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California Debt Financing Guide
This interactive Debt Financing Guide offers a new approach to understanding the responsibilities and obligations of issuers and the elected and appointed officials who are ultimately accountable for the use of debt financing by their agency.
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California Debt and Investment Advisory Commission
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Preface
What Information Does the Guide Include?
How To Use the Guide?
Acknowledgements
Note to Our Readers
Introduction
i.1 Understand Your Public Agency
i.1.1 Who Are You and What Do You Want To Be?
i.1.2 What Is Mission Failure for Your Agency?
i.1.3 What Is the Agency’s Tolerance for Risk?
i.1.4 Do Projects Conform to the Agency’s Mission and Risk Tolerance?
i.1.4.1 Strategic Planning
i.1.4.2 Capital Improvement Planning and Capital Improvement Budgeting
i.1.4.3 Understand the Difference between Funding and Financing
i.2 Decide Whether Debt Financing Is Appropriate For Your Agency
i.2.1 Decision #1 – What is the right source of funding?
i.2.2 Decision #2 – What is the right source of financing?
i.2.2.1 When should a public agency consider PAYGO?
i.2.2.2 When should a public agency consider debt?
i.2.3 Decision #3 – Can the municipal market help the public agency meet its capital financing needs?
i.3 Apply The Appropriate Analysis To The Decision To Use Debt Financing
i.3.1 Understanding the Work Each Public Agency Must Commit to When Using Debt Financing
i.3.2 Legal Responsibilities of Issuers of Municipal Securities
i.3.2.1 Compliance with Municipal Securities Laws – Disclosure
i.3.2.2 Legal Responsibilities Under the Internal Revenue Code
i.3.2.3 Responsibilities of Elected and Appointed Officials
i.3.3 Financial Responsibilities
i.3.4 Organizational Responsibilities
i.4 Lead the Process of Issuing Your Debt
i.4.1 Financing Team
i.4.1.1 Pre-Issuance Phase
i.4.1.2 Issuance Phase
i.4.1.3 Post-Issuance Phase
i.4.2 Key Decisions Public Agencies Must Make when Selecting the Appropriate Debt Option
i.4.2.1 Decision #1 – Choose the funding source
i.4.2.2 Decision #2 – Choose a security package
i.4.2.3 Decision #3 – Select a term
i.4.2.4 Decision #4 – Select an interest rate type
i.4.2.5 Decision #5 – Understand what the agency commits to do in the future
i.4.2.6 Decision #6 – Decide whether the debt will be tax-exempt
i.4.2.7 Decision #7 – Evaluate municipal market opportunities to use debt financing
i.4.3 Steps Public Agencies Must Take to Use Debt Financing
i.4.4 Additional Legal Requirements – Internal Boards, Reporting to CDIAC, and Voter Approval
i.4.5 Issuing Tax-Exempt Debt
i.4.5.1 Requirement #1 – The debt must be issued by a qualified issuer
i.4.5.2 Requirement #2 – The debt must finance a qualifying project and satisfy ongoing requirements and limitations regarding the use of the project
i.4.5.3 Requirement #3 – Manage the arbitrage rules
i.4.5.4 Requirement #4 – Adhere to procedural and other rules
i.4.6 What Financing Options are Available?
i.5 Manage Your Debt After It Is Issued
i.5.1 Managing Your Agency’s Debt Financings
i.5.1.1 Debt Management Policies
i.5.1.2 Disclosure Policies
i.5.1.3 Investor Relations Policies
i.5.2 California Review and Reporting Requirements on Bonds
i.5.2.1 Proposition 39 General Obligation Bonds
i.5.2.2 Marks- and Mello-Roos Bonds
i.5.2.3 Conduit Issuer Reporting
i.5.2.4 Grand Juries
i.5.2.5 Reports to the California Debt and Investment Advisory Commission
Chapter 1. Legally Incurring Debt – State Law Restrictions on Public Agency Debt and Revenues
1.1 A Public Agency’s Authority to Borrow
1.1.1 Statutory Authority to Borrow
1.1.2 General Bond Statutes
1.1.3 Borrowing Authority of Charter Cities
1.2 Constitutional Debt Limit
1.2.1 Debt Limit
1.2.2 Purpose of Debt Limit
1.2.3 Scope of Debt Limit – When Does the Debt Limit Apply?
1.2.4 Exceptions to the Debt Limit
1.2.4.1 Current Fiscal Year Exception
1.2.4.2 Annual Appropriation Exception
1.2.4.3 Lease Exception (the “Offner-Dean Lease Exception”)
1.2.4.4 Special Fund Exception
1.2.4.5 Contingent Obligation Exception
1.2.4.6 Obligations Imposed by Law Exception
1.3 Common Strategies for Avoiding the Debt Limit
1.3.1 Lease Revenue Bonds and Certificates of Participation
1.3.2 Joint Powers Authorities
1.3.3 Revenue Bonds
1.4 Local Government Revenue Sources – Security for and Repayment of Debt
1.4.1 Determining the Category of Revenues
1.4.2 What Is a Tax?
1.4.3 Ad Valorem Real Property Taxes
1.4.4 Ad Valorem Real Property Taxes Securing Voter-Approved Obligations
1.4.4.1 Pre-Proposition 13 Obligations
1.4.4.2 Proposition 46 General Obligation Bonds
1.4.4.3 Proposition 39 General Obligation Bonds
1.4.5 General Taxes
1.4.6 Special Taxes
1.4.7 Assessments
1.4.8 Fees and Charges
1.4.9 Property-Related Fees and Charges
1.5 Charter Cities
1.5.1 Charter City Powers – Municipal Affairs vs. Statewide Concerns
1.5.2 Charter City Financing
1.6 The Initiative and Referendum Powers
1.6.1 Initiative Power and its Impact on Debt
1.6.2 Referendum Power and its Impact on Debt
1.7 Historical Overview of Voter-Approved Limitations on Local Government Revenues
1.7.1 Proposition 13 (1978), Jarvis-Gann Initiative
1.7.2 Proposition 4 (1979), Gann Limit Initiative
1.7.3 Proposition 46 (1986)
1.7.4 Proposition 62 (1986), Voter Approval of Taxes Act
1.7.5 Proposition 218 (1996), Right to Vote on Taxes Act
1.7.6 Proposition 39 (2000), School Facilities Local Vote Act of 2000
1.7.7 Proposition 26 (2010) Supermajority Vote To Pass New Taxes And Fees Act Or The Stop Hidden Taxes Initiative
Chapter 2. Debt Structures: What Factors Drive Structuring Decisions?
2.1 Overview
2.2 Structural Features Addressing How Debt Will Be Repaid
2.2.1 Sources of Revenue and Security for Repayment
2.2.2 Term and Interest Rate Mode
2.2.2.1 Long-Term, Fixed-Rate Debt
2.2.2.2 Short-Term Debt
2.2.2.3 Variable-Rate Debt
2.3 Structural Factors Addressing Risk and Investor Interests
2.3.1 Redemption or Prepayment
2.3.1.1 Mandatory Redemption
2.3.1.2 Extraordinary Redemption
2.3.1.3 Optional Redemption
2.3.2 Credit Enhancement and Liquidity Support
2.3.2.1 Bond Insurance
2.3.2.2 Debt Service Reserve Fund Surety Bonds
2.3.2.3 Letters of Credit
2.3.2.4 Lines of Credit and Standby Bond Purchase Agreements
2.3.3 Interest Rate Swaps and Synthetic Structures
2.4 Other Common Document Provisions
2.4.1 Application of Proceeds
2.4.2 Source of Payment; Pledge
2.4.3 Funds and Accounts; Flow of Funds
2.4.4 Debt Service Reserve Fund
2.4.5 Covenants
2.4.5.1 Debt Covenants
2.4.5.2 General Financial Covenants
2.4.5.3 Property Covenants
2.4.5.4 System Covenants
2.4.6 Additional Debt
2.4.6.1 Additional Debt Issued under Existing Bond Documents
2.4.6.2 Additional Debt Payable from the Same Source
2.4.6.3 Additional Debt Test Calculations
2.4.7 Investments
2.4.8 Events of Default and Remedies
2.4.8.1 Events of Default
2.4.8.2 Remedies
2.4.9 Fiduciary Rights and Duties
2.4.10 Discharge and Defeasance
2.4.11 Amendments
2.4.11.1 Amendments Not Requiring Debt Holder Consent
2.4.11.2 Amendments Requiring Debt Holder Consent
2.4.11.3 Amendments Requiring the Consent of Each Affected Debt Holder
Chapter 3. Types of Debt Obligations Issued by Public Agencies
3.1 Introduction: What Constitutes A “Type” Of Debt Obligation
3.1.1 Security and Source of Payment
3.1.2 Payment Term and Interest Rate
3.1.3 Tax Treatment
3.1.4 Unique Public Agency Financings that Address Legal Constraints or Public Policy Issues
3.1.5 Purposes for Which Debt is Incurred
3.1.6 Types of Debt Instruments
3.2 Diagrams of Basic Debt Obligations
3.2.1 Direct Debt Obligation
3.2.2 Debt Obligations Issued on behalf of a Borrower
3.2.3 Lease-Supported Debt
3.3 Types of Debt Obligations Organized by Security and Source of Payment
3.3.1 Local Agency General Obligation Bonds
3.3.2 General Fund Obligations
3.3.2.1 Lease Revenue Bonds and Certificates of Participation
3.3.2.2 Pension Obligation Bonds
3.3.3 Sales Tax Revenue Bonds
3.3.4 TRANs and RANs
3.3.5 Teeter Bonds
3.3.6 Enterprise Fund Debt Obligations
3.3.6.1 Public Enterprise Revenue Bonds
3.3.6.2 Public Enterprise Revenue Installment Sale Agreements
3.3.7 Special Assessments, Special Taxes, and Tax Increments
3.3.7.1 Assessment Bonds
3.3.7.2 Mello-Roos Bonds (Community Facilities Districts)
3.3.7.3 Redevelopment Agencies
3.3.7.4 Enhanced Infrastructure Financing Districts
3.3.8 Single-Family Mortgage Revenue Bonds
3.3.9 Conduit Revenue Bonds
3.3.9.1 Exempt Facilities
3.3.9.2 Small Manufacturing Facilities
3.3.9.3 Health Care
3.3.9.4 Education
3.3.9.5 Multifamily Housing
3.4 Interest Rate and Payment Terms
3.4.1 Long-Term, Fixed-Rate Debt
3.4.2 Long-Term, Variable-Rate Debt
3.4.2.1 Index Debt
3.4.2.2 Tender or Demand Obligations
3.4.3 Commercial Paper
3.5 Tax Treatment of Municipal Bonds
3.6 Unique Public Agency Financing to Address Legal Constraints
3.6.1 Financing Leases
3.6.2 Installment Sale Agreements
3.6.3 Certificates of Participation
3.6.4 Joint Powers Agency or Authority (JPA) Bonds and Other Issuances
3.7 Other Obligations
3.7.1 Direct Loans
3.7.2 Direct Leases
3.7.3 Bond Anticipation Notes and Grant Anticipation Notes
3.7.4 Other Tax and Fee-Secured Debt
3.7.5 Asset Securitization
3.7.6 Refunding Bonds
3.7.7 Pool Bonds
3.8 Joint Exercise of Powers Agencies
3.9 State Financings
3.9.1 State General Obligation Bonds
3.9.2 State Public Works Board Lease Revenue Bonds
3.9.3 Revenue Anticipation Notes
3.9.4 Financings for State Enterprises
Chapter 4. Federal and State Tax Law Requirements
4.1 California Tax Exemption
4.2 Obligations of a State or a Political Subdivision
4.2.1 General
4.2.2 Political Subdivision – Sovereign Powers Requirement
4.2.3 “On Behalf of” Issuers
4.2.3.1 Constituted Authorities
4.2.3.2 63-20 Corporations
4.2.4 Other Issuers
4.3 What is an Issue of Debt?
4.4 Capital Expenditure Financings
4.4.1 Issue Sizing and Term
4.4.2 Costs of Issuance
4.4.3 Capitalized Interest
4.4.4 Reserves
4.4.5 Reimbursement of Prior Expenditures
4.5 Cash Flow Borrowings
4.6 Governmental Bonds/Private Activity Bonds
4.6.1 Private Business Use
4.6.1.1 De Minimis Private Business Use Exceptions
4.6.1.2 Measurement of Private Business Use
4.6.1.3 Management, Operating, and Service Contracts
4.6.1.4 Output Facilities
4.6.2 Private Security or Payment Test
4.6.3 Private Loan Test
4.7 Qualified Private Activity Bonds
4.7.1 Categories of Qualified Private Activity Bonds
4.7.1.1 Exempt Facility Bonds
4.7.1.2 Multifamily Housing Bonds
4.7.1.3 Single-Family Mortgage Revenue Bonds
4.7.1.4 Student Loan Bonds
4.7.1.5 Qualified Small-Issue Bonds
4.7.1.6 Qualified Redevelopment Bonds
4.7.1.7 Qualified 501(c)(3) Bonds
4.7.2 Additional Requirements Applicable to Qualified Private Activity Bonds
4.7.2.1 Volume Cap
4.7.2.2 TEFRA Public Requirements
4.7.2.3 Useful Life Limitations
4.7.2.4 Land and Used Property Limits
4.7.2.5 Cost of Issuance Limit
4.7.2.6 Certain Prohibited Facilities
4.7.2.7 Substantial User Restriction
4.8 Arbitrage Yield Restriction
4.8.1 General
4.8.2 Bond Proceeds
4.8.2.1 Categories of Proceeds
4.8.2.2 Expenditure of Gross Proceeds
4.8.3 Yield
4.8.3.1 Fair Market Value Rules
4.8.3.2 Guaranteed Investment Contracts
4.8.4 Arbitrage Yield Restriction Exceptions
4.8.4.1 Initial Temporary Period
4.8.4.2 Bona Fide Debt Service Funds
4.8.4.3 Reserve Funds
4.8.4.4 Other Exceptions
4.8.5 Yield Restriction; Yield Reduction Payments
4.9 Arbitrage Rebate
4.9.1 Rebate Exceptions
4.9.1.1 Small Issuer Exception
4.9.1.2 6-month Expenditure Exception
4.9.1.3 18-Month Expenditure Exception
4.9.1.4 2-Year Expenditure Exception
4.9.2 Penalty in Lieu of Rebate
4.10 Additional Federal Tax Law Requirements
4.10.1 Registration
4.10.2 No Federal Guarantee
4.10.3 Information Reporting Requirements
4.10.4 Limitations on Pooled Financing Loans
4.11 Bank Qualified Bonds
4.12 Refunding Bonds
4.13 Tax Risk
Chapter 5. Sale of Municipal Debt
5.1 What is a public offering?
5.1.1 Sale Methods – Competitive or Negotiated Sale
5.2 Competitive Sales
5.2.1 Advantages of a Competitive Sale
5.2.2 Disadvantages of a Competitive Sale
5.2.3 Documentation for a Competitive Sale
5.3 Negotiated Public Offerings
5.3.1 Advantages of a Negotiated Public Offering
5.3.2 Disadvantages of a Negotiated Public Offering
5.3.3 Documentation for a Negotiated Public Offering
5.3.4 Pricing of a Negotiated Public Offering
5.4 Costs of Issuance
5.4.1 Direct Costs of Issuance
5.4.2 Underwriting Fees and Expenses
5.5 Private Placements
5.5.1 Documentation Used in Private Placement Transactions
5.5.2 Direct Loans
5.5.3 Alternative Financing Considerations
5.6 Credit Ratings
5.6.1 What Credit Ratings Mean
5.6.2 The Credit Rating Process
5.7 How Bonds Are Marketed to Investors
5.7.1 Marketing Strategy
5.7.2 Targeting Investors
5.8 Improving Transparency and Investor Access to the Municipal Market
5.8.1 Investor Relations and Outreach
Chapter 6. Securities Laws Pertaining to Municipal Debt
6.1 Federal Securities Laws
6.1.1 Antifraud Rules
6.1.2 Governing Board Responsibilities
6.1.3 Secondary Market Disclosure
6.1.4 SEC Enforcement Actions
6.1.4.1 Recent SEC Enforcement Focus
6.1.4.2 Lessons from SEC Cases
6.2 Roles and Responsibilities of Other Financing Participants
6.2.1 Municipal Advisors and Underwriters
6.2.2 Attorneys
6.3 The Official Statement
6.3.1 Role and Purpose of the Official Statement and the Preliminary Official Statement
6.3.2 Contents of the Official Statement
6.3.3 Disclosure Standards and Guidance
6.3.4 Transactions with Credit or Liquidity Support
6.3.5 Conduit Offerings
6.4 Other Marketing Activities and Other Public Statements
6.5 State Securities Laws
6.5.1 California State Securities Laws
6.5.2 Securities Laws in Other States
Chapter 7. Additional Requirements Imposed on Issuers of Municipal Debt
7.1 Reporting to the California Debt and Investment Advisory Commission
7.1.1 Report of Proposed Debt Issuance
7.1.2 Report of Final Sale
7.1.3 Annual Debt Transparency Report
7.1.4 Mello-Roos Community Facilities District Reports
7.1.5 Marks-Roos Reports
7.2 Other Reporting Requirements Imposed on Issuers of Municipal Debt
7.2.1 Local Bond Disclosures
7.2.2 Local Issuer Bond Accountability
7.2.3 Joint Powers Authority Notices
7.2.4 General Obligation Bond Issuance Costs
7.2.5 School and Community College Bond Issuance Costs
7.2.6 Mello-Roos Community Facilities Reports
7.2.7 California Debt Limit Allocation Committee Reports
7.3 Prohibition of Gift of Public Funds
7.4 California Environmental Quality Act
Chapter 8. Post-Issuance Debt Management Requirements
8.1 A Framework for Managing Bond Funds
8.1.1 Bond Documents
8.2 Elements of Post-Issuance Compliance
8.2.1 Establishing a Compliance Program
8.2.2 Maintaining Tax-Exempt Status
8.2.3 Recordkeeping and Reporting
8.2.4 Accounting Records
8.2.5 Written Procedures
8.2.6 Compliance Checklists
8.2.7 Audit Review
8.3 Post-Issuance Federal Tax Law Requirements
8.3.1 Post-Issuance Tax Compliance Programs
8.3.2 Tracking and Allocating Bond Proceeds
8.3.3 Monitoring Use of Bond-Financed Property
8.3.4 Monitoring Investment Income and Arbitrage Compliance
8.3.5 Arbitrage Rebate
8.3.6 Recordkeeping and Retention
8.3.7 Changes in Use of Bond-Financed Property
8.4 Continuing Disclosure
8.4.1 Annual Reports
8.4.2 Event Notices
8.4.3 Exceptions to SEC Rule 15c2-12 Continuing Disclosure Requirements
8.4.4 Incentives for Compliance
8.5 Other Disclosures to the Market
8.5.1 Audited Financial Statements
8.5.2 Informal Statements and Websites
8.5.3 Questions from Investors
8.5.4 Managing Disclosure Risk
Chapter 9. Investment of Bond Funds
9.1 A Team Approach to Investing Bond Funds
9.2 Types of Funds Available for Investment
9.2.1 Project Fund
9.2.2 Capitalized Interest Fund
9.2.3 Debt Service Reserve Fund
9.2.4 Debt Service Funds
9.2.5 Refunding Escrow Funds
9.3 Investment Authority and Controlling Documents
9.3.1 Statutory Authority
9.3.2 Bond Document Provisions
9.3.3 Investment Policies
9.4 Common Types of Investments for Bond Funds
9.4.1 Permitted Investments
9.4.2 Investments Specific to Bond Funds
9.5 Legal and Investment Considerations
9.5.1 Arbitrage Rebate and Yield Restriction
9.5.2 Investment Considerations
9.6 Investment Review and Oversight
Appendix A. Legal References
A.1 California Consitution Provisions Relating to Local Public Agency Debt
A.2 Authority for Cities, Counties and K-14 School Districts to Issue Debt
A.3 Organic Statutes of Specific Entities Authorized to Issue Debt
A.4 Joint Powers Agencies/Authorities
A.5 Financing Tools Contained in Statute
A.6 General Bond Statutes
A.7 Other Helpful Statutes
Appendix B. School Finance
B.1 School Facility Finance
B.1.1 Overview of School Facility Financing
B.1.1.1 School Facility Finance Before Proposition 13
B.1.1.2 Proposition 13
B.1.2 State-Level Facility Funding
B.1.3 School District Financing Options
B.1.3.1 Local General Obligation Bonds
B.1.3.1.1 Process for Approval of Local School District GO Bonds
B.1.3.1.2 GO Bond Structures
B.1.3.1.3 Policy Considerations for Issuing GO Bonds
B.1.3.2 School Facilities Improvement Districts
B.1.3.3 Certificates of Participation/Leases
B.1.4 Other Financing Sources
B.1.4.1 Community Facilities Districts/Mello-Roos Bonds
B.1.4.2 Developer Fees
B.1.4.3 Parcel Taxes
B.1.5 Additional Financing Tools for School Districts
B.1.5.1 Tax and Revenue Anticipation Notes
B.1.5.2 Bond Anticipation Notes
B.1.5.3 Refunding Bonds
B.1.6 Other Types of Education Providers in California
B.1.6.1 Charter School Facilities
B.1.6.2 Nonprofit and Religious School Facilities
Appendix C. Additional Sources of Information
C.1 Policy Related and Educational Resources for Public Finance
C.1.1 State and Local Organizations
C.1.2 National Organizations
C.2 Regulatory Resources
C.3 Credit Rating Agencies
C.3.1 Regulatory Oversight
C.3.2 Commonly Used Credit Ratings in the Municipal Market
C.4 State Finance and Joint Powers Authorities with Statewide Jurisdiction
C.4.1 State Finance Authorities
C.4.2 JPAs (Joint Powers Authorities/Agencies)
C.4.3 Other Financing Resources
C.4.4 Other Resources for Local Agencies
Appendix D. Municipal Bankruptcy
D.1 Public Agencies and Bankruptcy
D.1.1 Eligibility
D.1.2 Process
D.1.3 Advantages and Disadvantages
Appendix E. Glossary of Terms
Appendix F. Index
A
B
C
D
E
F
G
H
I
J
K
L
M
N
O
P
Q
R
S
T
U
V
W
X
Y
Z
Non Index Concepts
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Appendix D. Municipal Bankruptcy
Appendix D. Municipal Bankruptcy