A Question to Taxpayers: Should the City Council Take a ‘Leap of Faith” to Bankruptcy?

  • Why the city council avoids discussing the long run impact of the GMHS project on the total city finances

By John E. Leimone

Mr Lemoine has worked as an economist at the Federal Reserve Bank and the International Monetary Fund.

Background

At its regular meeting on June 26, The City Council approved the first reading of an ordinance to amend the FY2018 Capital Improvements Program for the next 5 years, which adds $120 million in bonds for the GMHS project. The Council also approved the first reading of an ordinance to authorize the issue of the $120 million in bonds and requesting the Circuit Court to order a special referendum on the question of whether the issuance of such bonds should be authorized. The second and final reading of these two ordinances is scheduled for July 24, 2017.

Prior to voting, the Council discussed further a revised Power Point exposition originally presented by City Staff at the Council work session on June 19. This presentation showed the frightening impact that the issue of $120 million in bonds would have on the debt and debt service profiles of the City over the 30 year period for which the school bonds would be outstanding. The presentation also considered several potential ways for modifying these profiles to make them appear somewhat less frightening. In particular, the presentation examined postponement of the implementation of a large number of other projects already in the CIP, such as the Library renovation, or contemplated shortly after the 5 year CIP period. The presentation also outlined various profiles for the huge increases in the real estate tax rate implied under several different policy options that might be considered.

Implicit in the Staff presentation were serious doubts that $43 million in postulated revenues from lease or sales of land for development on the GMHS site could be realized in any meaningful time frame. Also clear from the presentation was that the issuance of $120 million for the school project would lead to debt per capita and  debt to household income ratios far exceeding any other surrounding jurisdiction, even if the CIP were modified through postponement of numerous other projects. The one exception for debt to household income was Manassas Park, a jurisdiction which has suffered horribly from the subprime mortgage crisis because of its large debt combined with falling real estate values.

However, the City Staff and Council studiously avoided addressing the even larger issue than debt, debt service and the immediate tax implications of the debt service, underlined by the repeated assertions by the City Manager that the presentation was restricted to these CIP-related considerations. Specifically, THE COUNCIL SEEMS UNWILLING TO CONSIDER THE LONGER TERM CONSEQUENCES OF THE OVERALL IMPACT OF THE IMPLEMENTATION OF THE GMHS PROJECT AS CURRENTLY DESIGNED ON THE TREND IN OVERALL OPERATING EXPENDITURES OF THE CITY IN LIGHT OF REASONABLE PROJECTIONS OF REVENUE GROWTH.

Readers will recall that some of these longer term issues were raised in the article “CITY COUNCIL APPROVAL OF THE SCHOOL REFERENDUM WOULD BE ASKING FOR A BLANK CHECKto which this present article is effectively a postscript. Prior to the Council’s meeting, the Council received a copy of the above referenced article as well as written comments which this writer summarized orally before the Council. Several other citizens raised similar concerns, most notably former Council member Ira Kaylin (See article), and a significant number of other citizens raised strong objections to any effort to modify the CIP in any way that would push back implementation of the library renovation already approved by referendum.

A Council Member’s Comment

In response to interventions by this writer and others, a Council member has made the following statement: “I appreciate that you want a full accounting to citizens of what we are getting into in considering a $120M bond. I agree that we do not want anyone voting on this referendum without full information and disclosure of all facts. That is the goal of elected officials and city staff, and the questions we are asking are aimed at complete transparency. However, at some point we are going to have to make a decision and take a leap of faith without knowing every single detail,(emphasis added) assuming that the scenarios laid out and tested are valid models for a successful future.”

Response and analysis

This writer’ reply to this comment which follows, is intended to put the grave implications of this project for the City’s overall finances in stark relief. “I would hope that members of the Council understand that the issues Mr. Kaylin and I are raising are not questions of mere “details”, but a fundamental matter of the longer run financial viability of the City if this project goes forward as currently designed and the “all in costs” included.  In other words, what are the risks that the real estate tax rate would have to be raised to such high levels that citizens and businesses will begin moving out of the City, thereby creating a decline in real estate values and initiating a vicious cycle that could eventually result in the City’s bankruptcy?

To be specific, if longer run trend revenues of the City going forward are expected to be 2 ½ % per year (as the indicated by the City Manager at the work session on June 19, albeit subsequently deleted in the document to be considered for second reading), and the operating costs of the school system are, as projected by the FCCPS (See the memorandum from Superintendent Noonan to City Manager Shields), to increase by 4% per year (as has been the case over the last 10 years), then where are the resources to come from for covering the vastly expanded amount of debt service over the next 30 years plus (school and)  nonschool operational expenditures  to meet the needs of a rapidly growing population?  It should be noted that notwithstanding the much ballyhooed increase in large new mixed use projects over the last 10 years, achieving even the rather modest 2 1/2% growth rate of City revenues over this period still required a  30% increase  (30 cents) in  the real estate tax rate.

FALLS CHURCH BUDGETARY SCENARIOS WITH NEW GMHS FY 2018 to FY2018

US$ in Millions

Assumed Projected
Revenue or Expense Item Avg Annual Growth Rate FY 2018 4/ FY 2028 5/ Change
MEMORANDUM:
FCCPS Operating Costs 1/ 4%  $       50.6  $       74.9 $24.3
Alternative assumption 6%  $       50.6  $       90.6 $40.0
Falls Church City Operational Budget 2/
Total Revenues 2.5%  $       88.5  $    113.3 $24.8
Debt Service  $         6.4  $       13.0 $6.6
School Transfer 2/  $       41.3  $       61.1 $19.8
Under alternative assumption  $       41.3 73.9 $32.6
Available for nonschool expenses & capital projects 3/  $       40.8  $       39.2 ($1.6)
Under alternative assumption  $       40.8  $       26.4 ($14.4)

1/ Data are taken directly from a FCCPS table included in Superintendent Noonan memorandum to City Manager Shields
Data generated by an alternative assumption of 6% growth calculated by author.
2/School transfer is less than operating costs because a portion is financed directly with dedicated taxes, grants,
and other sources of revenue that are not included in City revenues. The FY2028 data are derived preserving the FY2018
ratio of school transfer to total operating costs.
3/This figure is derived by subtracting the school transfer & total debt service, school & nonschool, from total revenues
4/Data taken or derived from FY2018 proposed rather than approved budget;latter is not posted on the City website.
5/Budget data are derived based on assumed annual growth rates for total revenues & school operating costs & approximate level of projected debt service indicated by graph in City Staff Power Point presentation.

It should be pointed out that with a near doubling of the capacity of GMHS contemplated in this project, the expansion in Mount Daniel underway, and the pressure to undertake a significant expansion of Thomas Jefferson, containing school system operating expenditures at the same 4% rate in the future as over the last 10 years would appear to be a highly unreasonable assumption.

With a projected revenue growth of 2 1/1%, a doubling of debt service and school system operating  costs (already over half of total City operating  costs) likely to increase at much more than 4% annually, simple math indicates that the already highly squeezed nonschool operating costs would have to be cut in absolute terms from their current levels. Given an already rapid expansion in population in recent years, and more to come with additional projects containing large numbers of apartments and condominiums being planned, further cuts in nonschool operating expenditures will inevitably lead to the unsustainability of normal City government operations.

The astounding implications of the trends can be best illustrated by the following calculations:  Based on projected total City revenues of $88.5 in the proposed FY2018 budget[1], a 2 ½ percent average annual growth rate would lead to an increase in the level of annual revenues by $24.8 million in FY2028. On the expenditure side, total debt service including the GMHS project will more than double, reaching an annual level at least $6 million higher than FY2018.

Using the FCCPS assumption of an annual growth rate of total school operating costs of 4%, school system annual outlays would increase to a level of $74.9 million in FY2028,  an increase in the total level of annual school expenditures of $24.3 million. Adjusting for the fact that part of these expenditures will be met with dedicated school taxes and other revenues and grants (which are not included in the City’s operating budget), the school transfer from the City can be expected to be about $61 million, an increase of about $20 million.

Adding this amount to the increased level of annual debt service of about $6-7 million means that debt service and City nonschool operating expenditures in FY2028 would alone exceed the $25 million projected increase in the level of total revenues. THIS MEANS THAT THE OPERATING EXPENDITURES FOR THE REST OF THE ANNUAL BUDGET IN FY2028 WOULD HAVE TO BE ACTUALLY LOWER THAN THE $41 MILLION LEVEL IN THE PROPOSED FY2018 BUDGET!! As noted above, the 4% rate projected rate of growth for school operating expenditures would appear to be far too low, meaning that the cuts in other City services would have to be even more drastic. Moreover, any needed capital projects would have to be entirely financed by new debt. These numbers indicate an obviously untenable situation. (For clarity, these data, the sources and methodology and the potential impact of an alternative scenario with a higher assumed rate of school operating costs are set out in the table below. ]

Conclusion

“If the City Council and City Manager believe (a) that school operating expenditures will not increase by more than 4% annually and (b) that City revenues will grow at a rate that exceeds the growth in school operating expenditures and, in addition, provide for a adequate level of services for a rapidly growing population as well as meet new capital expenditures down the road,  then they have an obligation to provide the public with credible information and analysis to back up such expectations before final approval of the referendum.

The information presented to the public to date does absolutely nothing to address these fundamental issues. If the Council moves forward to approve the referendum without considering these issues and making the results available to the public, its members will be violating the sacred fiduciary responsibilities they assumed when taking office. “

[1] The budget actually approved by the Council has not been posted on the City’s official website, so calculations based on the approved budget will differ slightly, but for the purposes of this exercise the key  conclusions will not change.

9 Comments on "A Question to Taxpayers: Should the City Council Take a ‘Leap of Faith” to Bankruptcy?"

  1. Curtis Schaeffer | September 15, 2017 at 12:06 am | Reply

    Ira-I need to be in touch with John Leimone as we are debating in favor of the NO vote on Sunday. Could you send me his email address or phone number Thank you Curt Schaeffer

  2. I hope John chimes in with his observations from last night. The *other* news outlet is describing the CIP cost as 6 cents for 3 years, then 4 cents for 14 then 1 cent in 2038. That was indeed one of the graphs shown but it was only one of the graphs. All projections are just that….projections. Some are rosy, some more realistic. The more realistic are higher.No operating projections are included…the projections are for covering the CIP only.
    Almost sounded like one member implied the development could pay for the whole debt? Back to that old rumor of years ago that we can have a new school for “free”…not.

  3. John Leimone | July 7, 2017 at 6:30 pm | Reply

    Dennis,
    1.The City should hire some competent budget analysts to do meaningful projections of the key components of the City’s budget over the next 10-15 years,with key assumptions clearly laid out, under several scenarios. [Note that every year,our auditors point out that the City is violating the standards on adequate personnel in Finance Department.]
    2. The variables should include overall and key components of revenue, City nonschool operating expenditure based on projected population growth, operating expenditures for the schools, and infrastructure.
    3. Obviously,a key assumption will be to how many more apartments/condos will be approved that add to the pressure on City & school operating costs and the requirements for needed infrastructure outlays, both nonschool & school.
    4.The press to build a new GMHS should be halted until the citizens are well informed of the outcome of the exercise described AND we have in hand some concrete proposals from developers to form a realistic basis for what kind of high school is affordable. Contrary to the process until now, these projections should be objective and not framed as a way of manipulating public opinion by leaving out important costs and avoiding any quantification of or discussion of risks.
    5. With a thorough exercise and ample time for the citizens to digest this information, then taxpayers can decide the tradeoffs between school operating costs or City services, school & nonschool infrastructure, and the level of taxes they are willing to pay.
    They may decide that we need to quit approving new projects with large numbers of apartments and condos, demand that the school system take significant steps to rein in operating costs, and maybe that some reconfiguration of proposed school infrastructure should be done in order to reduce its costs to a more manageable amount. If they want to go ahead notwithstanding current trends in revenue, school operating costs, and the (underestimated) proposed costs of the GMHS project (& an expansion of Thomas Jefferson) then they should be clearly informed of how much City nonschool services will have to be cut and how much tax rates will have to go up.

    Does that help?

  4. John,
    Thank you for all work in preparing this well documented thoughtful and, above all essential, analysis of all the costs associated with, and consequences of, “taking a leap of faith”.

    I believe it would be useful to go the video of the June 26, First reading (the first step to authorizing a Referendum of $120 million) and listen to Council member Connelly’s comment. It demonstrates, no doubt unintentionally, a cavalier, almost frivolous attitude to understanding the vast and permanent impact a $120 million debt issuance will have on the City.

    The “leap of faith” as described by Ms. Connelly is more appropriate for a venture capitalist than for a taxpayer supported project.

    The prelude to the “leap of faith” comment was a statement of how much hard work that has been done to try to bring the GMHS campus project forward. Indeed there have been many meetings and countless hours spent on the issue.

    However, in matters of finance an “A” for effort is not a substitute for a careful evaluation of all costs, benefits and future budgetary consequences.

    Many of the Council members who spoke stated that citizens will make the final decision through the Referendum. Absolutely true. Equally true is that the citizens are owed information on which to make an informed decision. That has not been the case.

    The Council seems oddly reluctant to ask the City Manager to provide necessary data. The day after the City Manager stated that he couldn’t include School Operating Costs (with no objection from any City Council member) in his budgetary/tax rate calculations the School Superintendant produced an operating cost projection (through FY2030) and publicly circulated a document with that information.

    The Superintendent’s transparency is very much appreciated and should serve as a model for the City Council.

    Items that should be prepared and circulated to the public are:

    —A projected tax rate that includes City costs and their rate of increase.

    —Items in the First Reading document that have been excluded from the Second Reading document. These are:

    80 • Operating cost increase risk – the operating costs other than debt service for the (Please see Mr. Lemoine’s table regarding a possible 6% yearly increase in school operating costs.)
    81 expanded building could be higher than normal revenue growth. In our models,
    82 we have assumed that such operating costs will be no more than revenue growth.
    83 • Economic risk –the economy and real estate assessed values may grow at a
    84 slower rate than anticipated (modeled at 2.5%) or actually shrink.

    Each item should be “stress” tested to see what the cost impact/tax rate increase would be under different assumptions

    John you have done a great job in explaining that by using the School Superintendent’s projected increase in Operating Costs (4%) and the City’s Revenue growth projections (2.5) the City’s will, in the not too distant future shrink until is it less than the current (FY17 budget) “City side” budget.

    Finally capital costs are eventually paid off, while operating costs only increase over time. Concentrating on the CIP effectively hides the true cost of the School Division expansion. Falls Church citizens are owed a complete and full disclosure of all information. Then and only then will they be able to make an informed decision.

  5. Dennis Szymanski | July 6, 2017 at 8:40 pm | Reply

    John, let’s say the taxpayers agree with your analysis. IF you agree that FCC needs a new high school, what would suggest an obviously complex financial approach should look like?

    • My question too.
      I do not hear any talk about a plan B if the referendum fails. Something needs to be done up there but what, if not the palace?

  6. Yup. One Council member indicated the school and gov’t side could/would be held to the projected 2.5% revenue growth. That has to be a bunch of hooey. As you noted, Dr. Noonan has the projected 4% growth right in the document that was being discussed at the time.

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