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Time
Bombs
Political
subdivisions of the state are issuing debt with
informal assurances that, if needed, the state will
back them up with tax revenues. This reckless
fiscal practice could explode.
In
this space last week, the focus was on certain signs
of decline in integrity in state government. One of
those is the recent repudiation by a leading
legislator of his pledge to support state
appropriations to cover the debt service on bonds
issued by the Rockbridge County Industrial
Development Authority on behalf of the Virginia
Horse Center.
As
reprehensible as this legislator’s refusal to
honor a promise might be, the deeper problem is that
the Commonwealth and some of its political
subdivisions rely on debt of this sort at all. When
bonds are issued, both the source of funding and the
enforceability of the debt should be clear.
There
are at least two types of bonds that involve
informal, legally unenforceable inducements. The
first depends in part on a source of revenue from
the capital project itself (for example, tolls, rent
or other user fees), but adds an extra inducement in
the form of informal assurances from government
officials that tax revenues will be used to pay debt
service should the formally committed revenues fail
to come in as anticipated. In the second type, there
is an assumption from the outset that the bonds can
only be paid off with tax revenues, but there is no
legal commitment to use those revenues.
The
obvious question is who would pay a large sum of
money for bonds that aren’t a legal debt? Either
there are a lot of very foolish bond buyers or they
are being quietly assured that the taxpayers are
effectively, if not legally, bound to pay the debt
service.
As
a practical matter, any government that issues these
legally uncollectible bonds can ill afford to have
them go into default. The effect on that
government’s future ability to borrow would be
substantially compromised. Its credit rating, for
instance, would immediately suffer.
The
purpose of these financing techniques is simply to
circumvent constitutional requirements, particularly
the requirement that voters be given an opportunity
to approve or reject the commitment of tax funds to
repay the debt. This not only undermines the
Constitution, but also creates a situation that
invites the very conduct seen in the last General
Assembly session involving appropriations for the
Virginia Horse Center, where an unenforceable but
unambiguous commitment is dishonored without
recourse to the bondholders.
The
danger to the Commonwealth in relying on these
informal assurances goes far beyond the potential
for tarnishing its good name and reputation. It
encourages a lack of fiscal discipline and too
little concern for the pressure these accumulating
bond issues are putting on Virginia’s tax
resources.
When
state government and political subdivisions issue
bonds that can be repaid only with tax revenues, the
cumulative effect of all such bonds must be
considered. The tendency is not to give careful
attention to bonds that aren’t the lawful debt of
the Commonwealth or its political subdivisions even
though the taxpayers are expected to repay those
bonds.
Municipal
credit analysts and bond rating agencies evaluate
the creditworthiness of the Commonwealth in large
part on the basis of the total amount of
tax-supported debt that is outstanding. The rating
agencies and the investment community consider bonds
that do not formally and legally obligate the
Commonwealth, even though those bonds depend on tax
revenues for repayment, as a burden on the
Commonwealth’s debt and financial capacity.
The
current practice disguises what is really happening
in Virginia finances. It’s time for state
officials to deal straight up.
May 19, 2003
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