Joseph Krist

Publisher

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NEW YORK CITY PROPERTY TAXES

New York City’s property tax scheme has always created wide disparities in how individual properties are valued and taxed. This has created tax burdens unrelated to ability to pay and has wound up creating valuations in high value neighborhoods which result in lower tax burdens for those with the ability to pay versus those who face constrained incomes. One example – Co-ops and condos are not taxed at their true market value under the current system, but rather on the income generated by similar rental buildings.

The Commission recommends moving coops, condominiums and rental buildings with up to 10 units into a new residential class along with 1-3 family homes. The property tax system would continue to consist of four classes of property: residential, large rentals, utilities, and commercial. It calls for a sales-based methodology to value all properties in the residential class and for assessing every property in the residential class at its full market value. It wants annual market value changes in the new residential class be phased in over five years at a rate of 20% per year, and that Assessed Value Growth Caps should be eliminated. A partial homestead exemption for primary resident owners with income below a certain threshold is another recommendation. The exemption would be available to all eligible primary resident owners in the residential class and would replace the current Coop-Condo Tax Abatement.

The changes could affect 90 percent of all homeowners in New York City, according to the commission chairman. The City Council and the State Legislature would both have to approve any changes which create significant hurdles to implementation. For that to happen, lots of opposition on the ground will have to be overcome as there is no constituency for paying more especially with the Legislature up for reelection in November.

NYC IBO BUDGET ANALYSIS

The Independent Budget Office for the City of New York has released its preliminary review of Mayor Bill de Blasio’s proposed budget. IBO projects a fiscal year 2020 surplus of $2.66 billion—$65 million less than the  de Blasio Administration. It estimates a surplus of $240 million in 2021 and a shortfall of $1.7 billion in 2022. IBO’s forecast of tax revenue exceeds the de Blasio Administration’s by $210 million this year, rising to $644 million in 2021 and $906 million in 2022. IBO forecasts tax revenue growth of 5.0 percent this year, slowing to increases of 2.6 percent and 3.4 percent over the next two years. It projects that tax revenues will increase more rapidly than city-funded expenditures from 2019 through 2024.

On the expenditure side, IBO projects that the city’s cost of providing shelter for the homeless will be $216 million more in 2021 than budgeted by the de Blasio Administration. That finding combines with a less optimistic view of the city’s budget cushion than that of the Mayor. IBO projects the fiscal year 2020 surplus will total $2.66 billion, $65 million less than expected by OMB. This as IBO forecasts a sharp decline in employment growth over the next two years. That reflects projected slower employment growth across all private-sector industries. education and health services are expected to be the primary employment drivers but the health sector could be negatively impacted by proposed state budget cuts.

CYBER SECURITY RISKS NOW CLEAR

The credit risk associated with a ransomware attack has now been made clear to municipal bondholders. Pleasant Valley Hospital in West Virginia was the victim of such an attack. It now is reporting that the cost of recovering from the attack and the ransom demand it ultimately resulted in have materially impacted its credit. Because of the attack, the hospital was forced to spend about $1 million on new computer equipment and infrastructure improvements. It has occurred at a time when the hospital was already experiencing a decline in patient volumes which negatively impacted revenues.

The result is that financial performance has been inadequate and the bond trustee for the hospital has notified bond holders that the hospital’s debt service coverage for the fiscal year that ended on Sept. 30 to fall to 0.78 times. That is substantially below the 1.20 times debt service coverage the loan agreement requires, according to the material notice to bondholders.

This event shines a light on the problems our industry has had with dealing with the issue of cybersecurity risk. While the hospital has disclosed about the level of unplanned remedial spending it was forced to do, it did not answer one key question which investors should be interested in – was the ransom paid. The hospital declined to deal with that leaving its cybersecurity insurer to answer which it declined to do.

If cyber attack victims begin to be seen as willing payers of ransoms, we believe that the level and volume of these incidents will continue. Recent incidents have led to payments (mostly healthcare providers) in response to demands. Governments have seemed less willing to do so. This will increase the risk associated with healthcare credits even more if they make themselves into a target rich sector.

CALIFORNIA DAMS BACK IN THE NEWS

The California State Auditor recently issued the results of an audit of conditions and inspection practices at the over 1200 dams in the state. Unsurprisingly, it found that the State’s flood control structures, like the highway system, are aging and deteriorating. California experienced exceptional levels of precipitation in the winter of 2016–17 caused by a series of atmospheric rivers that caused flooding throughout the State and exposed vulnerabilities in the flood control infrastructure. In early 2017, after multiple storms, a large hole broke open in the main spillway of the Oroville Dam. Dam operators decreased the outflow to minimize the damage, but with the heavy rain and quickly rising water levels on Lake Oroville, the reservoir filled and water crested over the emergency spillway for the first time in the dam’s history. The runoff caused the upper portion of the hillside below the emergency spillway to erode rapidly, and county officials ordered the evacuation of approximately 180,000 downstream residents until the risk of flooding could be reduced.

Oroville Dam is just the most prominent example. According to the Auditor, most of the major dams in the State are vulnerable, with a median construction date of 1955. Data from the dams safety division show that, as of August 2017, 98 of the 1,249 dams throughout California are in less‑than‑satisfactory condition due to seismic, structural, and other deficiencies. Many of the dams in less‑than‑satisfactory condition are near urban areas in the Bay Area, Southern California, and the Central Valley and, as a result, pose an extremely high downstream hazard potential. Data from the dams safety division show that it has placed restrictions on 39 percent of the dams in the State that are in less‑than‑satisfactory condition.

It must be noted that a significant number of these structures are privately owned and operated. Although the State is responsible for regulating and supervising the construction and repair of major dams, improvements to dams are ultimately the responsibility of their owners, who are generally not state or federal agencies. The state requires that by 2021 all dams—except those with low hazard potential—must submit emergency action plans and make those plans publicly available. That will provide a better measure of the potential level of demand for capital investment needed to address the problem.

It is likely that municipal bond financing will be involved.

PENNSYLVANIA TURNPIKE COURT VICTORY

On 27 January, the US Supreme Court denied the Owner Operator Independent Drivers Association’s (OOIDA) petition for a writ of certiorari to review the Third Circuit’s decision to affirm the lower court’s dismissal of OOIDA and other plaintiffs’ lawsuit against the Pennsylvania Turnpike Commission  and the Commonwealth of Pennsylvania. The denial of OOIDA’s petition is credit positive for the PTC and the state because it provides near final clarification on the legality of the funding laws that use PTC tolls for non-system needs, including other transportation and transit needs in the state.       

After a long period of infrequent toll increases, the Commonwealth decided earlier in the last decade to raise tolls and generate excess revenues to be used to address local capital needs supporting the state’s road system. This funded an annual transfer from the Turnpike Commission of $450 million. That raised the ire of the trucking industry which felt it was being singled out as a source of funding as they believed that the bulk of the increased toll burden fell on them. Hence, the litigation against the PTC and the commonwealth. The plaintiffs alleged the PTC, the state and others violated the dormant commerce clause and the constitutional right to travel by charging higher tolls on the turnpike system to fund other state transportation needs, like capital needs of the state’s transit enterprises.

Existing state statute requires the annual PTC transfer to the state to decline to $50 million from $450 million starting in fiscal 2023. To address the issue of funding for local roads, Act 89 identified the Motor Vehicle Sales and Use Tax as the replacement source of revenue to fill the funding gap that will materialize when the transfers decline.  The funding plan to use turnpike revenue had real negative credit impacts for the PTC. The PTC currently has $6.7 billion of subordinate debt outstanding that was issued to fund these transfers to date and it will rise through fiscal 2022. The pressure to support that debt and maintain the Turnpike led to rating declines. The favorable court decision is credit positive for the PTC.

Nonetheless, the impact of the litigation outcome is uncertain. In the aftermath of the decision, there are concerns that the unsuccessful legal challenge could still encourage the Legislature to abandon plans to use different revenues to fund the state’s local road needs. While this is a legitimate concern, the current atmosphere in the State legislature supports speeding up the shift from turnpike revenues to the fuel revenues. This uncertainty will slow actual rating improvement but the current environment makes for a better trading environment for Turnpike debt.

PUERTO RICO

Holders of municipal bond debt issued on the behalf of the Puerto Rico Employees Retirement System have had a bad run in the federal courts. The latest blow to their case occurred when a U.S. Appeals Court ruled that bondholders’ claim on the assets of Puerto Rico’s public employee pension system ended when the system filed for bankruptcy in May 2017. The First Circuit Court of Appeals affirmed Federal Judge Laura Taylor Swain’s June, 2019 decision that bondholders’ claim on employer contributions to the U.S. commonwealth’s Employees Retirement System (ERS) did not extend into bankruptcy.

ERS’s assets include certain properties and investments that it had before requesting bankruptcy-like protection under Title Three of PROMESA, in May 2017. The First Circuit ruling clearly denies the access of SRE creditors to Public pension contributions. Those contributions include payments from employees so employees were effectively pitted against bondholders. Increasingly in recent bankruptcies, that has been a losing proposition for bondholders.

The financial oversight board took the view after the ruling that ” the commonwealth has no obligation to pay bondholders other than the value of encumbered assets in ERS when it commenced its case under Title III of PROMESA.” As things currently stand, the plan of adjustment the board filed in court in September for Puerto Rico’s core government debt and pension liabilities included an 87% haircut or value reduction for ERS bonds. 

The bondholders continue to face legal adversity. They are appealing the decision of Judge Swain who is overseeing the Title III proceedings from Jan. 7 denying their motion for the appointment of a trustee to pursue ERS claims arising from the oversight board’s role in the system’s bankruptcy.

The PREPA restructuring has hit another roadblock as the Governor and the Legislature’s leadership have come out against any rate increase for retail customers that might be part of a debt restructuring. Disagreements over rate increases have delayed hearings on a proposed restructuring have been delayed on five occasions as the parties attempt to marshal political support necessary to any restructuring agreement implementation. The existing proposal for an agreement with PREPA bondholders begins in the first year with a Settlement Charge of 1 cent per kilowatt hour. Then it increases to 3.46 c / kWh from the 2nd to the 4th year and to 3.7 c / kWh in the 5th year. This includes the basic Transition Charge plus the Subsidy Charge, which reaches up to 25% of the Transition Charge.

OHIO OPEB COST SHIFT

The Trustees of the Ohio Public Employees Retirement System approved changes in the funding of retiree health costs. Beginning January 1, 2022, for retirees who are Medicare-eligible — ages 65 and older — the monthly allowance provided by OPERS to offset health care costs will be reduced. The allowance currently ranges from $225 to $405, depending on age, years of service and retirement date. The lower allowances will range from $178 to $315.

Retirees under the age of 65 will no longer be covered by a group plan, where OPERS picks up between 51 percent to 90 percent of the cost. On average, retirees are paying $354 a month. Those employees will be expected to apply a monthly stipend towards the purchase of insurance on the open market and through the Affordable Care Act.

Clearly the state is shifting its cost base from itself to Medicare. Without the changes, OPERS projected that its $11.3 billion health care fund would run out of money by 2030. OPERS has $94 billion in assets for pension benefits and serves 1.14 million people. OPERS covers most of the city, county and state workers, has provided health care coverage to retirees since 1974.

In addition to the reduced healthcare benefit, OPERS hopes to have legislation enacted which would  eliminate the cost of living allowance given to retirees in 2022 and 2023 and delay the COLA for two years for all new retirees. 

Like many approaches to the “reform” of pension and OPEB funding, this one puts the onus of the recipients. It acknowledges that the political reality is that trustees want to explore the idea of asking lawmakers to increase the employer contribution rate to generate funds for health care coverage. Lawmakers and taxpayers are considered unlikely to embrace such a change.

Moody’s has declared the changes to be credit positive. We agree that reduced funding requirements are good for the state’s finances but the changes do create a couple of areas of risk. One is that the Trump Administration is focusing on supporting litigation to invalidate the Affordable Care Act. Should it succeed, one of the pillars of Ohio’s plan will be destroyed. Along with efforts to eliminate protections for patients with preexisting conditions, the availability of insurance for many individuals would be in question. If that occurs with no replacement, the state’s Medicaid burden could be significantly impacted.

We think that it will take an extended period to see if the overall health insurance structure which emerges over the next few years actually is positive for Ohio. If it is not, the economic impact on the state will be quite negative. Case in point follows below.

PROPOSED FEDERAL MEDICAID CHANGES

Medicaid has been in the news as it is at the center of the Fiscal 2020 budget process in New York State. While the State seeks to adjust and shift cost responsibilities for the program to county and local governments (a large chunk would come from New York City), a major wrench has been thrown into the works with the release of proposed changes from the Centers for Medicare and Medicaid (CMS).

This week, CMS released a proposal to states which would significantly alter federal funding for the program. CMS proposes to effectively cap annual federal spending for Medicaid by converting the funding mechanism to a block grant formula. According to CMS, the changes are intended “to provide states with a menu of maximum up-front flexibilities with which to design their program. It is clear from the letter containing the proposal that the goal is to limit spending, restrict access, and encourage the use of non-hospital facilities to provide services. The language belies the magnitude of the proposed changes.

Here are some examples:  The ability to impose additional conditions of eligibility, such as community engagement requirements for non-elderly, non-pregnant adult Medicaid beneficiaries who are eligible for Medicaid on a basis other than disability. That is bureaucratic speak for work rules. This despite consistent court rulings against the imposition of such requirements. In addition, states are finding that work requirement enforcement has not been successful due to difficulties with verification. Another is the ability to make certain changes in benefits, premiums, and co-payments during the course of the demonstration without the need for state plan or demonstration amendments and further approval by CMS. Providers are going to love that one whether they be individual practitioners or hospitals. Nothing helps financial planning or credit stability like the uncertainty such a system would provide.

Another would provide the ability to change eligibility and enrollment processes, such as eliminating retroactive eligibility. The changes would also provide the ability to make certain administrative changes during the course of a demonstration under the proposed changes, such as certain changes in provider payment rates and application of claims review prior to making payment, without amendments or further approval by CMS. providers would be unable to determine how much they might receive over the course of a year which would likely make it less likely that providers would like to participate.

Bottom line is that while some states see these proposals positively, the expansion of Medicaid has been an unqualified political success. Just about every time voters have had an opportunity to support Medicaid expansion under the ACA, they do. The do it in red states especially (Utah and Idaho, e.g.). Once Kansans got rid of their ideologue governor, Medicaid expansion was supported there as well. So the idea that the federal efforts to restrict healthcare access is not only a political winner but also a financial winner for states and counties just does not stand up to the facts.

The proposed cuts would hurt hospitals by reducing their revenues, reducing incentives to get care outside of a hospital setting (emergency rooms), and forcing them to rely on state funding to cover the increased charity care burden which will result. All of that is credit negative for hospital credits.

RURAL WOES CONTINUE

Now that the Muni Credit News has moved its headquarters to upstate New York, our existing focus on the unique credit and infrastructure needs of rural areas becomes more intense. In the midst of trade wars and commodity price uncertainties, we now have additional evidence of the difficulties facing rural economies. The latest evidence comes from Farm Bureau, an independent, non-governmental, voluntary organization which advocates for farmers. 

According to the Farm Bureau, while well below historical highs, Chapter 12 family farm bankruptcies in 2019 increased by nearly 20% from the previous year, according to recently released data from the U.S. Courts. Compared with figures from over the last decade, the 20% increase trails only 2010, the year following the Great Recession, when Chapter 12 bankruptcies rose 33%.

During the 2019 calendar year there were 595 Chapter 12 family farm bankruptcies, up nearly 100 filings from 2018 and the highest level since 2011’s 637 Chapter 12 filings. Given that there are slightly more than 2 million farms in the U.S., the 2019 bankruptcy data reveals a bankruptcy rate of approximately 2.95 bankruptcies per 10,000 farms, slightly below the rate of 2.99 filings per 10,000 farms in 2011.

During the fourth quarter of 2019, there were 147 Chapter 12 bankruptcy filings, which was up 14% from the prior year but down 8% from the third quarter of 2019. On a year-over-year basis, Chapter 12 filings have increased for five consecutive quarters. The continued increase in Chapter 12 filings was not unanticipated given the multi-year downturn in the farm economy, record farm debt, headwinds on the trade front and recent changes to the bankruptcy rules in 2019’s Family Farmer Relief Act, which raised the debt ceiling to $10 million.

Disclaimer:  The opinions and statements expressed in this column are solely those of the author, who is solely responsible for the accuracy and completeness of this column.  The opinions and statements expressed on this website are for informational purposes only, and are not intended to provide investment advice or guidance in any way and do not represent a solicitation to buy, sell or hold any of the securities mentioned.  Opinions and statements expressed reflect only the view or judgment of the author(s) at the time of publication, and are subject to change without notice.  Information has been derived from sources deemed to be reliable, but the reliability of which is not guaranteed.  Readers are encouraged to obtain official statements and other disclosure documents on their own and/or to consult with their own investment professional and advisors prior to making any investment decisions.