Christine Albano

SEP 23, 2015 2:04pm ET

In this week’s Extra Credit segment, Director Bianca Gaytan-Burrell discusses what prompted our recent rating action on New Mexico State University.

Listen to the podcast.

Sep. 25, 2015

An increasing number of U.S. state and local governments are likely to use public-private partnerships, to build both transportation infrastructure projects and courthouse, education, water, waste water and other social infrastructure projects, a major credit rating agency predicted, while noting that this list is not likely to include hospitals.

Unlike the United Kingdom and Canada, whose governments are heavily involved in providing national health care, “[t]he U.S. has a diverse mix of public, private and not-for-profit hospitals that each derive revenue from numerous sources, including a mix of private and public insurance. As such, hospitals will likely remain a small component of the U.S. P3 market,” Moody’s Investment Services said in a FAQ on P3s it issued Sept. 21.

Some states are using P3s to develop other types of social infrastructure projects, ranging from Kentucky’s state-wide broadband installation project and university and college student housing projects across the country to a senior housing development in Joplin, Mo.

P3s are being conducted to an increasing extent throughout the world but how they are financed and structured and the political and economic conditions that shape them vary widely from one country to the next, Moody’s pointed out.

The United States has long relied on P3s to help finance transportation projects. However, Canada also differs from its North American cousin in that it provides substantial funding for the many types of P3s during the construction phase.

In France and the UK, Europe’s largest P3 markets, the number of partnerships increased significantly in 2014; many were not new projects, however, but consisted of legacy or refinancing deals. This lack of growth in new P3 reflects each of these countries’ budget constraints, the public’s value-for-money concerns and “Eurostat’s developing interpretation of accounting rules that will make it more difficult to treat the associated debt as ‘off balance sheet,’” Moody’s wrote.

In Latin America, Columbia and Peru are on the forefront of countries that are pursuing these partnerships. Brazil and Mexico, on the other hand, have various projects in the pipeline but many are slow to reach financial close or are delayed or canceled. This trend may reflect lack of expertise in negotiating these agreements or changes in political policies or government priorities, Moody’s suggested. These countries are likely to continue to pursue these partnerships to address a lack of public infrastructure funding, however.

Australia is expected to increase the number of P3s it conducts to meet infrastructure gaps and the needs of its growing population, even though availability-based P3s remain on governments’ balance sheets and incur more debt than publicly funded projects, the credit rating agency reported.

China, a relative newcomer to this procurement approach, hopes to replace regional and local governments’ infrastructure financing vehicles with P3s and by issuing bonds. Partnerships would be used to build many different types of projects, “including transportation, municipal utilities and social infrastructure,” Moody’s wrote.

The central government hopes this procurement model will improve project and local government management practices, spur local public finance reform and reduce local government debt. China’s finance ministry has announced 30 P3s and the government has set up a database containing 1,043 projects that would require investment of almost 2 trillion renminbi ($300 billion).

Moody’s believes that the United States could become the largest P3 market in the world, Governing magazine reported.

NCPPP

By Editor

September 24, 2015

New and updated guidance has been published to help federal agencies expedite the permitting and environmental review of federally funded infrastructure projects.

The new guidance consists of an enhanced permitting dashboard system, along with the establishment of metrics for agencies to follow in conducting permitting and environmental review, and the first update in nearly three decades of the environmental review handbook, the “Red Book.”

The Federal Infrastructure Permitting Dashboard was launched in 2011 to track 52 high-priority projects’ permitting and environmental review progress with the goal of improving multi-agency coordination. Agencies will now be required to use this tool to set specific reportable permitting and review schedules and milestones for projects that meet specific criteria.

In October, the 11 federal agencies involved in permitting, reviewing, funding and developing infrastructure projects will start identifying new ones that are expected to undergo lengthy and complex permitting and review processes, for which milestones and coordinated schedules will be posted within 90 days. These types of projects include major transit and airport projects, capital improvements and major utility, energy or water projects.

The newly revised Synchronizing Environmental Review for Transportation and Other Infrastructure Projects handbook (Red Book) contains practical, authentic techniques, models and assistance agencies can use to coordinate and synchronize environmental reviews, permits and decisions that affect the siting and building infrastructure projects, the U.S. Department of Transportation (USDOT) said in a press release. These sets of guidance are designed to help agencies turn best practices “into common practices” that have already been followed to accelerate the environmental review and permitting of more than 50 infrastructure projects Examples of such practices include “running different reviews concurrently rather than sequentially and using the Administration’s online dashboard to promote accountability for a shared schedule.”

Following such “common sense” practices has led to the expedited permitting of more than half of those projects, including New York’s Tappan Zee bridge replacement, which took just a year and a half, USDOT said.

NCPPP

By Editor

September 24, 2015

Fitch Ratings-New York/Chicago-23 September 2015: The reduction in the number of uninsured patients served by nonprofit hospitals is positive for the sector overall, Fitch Ratings says. The increased numbers of patients with coverage have helped hospitals sustain operating margins even as inpatient volumes have remained largely flat and top-line revenue growth continues to be pressured. Fitch expects the positive impact on performance to continue over the near term, especially as the healthcare exchanges mature and additional states consider expanding Medicaid.

The U.S. Census Bureau reported that the number of Americans without health insurance fell to 33 million in 2014 from 41.8 million in 2013. Moreover, the number of uninsured declined in every state, even those that did not expand Medicaid. In our view, this is positive for the sector as hospitals are now receiving reimbursement for patients that previously would have been written off as charity care or bad debt. Fitch believes the sharp drop in the number of uninsured Americans also reflects a greater awareness of the eligibility under state Medicaid programs, as Medicaid enrollments have risen in a number of states that did not expand Medicaid.

Fitch’s rating actions over the last 18 months support this, as affirmations, upgrades and downgrades have shown little difference between those states that have expanded Medicaid and those that have not. The effect on individual hospital performance varies depending on a number of factors, even among states that have expanded Medicaid. In New York, for example, which already had a robust Medicaid program in place, the subsidized healthcare exchanges have proven more beneficial to hospitals, as the underinsured have fuller coverage, helping increase utilization in a state where medical costs to patients can be high.

The benefit of wider insurance coverage has helped mitigate the impact of tighter reimbursement increases from managed care and Medicare payors. Over the medium, Fitch expects Medicare’s value-based reimbursement programs and managed care “risk-based contracts,” combined with increasing consumerism among patients, could pressure sector profitability. Furthermore, the expected reduction and redistribution of federal disproportionate share funds could mute what has been solid performance for the healthcare sector.

Read the report.

Chicago is facing its biggest tax increase in memory, to raise money for pension payments. Illinois is stymied by a $110 billion pension shortfall. In New Jersey, public workers are in court over a failed pension deal. From Pennsylvania to California, pensions costs are crowding out aid for public education.

But even as pensions keep squeezing budgets and setting off court battles around the country, Rhode Island, America’s smallest state, appears to have found its way out of the quagmire. Its governor, Gina M. Raimondo, has finished a four-year pension overhaul without raising taxes or issuing risky pension-obligation bonds. Union leaders who fought her at first ultimately negotiated the terms, deciding that a court fight over her plan might do more harm than good.

“Raimondo had the highest hill to climb,” said Daniel DiSalvo, a senior fellow at the Manhattan Institute who has been comparing different states’ efforts to rein in pension costs. Her initiative was among the most ambitious, he said, and she started “from what was, in many respects, the weakest institutional position.”

Her experience, Mr. DiSalvo and others say, could be a case study for other states and municipalities struggling with pensions and other long-term obligations that cost much more than expected. And the timing could hardly be more critical, given predictions that the fiscal health of state and local governments is likely to remain under stress for years as the population ages.

“We may be entering a new fiscal ice age,” a long period when demographic forces will make financing cities and states even harder than it is now, Mr. DiSalvo said.

That is not to say everyone is happy with the result. To the contrary, bitterness remains in Rhode Island, where public retirees’ annual increases have been suspended, and public workers have had to trade in part of their defined-benefit pension plan for a 401(k)-style benefit, where they must bear investment risk.

“No other entity would get away with what the State of Rhode Island is doing to their retirees,” said Louise Bright, a retired state financial manager, who had wanted a trial to resolve key legal issues. “A contract is a contract, even when that contract involves senior citizens.”

Ms. Raimondo, who started her battle as state treasurer, faced obstacles not unlike those confronting Mayor Rahm Emanuel of Chicago: entrenched political machinery, powerful unions, a decades-old practice of promising rich pensions without setting aside enough money to pay them, truculent taxpayers, record numbers of retirees and an all-enveloping fog of discredited numbers. Both are Democrats in blue states. Both had to deal with “mature” pension systems that were paying out more in benefits than they were receiving in contributions, a situation that can quickly become unmanageable.

But Ms. Raimondo was able to revamp her state’s pension system, keeping some of the traditional structure while lowering the cost, and surviving lawsuits by workers and retirees who called her moves unconstitutional.

Mr. Emanuel’s attempts to rein in pension costs, in contrast, have been thrown out by a judge, leading to his appeal this week for a big tax increase.

“Our greatest financial challenge today is the exploding cost of our unpaid pensions,” he told the Chicago City Council on Tuesday. “It is a big dark cloud that hangs over the rest of our city’s finances.” Without raising taxes, he warned, Chicago will have to finance its pension promises by laying off thousands of police officers and firefighters, ending rat-control programs and letting street repairs lapse, among other cost-cutting measures.

“Our city would become unlivable,” he said.

That is the bullet Ms. Raimondo has dodged. A former venture capitalist and Rhodes Scholar with an economics degree from Harvard, she could see early on that her state’s cheery pension disclosures were papering over a crisis.

Ms. Raimondo was also willing to rest her case for a pension makeover on a contrarian interpretation of the law and hold firm when the unions sued.

“We thought we had a good case,” she said, “but most important, I knew I couldn’t be afraid of a potential lawsuit.”

Ms. Raimondo also had a quirk of the law on her side. In most states, lawmakers or the courts have taken steps to make public pension systems creatures of contract law, as opposed to mere creatures of statute. This may sound obscure, but the difference is critical. Statutes are relatively easy to change — lawmakers just amend the law. But states that want to tear up pension contracts face an uphill fight, because of a clause in the United States Constitution that bars them from enacting any law that retroactively impairs contract rights.

The clause dates to post-Revolutionary America, when the framers wanted to stop the states from giving themselves debt relief. Since then, similar clauses have been added to state constitutions as well. And over the last century, many states have extended the contract clause to cover their pension systems.

But in Rhode Island, Ms. Raimondo said, lawmakers never got around to making the state pension system contractual. “In every state it’s different, but in Rhode Island, the whole pension system is set out in statute.”

Unions disputed that, but Ms. Raimondo forged ahead based on her conviction. That gave her a big tactical advantage: All she had to do was persuade the state legislature to amend the pension law, something it had already done many times.

Compare that with Mr. Emanuel’s predicament.

Unlike Rhode Island, Illinois did make public pensions contractual. Its constitution bars cities like Chicago from imposing pension cuts on their workers.

So while Ms. Raimondo was able to move toward her statutory goal in Rhode Island, Mr. Emanuel has been left haggling with 33 unions in Chicago, trying to find common ground for a makeover that would shrink pensions but fund them properly.

Eventually, he did get buy-in from all but three unions and from state lawmakers in Springfield. The city even programmed pension changes into its computers. But then the deal fell apart, when a small number of holdouts won an injunction. Chicago was ordered to wait for the State Supreme Court to decide the constitutionality of a separate pension overhaul by the state. The court found it unconstitutional and not long after that, a Cook County judge said the ruling was binding on Chicago, too.

And that is why Mr. Emanuel is calling for a big tax increase.

For Ms. Raimondo, persuading the state legislature to do radical pension surgery was a matter of explaining the depths of the problems. She began a series of town hall meetings, where she said that the state had promised its workers far more than it could deliver. The mismatch was so big that if the pension system collapsed, it could take the state down with it, she warned.

And then, in the middle of her road show, the small city of Central Falls went bankrupt. It had never joined the state pension system, preferring to run its own plan, and now its pension fund for police officers and firefighters had run completely out of money. The pensions of retirees, some elderly and infirm, were cut sharply.

“You’d see them interviewed on the nightly news,” Ms. Raimondo recalled. “These were guys who did everything right. They followed all the rules, and then their city went bankrupt and their pensions were cut in half.”

That was a persuasive moment for lawmakers. In November 2011, Gov. Lincoln Chafee called the legislature into special session. Amendments to the pension law passed overwhelmingly, allowing cuts to be made.

Unions and retiree groups sued, and the judge hearing the dispute, Sarah Taft-Carter, said early on that unlike Ms. Raimondo, she saw an “implicit contract” protecting public pensions in Rhode Island. But that was not the end of it. Contract jurisprudence still gives a state some wiggle room to unilaterally impair contracts, under narrow circumstances and with close judicial supervision.

Judge Taft-Carter ordered the state and the unions to try to resolve their disputes in mediation, warning that if they failed, there would be a jury trial.

Confidential talks began, but in the meantime, the state was permitted to carry out the changes.

A settlement finally emerged this year, which, among other things, gave one-time payments to current retirees, to soften the blow of losing their cost-of-living adjustments. Judge Taft-Carter held a “fairness hearing,” giving those affected a chance to sound off. Many expressed anger. But one union leader, Robert Walsh of the National Education Association of Rhode Island, said that after much soul-searching he had decided to support the settlement as the best deal for his 7,500 members.

A settlement, he said, “can be fair and heartbreaking at the same time.”

THE NEW YORK TIMES

By MARY WILLIAMS WALSH

SEPT. 25, 2015

Property owner brought action against city, seeking equitable accounting and declaratory judgment for city’s alleged failure to comply with various provisions of Tax Increment Allocation Redevelopment Act. The Circuit Court granted summary judgment to city and denied owner’s motion for leave to amend its complaint. Owner appealed.

The Appellate Court held that:

• City could take activities in furtherance of tax increment redevelopment plan after plan’s estimated date of completion;
• Property owner was not entitled to reconsideration on ground of newly discovered evidence;
• Owner was not entitled to equitable accounting; and
• Owner was not entitled to leave to amend its complaint.

Lienholder filed suit to challenge city’s tax foreclosure sale on property in which he claimed an interest. Lienholder moved for summary judgment and city cross-moved. The Superior Court denied lienholder’s motion and granted city’s motion. Lienholder appealed.

The Supreme Court of Alaska held that:

• Statute governing municipalities’ enforcement of tax liens did not violate lienholder’s due process interests by limiting its foreclosure notice requirement to property owners;
• Because lienholder had actual knowledge of tax foreclosure during redemption period, and did not seek to redeem the property, he was precluded from raising a due process challenge to the redemption notice statute; and
• Prevailing party fees should not have been awarded for time city spent litigating lienholder’s standing to sue as a class representative.

Even if judicial lienholder’s interest was reasonably ascertainable, statute governing municipalities’ enforcement of tax liens did not violate his due process interests by limiting its foreclosure notice requirement to property owners, where another statute that allowed mortgagees and lienholders to request foreclosure notice, provided a reasonable mechanism by which interest-holders such as the lienholder could protect their property rights.

Alaska’s municipal foreclosure notice scheme, requiring lienholders to affirmatively request notice of pending tax sale, is reasonably calculated, under all circumstances, to apprise lienholders of the pendency of the action and afford them an opportunity to present their objections, as required by due process guarantees. Statutory structure reasonably balances lienholder’s interest in preserving the ability to enforce a property interest against a governmental entity’s interest in efficiently collecting taxes.

After county assessment appeals board denied taxpayer’s application for a refund of property taxes paid to county relating to ground lease and hangar at municipal airport, taxpayer filed complaint against county for declaratory relief and a refund of taxes paid for hangar and ground lease.

The Superior Court granted taxpayer summary judgment with respect to hangar, and following bench trial, found that ground lease constituted taxable possessory interest, but only entered judgment in favor of taxpayer for refund of taxes paid attributable to hangar. After taxpayer’s motion to vacate was denied, county and taxpayer appealed. The Court of Appeal dismissed appeals and remanded with instructions, concluding that appeals were not taken from final appealable judgment. On remand, the trial court ruled in favor of taxpayer with respect to ground lease and entered orders enjoining collection of possessory interest taxes and ordering county to refund all possessory interest taxes paid on hangar and ground lease. County appealed.

The Court of Appeal held that:

• Taxpayer’s right of possession under ground lease was sufficiently independent to establish taxable possessory interest in lease, and
• Fact issue as to whether hangar was taxable improvement on tax-exempt land precluded summary judgment with respect to hangar.

Taxpayer’s right of possession under ground lease at municipal airport was sufficiently independent to establish a taxable possessory interest in lease. Ground lease conferred private benefit on taxpayer to use leased premises for storage of taxpayer’s aircraft and aircraft-related equipment, use restrictions did not limit measure of control granted to taxpayer with respect to his authorized private use, but rather restrictions were fully consistent with airport’s responsibility to safeguard use of public property and in no way required taxpayer to act as governmental agent when he enjoyed private benefit of storing his aircraft on leased premises.

Genuine issue of material fact existed as to whether taxpayer’s airplane hangar located on leased premises at municipal airport was a privately-owned improvement on exempt public land taxable as a possessory interest, precluding summary judgment in favor of taxpayer in action against county for refund of property taxes paid for hangar.

Seventy-five years ago, when the federal government set out to regulate mutual funds, investment firms in Puerto Rico were deemed too far off the beaten track to merit scrutiny. So mutual funds on the island, and other United States territories, were excluded from regulation under the Investment Company Act of 1940.

Now, Puerto Rico’s economy is teetering, investors in its bonds have suffered big losses and at least one member of Congress says the 75-year-old exclusion has outlasted its shelf life. On Friday, Nydia M. Velázquez, Democrat of New York, introduced an amendment to the 1940 act that would give mutual fund investors in Puerto Rico the same regulatory protection that their counterparts have on the United States mainland.

The bill, if it becomes law, will not replace the money the investors have lost, but it will bar some of the activities that led to their losses — activities that are already illegal on the mainland.

Mutual funds cater to individual investors who want professionally managed investments. The 1940 act protects them by barring those professional investors from engaging in certain kinds of transactions that suggest self-dealing, among other things. But because of the exclusion, such transactions are still legal in Puerto Rico.

A transaction from 2008 shows the repercussions. UBS, a major provider of financial services on the island, advised Puerto Rico’s pension fund for government employees and was hired to take an unusual $2.9 billion bond deal to market. The pension fund had a big shortfall, and officials hoped to borrow the money and invest on behalf of the retirees. The deal was expected to be successful as long as the investment rate of return was higher than Puerto Rico’s borrowing rate. That did not happen and now the pension fund shortfall is even bigger.

UBS had difficulty selling the bonds in the tough market conditions of 2008. It ended up packaging about half of the issue in its own family of closed-end mutual funds, which were marketed to wealthy Puerto Ricans as a good, tax-sheltered source of retirement income.

The interest on pension obligation bonds is not exempt from federal income taxes, because the Internal Revenue Service considers these securities speculative. But residents of Puerto Rico do not pay federal income taxes, and the Puerto Rican government exempted the bonds from its own estate and gift taxes.

On the mainland, a bank underwriting a municipal bond issue would run afoul of the 1940 act if it packaged the bonds in mutual funds and sold them. But affiliated transactions are allowed in Puerto Rico.

“This practice constitutes a flagrant conflict of interest, and it must stop,” Ms. Velázquez said. Her bill is co-sponsored by Representative Maxine Waters, Democrat of California, who is the ranking member of the House Financial Services Committee. Chances of passage are unclear because of widely divergent views on what should be done to address Puerto Rico’s debt crisis. The Senate Committee on Finance has scheduled a hearing for Tuesday on some of the issues.

Puerto Ricans who invested in the affected mutual funds have filed more than 800 arbitration claims against UBS with the Financial Industry Regulatory Authority, known as Finra, a self-regulatory body. They are seeking more than $1.1 billion, basing their claims on regulations that are not part of the 1940 act’s exclusion for territories.

The Securities and Exchange Commission has also penalized UBS under other laws and collected a $26.6 million settlement for distribution to the harmed investors.

But Ms. Velázquez said that without an amendment, such things could happen again.

“This archaic exemption is long overdue for repeal,” she said.

THE NEW YORK TIMES

By MARY WILLIAMS WALSH

SEPT. 25, 2015

The longer the Fed keeps rates low, the worse some city and state pension problems may be. The signals from Detroit and Atlantic City.

There are many reasons to like municipal bonds. They’ve held up well amid recent market volatility, and at longer maturities they yield more than similarly rated Treasuries—much more on an after-tax basis. Tax-equivalent yields for A-rated 10-year munis are around 4%, compared with just 2.2% for the benchmark Treasury.

Yellen & Co. keep promising to raise rates, but investors who hold munis to maturity don’t have to worry about falling prices due to interest-rate risk. They do, however, have to worry about credit risk.

Underfunded state and city pension plans are turning into a bigger headache for muni investors. Pension accounting standards are getting tougher, and rating agencies seem more aggressive about downgrades. Lower investment returns this year for pensions will make funding woes look worse. States are trying to bring funding in line with obligations, but changing benefits to current and former employees have been met with stiff legal challenges.

“Investors should be concerned,” says Vikram Rai, Citigroup’s municipal strategist. “It’s a chronic problem for many cities and states, and it’s going to take a long time to fix. But rating agencies seem to want a quick fix, which is just not possible.”

IF THE FED LEAVES RATES lower for longer, pension-fund growth projections will be harder to meet. Veteran bond investor Bill Gross of Janus Capital urged the Fed to raise rates in his October outlook, writing, “Do central bankers not observe that Detroit, Puerto Rico, and soon Chicago, Illinois cannot meet their promised liabilities?”

Ironically, the pension-funding picture is actually improving for most states, a new report from Loop Capital finds. But the troubled states have grown worse. Loop found the aggregate nationwide funded level dipped slightly from 73.1% to 72.6% in the past year. States including Illinois, Alaska, Kentucky, and Connecticut are funded near 50%. New Jersey is at 39%, finds Loop. “There’s been a divergence,” says Chris Mier, managing director at Loop Capital. “The gap between the best and worst states is widening.”

In the past week, New Jersey’s foundering gambling capital, Atlantic City, deferred pension payments to balance its budget. Chicago is proposing tax hikes to get out of a pension-funding nightmare that started last spring when the Illinois Supreme Court disallowed earlier pension reforms and Moody’s downgraded its debt to junk.

Chicago shows the danger of a downgrade is real. Not only do bonds fall in value, but a downgrade can trigger escalating financial woes. Short-term debt may come immediately due, and institutional holders may be obligated to sell.

In the worst case, downgrades can lead to bankruptcy, still quite rare for municipalities. But in Detroit, bondholders were required by the court to share the pain, taking haircuts on their debt in restructuring—even in general-obligation bonds, which were once considered inviolable. “Detroit set a dangerous precedent,” says Hugh McGuirk, who heads T. Rowe Price’s muni-bond team. One lesson: “You don’t want to be in lower-quality GOs if this comes to a head,” he says. He prefers revenue bonds that fund airports and hospitals. Generally, their employees have fully funded 401(k) plans instead of pensions.

Choosing a professionally managed mutual fund is one way to handle pension-related risks. At Columbia Threadneedle, analyst Matthew Stephan monitors accounting changes being implemented by the Governmental Accounting Standards Board this year. New guidelines will probably make states underfunding their pensions look worse, but it varies a lot, he says.

For those individuals who want to do their own digging into state finances, the Electronic Municipal Market Access Website (www.emma.msrb.org) is a good place to start.

BARRON’S

By AMEY STONE

Updated Sept. 26, 2015 2:15 a.m. ET

Next week’s sale of $6.9 billion of bonds and notes in the U.S. municipal market will feature hefty debt offerings from two states, according to Thomson Reuters estimates on Friday.

Washington state tops the week’s calendar at $944 million.

This includes $497.8 million of general obligation bonds it is offering via competitive bid in part on Wednesday and through Bank of America Merrill Lynch in part on Monday. Those bonds carry serial maturities from 2016 through 2040, according to the preliminary official statement.

The state will also competitively sell nearly $192 million of motor fuel tax GO bonds due from 2016 through 2040, $60.7 million of taxable GO bonds maturing from 2016 through 2021, and $193.7 million of GO refunding bonds maturing from 2016 through 2024.

The bonds are rated AA-plus by Standard & Poor’s and Fitch Ratings, and Aa1 by Moody’s Investors Service.

Connecticut will sell $840 million of new and refunding special tax obligation bonds for transportation infrastructure through lead underwriter RBC Capital Markets. The deal is structured with $700 million of new bonds with serial maturities from 2016 through 2035 and $140 million of refunding bonds maturing from 2018 through 2027, according to the preliminary official statement.

Moody’s rated the bonds Aa3, and Fitch rated them AA.

Meanwhile, flows into U.S. municipal bond funds turned positive in the latest week after four straight weeks of outflows, according to Lipper.

Net inflows totaled $231 million in the week ended on Sept. 23, the most since the week ended on April 29.

REUTERS

Sep 25, 2015

(Reporting by Karen Pierog; Editing by Lisa Von Ahn)

Greater transparency and the adoption of trading procedures similar to those of the nation’s equity markets could save U.S. corporate and municipal bond customers billions a year in transaction fees, according to a new study of bond market practices and transaction costs.

Lawrence Harris, who is Fred V. Keenan Chair of Finance and Business Economics at the USC Marshall School of Business, tabulated millions of bond transactions completed between Dec. 15, 2014 and March 31, 2015 for a study titled Transaction Costs, Trade Throughs, and Riskless Principal Trading in Corporate Bond Markets. What he discovered was that the benefits of electronic bond trading largely accrue to bond dealers who often take little or no risk in exchange for the mark-ups and commissions they charge their customers. Public investors, meanwhile, generally do not have the information they need to trade at the best-available prices. And unlike commissions, they do not even know the mark-ups they pay to dealers to trade.

According to the data, customers incur an average transaction cost of 85 basis points for retail-size trades (under $100,000 in par value) and 52 basis points for larger trades. “These costs are many times larger than costs for similar-sized trades in equity markets,” writes Harris. “Electronic trading has substantially lowered investor transaction costs in equities, but it has provided little benefit to most bond investors.”

U.S. bond investors, Harris says, “would benefit if the 850 most actively traded bonds for which dealers provide near continuous electronic quotes were traded in market structures more similar to those in the equity markets. If the public could see national best bids and offers before trading, as they can for equities, dealers would have a strong incentive to offer better pricing. A rule that simply requires brokers to disclose their mark-up rates before a trade also would improve the markets.”

The study shows that public investors in U.S. bonds presently pay $26B per year to trade. Greater pre-trade price transparency could save them 20% or more, or about $5B per year according to Harris.

The results of the study and Harris’ recommendations are a wake-up call for regulators and may influence how bond markets are structured in the future, says James G. Ellis, dean, USC Marshall School of Business.

“This study’s findings and recommendations will inform the growing debate on the future of bond markets in the United States,” Ellis said. “Clearly, greater transparency must also be the standard in our bond markets, just as it is now in our equity markets.”

The full study is available for download here.

About the USC Marshall School of Business

Consistently ranked among the nation’s premier schools, USC Marshall is internationally recognized for its emphasis on entrepreneurship and innovation, social responsibility and path-breaking research. Located in the heart of Los Angeles, one of the world’s leading business centers and the U.S. gateway to the Pacific Rim, Marshall offers its 5,700-plus undergraduate and graduate students a unique world view and impressive global experiential opportunities. With an alumni community spanning 123 countries, USC Marshall students join a worldwide community of thought leaders who are redefining the way business works.

September 25, 2015 3:13pm

WASHINGTON — Former Internal Revenue Service official Mark Scott is urging the IRS to revoke a private-letter ruling that was favorable for a total return swap, or TRS, arguing that they are “arbitrage schemes” that have “resulted in hundreds of millions of dollars of illegal tax benefits being stolen.”

Scott, who spent 18 years at the IRS, was director of the tax-exempt bond office, or TEB, for several years before he left for private practice. He was also an ex-special assistant U.S. attorney for the Justice Department, who made the request in a blisteringly critical letter sent to William J. Wilkins, chief counsel in the IRS Office of Chief Counsel on Sept. 8. In an interview, Scott would not comment on whether he has launched a whistleblower case on TRS’, but said this is irrelevant to his concerns about these transactions.

The website for his law practice says that he has been “specializing in representing whistleblowers on issues relating to tax-exempt bonds and taxes owed by state and local government,” as well as arbitrage rebate payments.

Scott’s letter to Wilkins refers to the favorable but limited PLR 201502008 that was dated May 21, 2014, but not publicly released by the IRS until Jan. 9 of this year. The ruling did not identify the parties involved but concluded that an extension of a TRS entered into between a borrower and a bank at the same time the underlying tax-exempt bonds were sold “will not be an abusive arbitrage device.”

These transactions, possibly hundreds of which have been done, involve long-term bonds and a short-term TRS. In such deals, a hospital or other borrower through an issuer privately places long-term bonds with a bank, which then enters into a much shorter term TRS with the borrower. The bank becomes the holder of the bonds as well as the swap counterparty.

The borrower typically swaps fixed for variable rates to lower its cost of borrowing. It also takes risk and provides price protection for the bank/bondholder/swap counterparty. When the TRS terminates, or is terminated, the bonds are valued.

If the bonds’ value is below par, the hospital pays the bank. If the value is above par, the bank pays the hospital. However, many TRS’ are rolled over or replaced with new negotiated terms for the life of the bonds. The borrower could be forced to pay if interest rates rise.

The bank/bondholder/swap counter party can make money from the higher tax-exempt bond rate and also from a deduction of its loss from the swap payments. In the case underlying the PLR, the bond proceeds had all been used to current refund some previous bonds, as well as to pay issuance costs. As a result there were no bond proceeds remaining and there was no debt-service reserve fund, from which arbitrage might have generated. If there had been bond proceeds or a reserve fund outstanding, the IRS could have questioned whether calculations should have been based on the bond yield or on the integrated bond and swap. But the facts of this case rendered this issue moot.

The borrower/bondholder/swap counterparty wanted to extend the TRS for another five years. The PLR essentially had to examine the bond and TRS transaction done several years ago to respond to the issuer about whether the extension would violate tax requirements.

In his letter, Scott took issue with the fact that, in this transaction and in any typical TRS, “one party wears two hats as both the swap counterparty and the holder of the tax-exempt debt.” As a result, he said, “the swap counterparty/bondholder, through pricing terms applicable to the ‘total return’ portion of the TRS, can lower its taxable income in exchange for greater tax-exempt income.”

“The ruling, therefore, describes an arbitrage scheme that is quite easy to abuse,” Scott said. “The scheme has been abused using billions of dollars of bonds, and has resulted in millions of dollars of illegal tax benefits being stolen,” he said. In an interview, he said: “The net effect is the bank is reducing its taxable income and increasing its tax-exempt income in a way that looks to be a tax shelter. It’s a way to convert taxable income to tax-exempt income through the use of a tax-exempt bond issue and a TRS. It raises tax issues for the outstanding bonds and the bank.”

TEB GETS UNDERCUT

Scott criticized the chief counsel’s office for issuing the private-letter ruling, while the enforcement side of IRS’ tax-exempt bond office is auditing these deals and finding the bonds taxable. He suggested the chief counsel’s office be completely undercut, or steamrolled over, TEB. It “is well aware of this abuse” and “has investigated a number of high-coupon, tax-exempt bond issues where the bondholder/swap counterparty deployed TRS structures with phony terms to illegally generate greater tax-exempt income for a longer period of time in exchange for lower taxable income,” Scott told Wilkins.

“These audits have been ongoing for some time and the office of tax-exempt bonds has, rightfully, issued adverse findings. Your office knew about these audits and the TRS scheme,” Scott said.

Very few IRS audits of TRS’ have been disclosed on the Municipal Securities Rulemaking Board’s EMMA system: the Electronic Municipal Market Access website. In one that was, the IRS in 2013 found that revenue bonds issued by the New Jersey Health Care Facilities Authority for the Deborah Heart and Lung Center were taxable because the borrower entered into a total return swap. The $37.4 million of revenue bonds had been issued in 1993 and about $17.6 million remained outstanding. Neither the IRS nor the parties involved publicly disclosed the amount paid in settling the tax dispute.

Scott called this latest PLR “a mistake” and said that, “although innocent looking factual representations were presented, the favorable ruling, even with this ostensibly limited application, has emboldened the use of the TRS scheme.” Some lawyers said that while PLRs are only supposed to apply to those taxpayers that requested them, this one has been taken as an encouragement that TRS’ can be done without violating tax requirements.

Scott also claimed that the PLR was wrong by being limited and failing to address several tax issues. For example, the PLR declined to take a position on whether the TRS caused a reissuance, which would cause the bonds to be reissued and subject to the latest tax requirements. Lawyers had said a reissuance would not have been a problem because there have been no recent tax law changes that would have applied. The chief counsel’s office also did not express any opinion on whether the interest paid on the bonds may be excluded from gross income.

Scott said: “The ruling was wrongly reasoned and overlooked the proper application of several long-standing regulations. The ruling should have pointed out that the payment to the issuer for ‘price protection’ results in additional gross proceeds, the TRS is investment property, and significant modifications made to outstanding tax-exempt debt by a person other than the governmental issuer results in the reissuance of taxable debt.”

“By agreeing to entertain this ruling request and to restrict the scope of its legal analysis, your office was used to promote an abusive arbitrage scheme,” he told Wilkins. Scott also claimed the chief counsel’s office violated IRS procedures, which state that PLRs will not be issued for outstanding transactions. He accused the office of “erasing the distinction between private-letter rules and technical advice memorandums” and helping transaction participants “game the audit process.”

“By expressing legal conclusions on outstanding bonds the ruling violates the clear standards set forth in [Revenue Procedure] 96-16, Section 5.04(1)” on rulings and determination letters, according to Scott. That section of the revenue procedure states: “The Service will not issue a nonreviewable ruling on whether an issued and outstanding obligation that is part of an issue of obligations meets one or more conditions for the exclusion of interest on the obligation from gross income under § 103 unless the request is received by the Service before interest on any obligation in that issue is required to be reported by a holder.”

“It would be inexcusable to leave this mixed ruling (part technical advice memorandum/part private-letter ruling) on the books to serve as an example of how to game the audit process,” Scott told Wilkins.

THE OTHER SIDE

Some lawyers disagreed with Scott.

“I think the ruling was sound and it was consistent with tax policy,” said Hobby Presley, Jr. a partner at Balch & Bingham in Birmingham, Ala. “I can’t tell from Mark’s letter what his concern is. If people are using a total return swap structure in the existing environment, it’s highly unlikely they are motivated by arbitrage. Because of the prevailing [low] investment rates, there’s no arbitrage to be earned.”

Other lawyers agreed, saying that in the TRS in the PLR, there was no real opportunity for arbitrage earnings because no bond proceeds remained outstanding and there was no debt service reserve fund. Milton Wakschlag, a partner at Katten Muchin Rosenman in Chicago, said that while Scott wants the ruling rescinded, “the IRS feels strongly about the quality of the guidance it issues in the first place and the process it goes through.”

“In my anecdotal experience, they are not keen on interventions,” he said. Wakschlag said the late, former House Ways and Means Committee chair Dan Rostenkowski, D-Ill., once tried to get one of his PLRs overturned, but did not succeed. “I suspect nothing will happen with this,” Wakschlag said. The PLR “seems to have taken longer to be released than the norm,” likely meaning it was reviewed by many IRS officials, he said. Some lawyers have said that there are questions in TRS’ about whether a bank, which often serves as both the swap counterparty and issuer, should be allowed to take tax deductions for loss carry forwards. However, this is an issue for a different IRS division or bank regulators, not TEB, they said.

THE BOND BUYER

BY LYNN HUME

SEP 21, 2015 1:10pm ET

WASHINGTON — The Municipal Securities Rulemaking Board’s pending fee changes will be unfair and excessively burdensome, dealer and advisor groups told the Securities and Exchange Commission.

They complained about the pending fees, some of which are scheduled to take effect beginning Oct. 1, in comment letters sent to the SEC.

The proposed changes show “the MSRB has failed to address” the “disparity between dealer and non-dealer MA fees,” even after the self-regulator had said over 90 percent of the MSRB’s revenue comes from dealers, said Michael Decker, managing director and co-head of municipal securities at the Securities Industry and Financial Markets Association. SIFMA is asking the SEC to temporarily suspend the rule changes and institute proceedings to disapprove them.

Terri Heaton, president of the National Association of Municipal Advisors, asked the MSRB and SEC to reevaluate the MSRB’s true needs and currently available funds, because the changes “will impact small advisors on a larger scale.” Small MAs will have to absorb the fee increases “on a greater proportional basis” and face an “undue burden,” which would be a violation of the Dodd-Frank Act, she said.

The MSRB proposed changing its Rule A-12 on initial and annual registration fees to raise its initial fee to $1,000 from $100 and the annual fee to $1,000 from $500, starting on Oct. 1. Heaton suggested the MSRB phase in both fee increases over the next two fiscal years.

Beginning on Jan. 1, the self-regulator plans to change its Rule A-13 on underwriting and transactions fees by reducing the underwriting fee to $0.0275 per $1,000 of the par value of primary offerings from the current $0.03 per $1,000, starting on Jan. 1. It also will make a previously temporary technology fee of $1.00 per transaction for each interdealer and customer sale report to the board permanent and available for use with operating expenses.

Decker, who said muni dealers “have shouldered the cost of the MSRB for 40 years,” suggested the MSRB implement activity-based fees on MAs that would mimic the current underwriting transaction fee for dealers. MA regulation is a “significant reason” for increased demands on MSRB resources and “it is time for the MSRB’s cost to be fairly shared,” he said.

NAMA proposed the MSRB provide information about how its MA rulemaking is affecting the board’s cost of operations. Without that “important piece of the puzzle,” it is harder to understand the MSRB’s need for fee increases, Heaton said. She also said it seems the MSRB’s operating reserves “are quite healthy and appear to be in excess of what would be prudent or necessary for an entity that can impose fee increases on an immediately effective basis.”

Decker raised a similar concern about the MSRB’s decision to make its technology fee permanent. He said that when the fee first went into effect in 2010, the MSRB clearly said it would only be temporary and specifically used for technology-related capital expenses. But now that the MSRB is expanding its use and making it permanent, the board is damaging its credibility and the market’s respect of the MSRB, he said.

The SIFMA comment letter also used the technology fee to challenge the MSRB’s claim that the fee changes would be “effectively revenue neutral.” Decker said that would only be the case if it was assumed the technology fee would be permanent, which is not what the market believed. The MSRB would draw an additional $8 million a year by keeping the fee, he said, adding that the MSRB is in a good financial position as proven by a $3.6 million transaction fee rebate to dealers in 2014.

The MSRB said it proposed the changes in fees after “continuous and ongoing efforts” to “reasonably distribute” them among all market participants based on level of involvement. It said the annual fee has not changed since 2009 and covers fewer total expenses recently. The initial fee has not been changed since it was first adopted in 1975 and the drop in the underwriter transaction fee was meant to more evenly distribute costs because the MSRB saw less than a dozen dealers accounting for about 52% of the payments.

THE BOND BUYER

BY JACK CASEY

SEP 21, 2015 2:46pm ET

SIFMA provides comments to the U.S. Securities and Exchange Commission (SEC) on the Municipal Securities Rulemaking Board’s (MSRB) adjustment of their fees, increasing them, to align revenues with operational and capital expenses. The MSRB collects technology fees from municipal securities dealers and municipal advisors. SIFMA strongly opposes the rule changes contained in Notice 2015-13 and urge the Commission to exercise its authority to temporarily suspend the Rule Changes and to institute proceedings to disapprove the MSRB’s changes announced in the Notice.

Read SIFMA’s letter.

SIFMA provided comments to the Internal Revenue Service (IRS) and their recently re-proposed rules related to establishing the issue price on tax-exempt bond issuance transactions. In its release, the IRS withdrew the 2013 issue price proposal, which SIFMA opposed, and offered an alternative approach. The new proposal maintains the requirement that issue price is established when underwriters have firm orders for a threshold amount of each maturity in an offering. However, the new proposal offers an alternative means of establishing issue price when there are insufficient firm orders to meet the threshold test.

View SIFMA’s letter.

NABL has filed its comments on the arbitrage regulations proposed on June 24, 2015. NABL requested several items, including:

• (1) confirmation that an issuer need not choose between the general method and the alternative method prior to the issue date;
• (2) confirmation that, under the alternative method, the issuer’s obligation is limited to obtaining a covenant from the sole or lead underwriter;
• (3) clarification that the issuer’s due diligence obligation with respect to issue price is that of a prudent person;
• (4) elimination of the uncertainty in the definition of “underwriter;”
• (5) additional alternative methods for determining issue price for bonds sold pursuant to a competitive bid;(6) confirmation that bonds purchased directly from an issuer by a bank or another party for its own investment would fall under the general private placement and buyer rules of Section 1273 of the Code; and
• (7) addition of a cross-reference to the definition of “issue price” for other similar concepts in the tax code.

NABL also requested to testify at the hearing on the proposed regulations to be held on October 28, 2015.

Click here to read NABL’s comments.

WASHINGTON – The Senate Finance Committee will hold a hearing on Sept. 29 to discuss the “dire financial situation” in Puerto Rico, committee chair Sen. Orrin Hatch, R-Utah, said Tuesday.

The situation “facing Puerto Rico’s economy and its citizens underscores the alarming consequences of crippling debt,” Hatch said. “With outstanding debt greater than its economic output, the territory faces default unless a responsible long-term fiscal path forward is found.”

The committee has not announced witnesses for the hearing, but Resident Commissioner Pedro Pierluisi, D-PR announced that he has been invited to testify. Gov. Alejandro Garcia Padilla, a Democrat, has also been invited to testify, according to Pierluisi, who said he expects the governor to send a representative.

Hatch said members of the Finance Committee will “have the opportunity to explore how the territory manages its finances and government-backed borrowing entities as well as the interplay between federal entitlement and tax programs and Puerto Rico.”

In addition to chairing the Finance Committee, Hatch also sits on the Senate Judiciary Committee, where a bill to extend Chapter 9 bankruptcy protection to Puerto Rico authorities and municipalities has not moved since it was introduced July 15.That bill was introduced by Sens. Richard Blumenthal, D-Conn., and Chuck Schumer, D-N.Y.

A companion bill introduced in February by Pierluisi, has similarly remained stagnant in the House Judiciary Committee.

Sen. Chuck Grassley, R-Iowa, and Rep. Bob Goodlatte, R-Va., who chair the two committees, have said they do not intend to advance the bills unless other avenues are considered.

While the Obama administration and others, are pushing for Congress to extend bankruptcy protections to the territory, groups such as 60 Plus Association, a seniors’ advocacy organization, want to see the creation of a federal financial control board.

Puerto Rico continues to struggle with $71 billion in public debt. Gov. Alejandro Garcia Padilla has repeatedly said the debt is not payable without restructuring. Officials on the island recently made numerous suggestions for remedying the situation in the form of an economic growth plan a government working group released Sept. 9. The plan incorporates stimulus measures, spending cuts, fiscal reforms and the creation of a local financial control board.

THE BOND BUYER

BY JACK CASEY

SEP 22, 2015 6:06pm ET

WASHINGTON — Dealers acting as principals would have to disclose markups and markdowns in transactions with retail customers under rule changes proposed by the Municipal Securities Rulemaking Board.

The proposed change to MSRB Rule G-15 on confirmations is the first of its kind in more than 20 years and follows what has been a nearly 40-year discussion about the need for markup disclosure in the market. The MSRB is seeking comment on the components of its markup disclosure proposal as well as on alternatives. It is asking that those comments be filed by Nov. 20.

Bond Dealers of America and Securities Industry and Financial Markets Association both said they are reviewing the changes with their members before submitting comment letters by the November deadline. Jessica Giroux, BDA’s general counsel and managing director of federal regulatory policy, said BDA is “encouraged” by the MSRB’s use of previous comments in drafting its new proposal, such as the exclusions of primary offerings and institutional customers.

Under the markup proposal, a dealer buying or selling bonds for its own account would be required to disclose the markup or markdown on a customer’s confirmation when: it executes a transaction on the same side of the market as the customer; the transaction is greater than or equal to the size of the customer’s; and the dealer transaction occurs within a two-hour window on either side of the customer transaction.

Those markups and markdowns would be equal to the “difference between the price to the customer and the prevailing market price for the security,” and would have to be disclosed both as a total dollar amount and as a percentage of the principal amount of the customer transaction, according to the MSRB. Even if the markup did not have to be disclosed, a dealer would have to provide the investor a hyperlink and URL address to the Security Details page for the security on EMMA as well as a time of execution for the customer’s trade.

The MSRB would also try to limit this proposed rule to the secondary market by excluding transactions in new issue securities effected at the list offering price by members of the underwriting group.

There are also two organizational caveats to the rule. If a dealer is executing a transaction from an affiliate’s inventory of munis, the rule would require the dealer to “look through” to the affiliate’s transactions with the “street” and other customers to see if the affiliate had a same-side of the market transaction within the two-hour window. Dealers that have independently operating trading desks would be exempt from disclosing markups if they could prove that the customer transaction occurred separately from the principal trading desk that executed the dealer’s same-side market transaction and that the desk was not aware of the retail customer transaction.

Lynnette Kelly, the MSRB’s executive director, said the disclosure requirements would provide investors “a way to understand the true costs of their municipal securities transactions.”

“Our new proposed approach would offer greater clarity for investors as to dealer compensation while leveraging the existing processes and systems dealers use to comply with their fair-pricing obligations,” she said.

The MSRB previously proposed changing its Rule G-15 in November 2014 to require dealers to disclose on their confirmations a “reference price” of the same security traded on the same day. FINRA proposed a similar rule for corporate bonds. But muni dealers said the reference price rule was too complex and would confuse investors. They asked the MSRB to withdraw it. FINRA has said it also will modify its proposal because of criticism and solicit a second round of comments. But the authority only plans to propose a revised version of the reference price rule it floated earlier.

The MSRB also included modifications to the “reference price” rule in its regulatory notice, although the board noted it would prefer markup disclosure. The board asked commenters to weigh in on whether disclosing a reference price is a better alternative to markup disclosure.

The reference price rule modifications largely mirror the requirements laid out in the markup disclosure proposal. The MSRB is asking whether the reference price rule should: include all retail investors regardless of the trade size cap that was used in the initial proposal; apply exclusively to the secondary market; disclose a total dollar amount as well as a percentage; require a security specific link as well as the time of execution; and offer similar exceptions for inventory-affiliate dealers and independent trading desks.

Securities and Exchange Commission members have been pushing for markup disclosure, and more aggressively since the commission’s enforcement action against Edward Jones in August for overcharging retail customers for sales of new bonds and failing to adequately supervise mark-ups on secondary market trades.

Just after the SEC announced that settlement, four of the five SEC commissioners urged that broker-dealers be required to disclose markups and markdowns on munis, warning that they were ready to make the proposals themselves if self-regulators did not pursue them. SEC chair Mary Jo White did not join the other commissioners in the statement, but previously said she would work with self-regulators to develop rules requiring markup disclosure in riskless principal transactions.

THE BOND BUYER

BY JACK CASEY
SEP 25, 2015 2:09pm ET

CHARLOTTESVILLE (Standard & Poor’s) Sept. 24, 2015—Although rating trends in the U.S. local government sector are positive overall, there have been several recent situations where borrowers wound up in fiscal stress. From Standard & Poor’s Ratings Services’ perspective, municipal bankruptcies and previous distress scenarios are opportunities to help inform our current analysis of distressed issuers with respect to the incentives to pay certain obligations, according to a report published today.

“Our view is that the small number of bankruptcies and credits in distress we have seen do not enable us to predict conclusively which obligations will or will not be impaired in bankruptcy,” said credit analyst Lisa Schroeer. “There are, however, several factors we believe can inform our view and ratings regarding the likelihood of payment on specific obligations for distressed credits. Our local government ratings do not reflect our assessment of expected recovery post-bankruptcy. Our ratings instead reflect our assessment of whether the issuer will pay the bonds in full and on time.””

In particular, in distressed situations, Standard & Poor’s draws on several analytical factors, including the legal structure of the borrower’s debt; the “comparables” (i.e., similar situations that we have seen); and the revenue pledge.

“As we evaluate these distressed credits, examples inform our analysis when assessing the incentives to pay for distressed issuers. Legal structure, political incentives, additional pledge revenues, and comparable situations all factor into our analysis,” said Ms. Schroeer. “When looking at our distressed issuers, our analysis incorporates historic actions while taking into account the unique credit profile of each issuer.”

The report is titled, “Incentive to Pay: How Recent Bankruptcies Inform Analysis Of Distressed Local Government Credits,” published today.”

Under Standard & Poor’s policies, only a Rating Committee can determine a Credit Rating Action (including a Credit Rating change, affirmation or withdrawal, Rating Outlook change, or CreditWatch action). This commentary and its subject matter have not been the subject of Rating Committee action and should not be interpreted as a change to, or affirmation of, a Credit Rating or Rating Outlook.

The report is available to subscribers of RatingsDirect at www.globalcreditportal.com and at www.spcapitaliq.com. If you are not a RatingsDirect subscriber, you may purchase a copy of the report by calling (1) 212-438-7280 or sending an e-mail to [email protected].

Ratings information can also be found on Standard & Poor’s public Web site by using the Ratings search box located in the left column at www.standardandpoors.com. Members of the media may request a copy of this
report by contacting the media representative provided.

Primary Credit Analyst: Lisa R Schroeer, Charlottesville (1) 434-220-0892;
[email protected]

Secondary Contacts: Horacio G Aldrete-Sanchez, Dallas (1) 214-871-1426;
[email protected]

Jane H Ridley, Chicago (1) 312-233-7012;
[email protected]

Matthew T Reining, New York (1) 415-371-5044;
[email protected]

Though rating trends are overwhelmingly upward across all municipal sectors (see “U.S. Public Finance Positive Ratings Streak Reaches 14-Year High,” Sept. 2, 2015) Standard & Poor’s Ratings Services has also seen borrowers like Atlantic City, N.J.; Wayne County, Mich.; and, most recently, Hillview, Ky., trying to work through fiscal stress. Though comprising only a very small percent of overall local government ratings, distressed credits bring into play analytical considerations that aren’t usually a factor in this overall strong sector.

Often the hallmark of extremely distressed credits is concern regarding sufficient liquidity, whereby issuers may face a decision on who to pay: Peter or Paul (or Jane or Jenny, for that matter). While the framework of our local government criteria applies to all of our local government ratings, for distressed credits, where rating caps are often invoked, we address the questions regarding management’s incentives to pay under strain. This report will focus on the somewhat unique analytical considerations we believe play into this subset of issuers.

Overview

• Pockets of stress continue to arise in the local government sector, though we still anticipate municipal bankruptcies and defaults will remain extremely low.
• Prioritization of payments during distress and while in bankruptcy may not be precedent-setting, but inform our analysis of how governments may act under stress.
• We continue to apply our criteria and insights gained to our analysis and the often unique set of incentives issuers have to prioritize payments. Standard & Poor’s U.S. public finance credit ratings reflect the likelihood of default and do not incorporate recovery.

Continue reading.

24-Sep-2015

When Standard & Poor’s Ratings Services evaluates a U.S. local government’s general obligation (GO) credit quality, it does so from a holistic point of view, looking at all the features it thinks could influence credit quality. They include financial performance, management, and debt burden and other long-term obligations, as well as the area’s economy. Likewise, when a local government requests a rating on a series of revenue bonds (such as a water or sewer system), we review the system, its strengths, and challenges.

For both GO and revenue ratings, the local economy is an important factor in our analysis. This frequently includes the relative health of other municipalities that surround or overlap the issuer, and who often share similar demographic trends. The financial and economic health of these other governments helps inform our understanding of the local economy, be the influence good or bad. In some instances where a direct impact exists–such as a weak state that delays payments of necessary operating dollars to local governments because of its own financial pressures or different municipal entities with shared financial resources such as pooled cash–it can have credit implications.

However, in instances where–save geographic location–no direct link exists between different issuers and/or separate security pledges within one issuer, we don’t automatically cap ratings due to the proximity of a struggling municipality or strained internal operations, particularly if the issuers are legally unrelated.

Overview

• Standard & Poor’s does not tie the rating on one U.S. local government issuer to another based on geography alone.
• We evaluate U.S. municipal issuers independently, and if a credit quality relationship exists, we factor it into the rating.
• Internal pressures on related issuers are more likely to have a correlating rating impact, and we assess each situation independently.

Continue reading.

24-Sep-2015

(Reuters) – A U.S. regulator on Thursday modified a proposed rule in hopes of making it easier and less expensive for bond dealers to tell retail customers how much above wholesale they are paying to buy or sell municipal bonds.

The Municipal Securities Rulemaking Board asked for comment on a proposal that would require bond dealers to disclose on customer trade confirmations the dealer “mark-up” – how much more than market price a customer pays to buy muni bonds or how much less to sell them.

The proposal revises one made in November 2014 that would have required dealers to disclose a reference price they paid for bonds taken into inventory on the same day as the trade made with a customer. Dozens of bond dealers told the MSRB in comment letters that the difficulties of determining reference prices and of building systems to identify them made the initial plan unworkable and could lead some of them to stop sales to retail investors.

The contraction from a full day to the two-hour limit aims to ensure that dealers are not taking unnecessary risk in warehousing bonds for which they deserve to be paid. The MSRB proposal notes that since dealers are already required to ensure that their mark-ups on trades from their inventory are fair and reasonable, they should already have systems for mark-up monitoring.

Unlike the original proposal, which would have required disclosure only on bond trades valued at $100,000 par amount or less, the revised one would apply to trades for all retail accounts.

In addition to substituting a mark-up for a reference price, the revised rule would require dealers to print the time of trade execution to the nearest minute so that customers could check the prevailing market price on systems such as the MSRB’s EMMA database. Dealers also would have to print a hyperlink and URL address to the Security Details page for the customer’s security on EMMA.

The mark-up would be the difference between the price to the customer and the market price, and would be required to be given as a total dollar amount and as a percentage of the principal amount of the customer trade.

While the MSRB noted that it prefers its revised rule to the original one, it will continue to take comments on the original proposal. All comments are due by Nov. 20, 2015.

Sep 25, 2015

(Reporting By Jed Horowitz; Editing by David Gregorio)

On September 21, 2015, NABL sent a letter to the SEC Chair and Commissioners concerning the Municipalities Continuing Disclosure Cooperation Initiative. NABL recommended that before the SEC engaged in any similar future initiative that it devise a better way to reach issuers and that any similar future initiative be subject to a cost-benefit analysis. NABL also set out a number of steps that could be taken to further improve continuing disclosure. Many of those steps could be taken by working groups, but NABL also said that the SEC should provide guidance that issuers no longer need to file notices of ratings changes since those changes are now available on EMMA directly from the ratings agencies.

To read NABL’s letter, please click here.

The Municipal Securities Rulemaking Board (MSRB) reminds brokers, dealers, municipal securities dealers and municipal advisors that amendments to MSRB Rule A-12 on initial and annual registration fees becomes operative October 1, 2015. Each regulated entity registering with the MSRB on or after October 1, 2015 shall pay to the Board an initial one-time fee of $1,000. Beginning October 1, 2015, each regulated entity shall pay $1,000 annually, based on the fiscal year of the Board, within 30 days of the invoice date.

Read the regulatory notice.

An investment firm focusing on high-yield and distressed municipal bonds sued the developer of a power plant that serves Atlantic City’s shuttered Revel Casino for securities fraud.

Rosemawr Management LLC, a $1 billion fund started by Lehman Brothers Holdings Inc.’s former head of municipal-derivatives trading, alleged that ACR Energy Partners LLC concealed defaults and used almost all its assets to make improper dividend payments to its parent company. In March 2014, New York-based Rosemawr bought $35 million of bonds that financed the power plant at 92.25 cents on the dollar. The securities have since lost 70 percent of their value.

“Although it was public knowledge that the Revel facility was not performing as well as Revel had intended, there was no reason to believe that Revel was defaulting on its payment to ACR,” Rosemawr said in the Sept. 16 suit, filed in federal court in Camden, New Jersey. “As a direct result of the fraudulent concealment of material information, plaintiffs purchased the bonds at artificially inflated prices.”

Distressed Municipalities

Rosemawr was formed in 2008 by Greg Shlionsky, a former Lehman Brothers managing director. The firm, which bought bonds backed by revenue from Harrisburg, Pennsylvania’s parking garages and has lent money to an assisted living facility in Georgia and a storm drain project in the Detroit area, also includes former Lehman municipal derivatives trader James Lister.

Greg Usry, Citigroup Inc.’s former co-head of municipal credit and financial products and Julie Morrone, who formerly managed Morgan Stanley’s high yield muni funds, also work at Rosemawr, according to the firm’s website.

Revel, which opened at a cost of $2.4 billion in 2012, was an attempt to bring a bit of Las Vegas to the east coast by offering more shows, restaurants and shopping. The property suffered from poor design and competition from new casinos in other states. It went bankrupt twice before closing in September 2014.

New Jersey’s Economic Development Authority issued about $119 million of unrated tax-exempt and taxable municipal bonds in 2011 on behalf of ACR, which used the money to build a heating, cooling and electric plant for the Revel resort and casino.

Bond Covenants

Revel had a 20-year contract to buy power and other utility services from ACR, a joint venture between South Jersey Industries Inc. and DCO Energy LLC. Dan Lockwood, a spokesman for South Jersey Industries, didn’t immediately return a call seeking comment. Frank DiCola, chairman of Mays Landing, New Jersey-based DCO also didn’t return a message.

Two Rosemawr funds bought $35 million of the power plant bonds at 92.25 cents per $100 face amount in March 2014. ACR and its owners “flatly lied” about defaults under the bond covenants which, if disclosed, would have lowered the price of the securities, Rosemawr said.

ACR hid Revel’s failure to make required monthly payments under the energy service agreement and entered into a “special arrangement” with the casino to extend payment terms without bondholder permission, Rosemawr said. ACR also didn’t notify bondholders it failed to fully fund a required reserve account.

The account “provided crucial protection of bondholders’ interests, because it provided a source of payments to bondholders until Revel became consistently profitable.”

Dividend Payments

Finally, ACR made $11 million in improper and fraudulent divided payments to its sole controlling member, an entity set up by South Jersey Industries and DCO, according to the suit. Under the bond documents, dividends were restricted if there was an event of default, Rosemawr said.

The $11 million payments “represented substantially” all of ACR’s liquid assets. ACR missed its June 15, 2014, debt service payment.

The offering statement for ACR’s bonds warned investors that the shuttering of the Revel resort or an ownership transfer meant bondholders couldn’t be assured energy produced by the plant was necessary or that new owners might get energy elsewhere.

Rosemawr said it believed financing wouldn’t be jeopardized because Revel would need power, regardless of who purchased the building or its long-term use.

“Had the plaintiffs known the information that was fraudulently concealed by the defendants prior to the purchase of the bonds, the plaintiffs would either have not purchased the bonds altogether, avoiding any losses, or would have purchased the bonds only at a dramatically lower price, thereby significantly reducing their losses,” Rosemawr’s complaint said.

Bloomberg News

by Martin Z Braun

September 21, 2015 — 11:22 AM PDT