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6.5. SR 10-03-2011Ji Elk REQUEST FOR ACTION .`~.. River To Item Number City Council 6.5. Agenda Section Meeting Date Prepared by Administration October 3, 2011 Tim Simon, Finance Director Item Description Reviewed by ~~ Update to the City of Elk River Debt Policy Robert Thistle, Interim City Administrator Reviewed by Action Requested City Council is asked to consider the updated City of Elk River Debt Policy. Background/Discussion One of the goals for the finance department is to review and update all financial policies. During the last bond rating call with Standard and Poor's, they made comment that our policy could be more comprehensive (in regards to policy limits, financial limits, variable rate debt, and derivatives) than it is currently written. In anticipation of the upcoming public works expansion/remodel project, I have been reviewing samples from the Government Finance Officers Association (GFOA) and other cities, in addition to discussions with Ehlers. I have attached a draft copy of the new policy for the Council to consider. In regards to the policy and financial limits, we are currently below the guidelines established. I will continue to monitor these and make recommendations to the City Council if we start to get close to the limits. Ehlers has also reviewed our updated debt policy and likes the way it is more detailed and addresses the items from the last rating call. The current polity is printed below for reference: Debt It is not in the best interests of the City to finance capital investment on a cash only basis. Saving the money needed to undertake large capital projects may prevent the City from providing needed improvements in a timely manner and/or create unacceptable demands on revenues. A cash-only approach places the entire financial burden on residents that precede the project. Persons that follow the improvement and receive its benefit do not pay. The City will maintain operating reserves at sufficient levels to prevent the need for short-term borrowing in anticipation of the receipt of revenues, grants, or other funds. Temporary financing will be used only when, in the judgment of the City Council, short-term debt serves the best interests of the City. Factors that favor the use of temporary debt include potential for large variations in project expenses, potential for future lower interest rates, ability to reduce long-term debt, and the ability to better manage taxes and other revenues. All bond issues and other obligations shall be repaid before the end of the useful life of the financed asset. N:\Public Bodies\City Council\Council RCA\Agenda Packet\10.03-2011 \updateddebtpoliry[1].docx The City will strive to repay all debt within the shortest practical period of time. Debt should not be amortized over more than 20 years. At least 50% of all outstanding principal should be retired within the next 10-year period. The amount of outstanding debt is not limited to a specific amount or ratio. In managing its debt, the City Council will balance need with the ability to raise revenues to pay debt service. The City will plan debt to avoid issuing more that $10,000,000 in tax-exempt bonds during any calendar year and apply "bank qualified" status to all issues. The City will strive to avoid arbitrage rebate and reporting by (a) not issuing more that $5,000,000 in tax-exempt bonds during any calendar year or (b) expending bond proceeds within the time limitations for rebate exemption imposed by federal regulations. The City minimizes the amount of debt supported by property taxes by making maximum use of special assessments, utility revenues, and other non-tax sources to support debt. Standard & Poor's currently assigns an "AA+" rating with a stable outlook to the general obligation debt of Elk River. The City shall strive to maintain or improve upon the current rating to achieve the broadest market and lowest interest rates for City bonds. The City will maintain open communications with bond rating agencies about its financial condition. The City will follow a policy of full disclosure in every financial report and bond prospectus. The City will comply with Securities Exchange Commission (SEC) reporting requirements and regulations on continuing disclosure as they apply to each bond issue. The City retains the services of an independent financial advisor to assist City Staff with the issuance and management of debt. City Staff, with the assistance of the financial advisor, shall monitor outstanding debt and advise the City Council on ways to reduce the debt burden through refinancing at lower interest rates and the early retirement of bonds. Bonds shall not be refunded for savings unless the present value of the savings exceeds 3% of the refunded principal and 125% of costs of issuance plus underwriter's discount. Financial Impact N/A Attachments ^ City of Elk River updated Debt Policy ^ Government Finance Review, August 2011 edition, page 50 Action Motion by Second by Vote Follow Up N:\Public Bodies\City Council\Coundl RCA\Agenda Packet\10-03-2011\updateddebtpolicy[1].docx City Of Elk River Debt Policy The City of Elk River has chosen, by policy, to guide its issuance of debt by following the guidelines listed below. These practices were identified through examination of materials from state statutes, bond rating agencies, and the Government Finance Officers Association (GFOA). This policy can be amended in the future by the City Council, but is consistent with general municipal practices at the time of its adoption. Policy Adoption In accordance with the authorities cited in the background section, the City of Elk River will use the following policies in determining when and how to use debt for financing capital and equipment needs. Debt Limits a. Legal Limits: i. Minnesota Statutes, Section 475 prescribes the statutory debt limit that outstanding principal of debt cannot exceed 3% of taxable market value~This limitation applies only to debt that is wholly tax-supported. The type of debt included is either general obligation debt of any size bond issue (G.O.) or lease revenue bond issues that were over S l .Ot1U,D00 at the time of issuance. However, there are also several other types of debt that do not count against the limit. CJ.O. tax incrcnlcllt, G.O. abatement G.O. special assessment, G.O. utility revenue, and most HRA or EDA-issued debt is considered to hay c a separate revenue source other than just taxes and so are excluded iiom the legal debt limit calculation. HRA and EDA public project revenue bonds or lease revenue bonds with financing lease agreement with a city or county do count against the statutory debt limit. ii. Local ordinances do not limit the City's ability to issue debt. b. Policy Limit.: i. Uses of Debt: Debt will be used only for capital costs. The City «~ill not utilize debt for cash flow borrowing, even though this is allo~~~cd by state statutes. ii. CII' and Financial Planning: The City's capital improvement plan shall contain debt assumptions which match this policy and requires a commitment to long range financial planning which looks at multiple years of capital and debt needs. iii. Tax Increment Bonds: The City shall use G.O. Tax Increment Bonds only when the development merits special consideration. c. Financial Limits: i. Bond issues may require a special debt levy. The City hereby adopts a policy to limit the amount of the city's property tax levy dedicated to debt service (principal and interest plus 5% for G.O. bonds) to less than 20% of the total tax levy. Unlike rating agencies, the City's definition of tax levy does not include special assessments, tax abatements, or tax increments. ii. Pure revenue bond debt for the City shall be used primarily as lease revenue bonds, supported by taxes. The City may use revenue bonds for enterprise, electric and water utility operations, but only if debt service coverage achieves investment grade rating from the City's rating agencies. II. Use of Variable Rate Debt and Derivatives a. Variable Rate Debt. The City shall use variable rate debt only if total principal and interest of the debt constitutes less than 20% of the City's total debt payments and only if circumstances dictate the need for a short call date. b. Derivatives. The City will not use derivative based debt. III. Debt Structuring Practices a. Term: State law limits general obligation debt to 30 years inmost circumstances. The City shall not exceed 2~ years in term of debt. b. Term for Equipment: The city has a ~~~~i1 of paying for all capital equipment with a useful life of five years car less from cash reserves or annual operating budgets. State law does allow cities to issue debt (known as equipment certificates or capital notes) with a term often years or the useful life of tlzc equipment if it is at least 10 years. The city would prefer, within the bounds of levy limits, to fund capital equipment on a pay-as- you-go basis. Capital equipment with a useful life greater than five years may he financed .a it:h debt, but the bondterm should not exceed ten years. c. The Cit~'~ collecti~ e debt goal shall be to amortize at least 50% of its principal within 10 years. ~` d. The City shall usuall _~~ issue debt with level principal and interest payments. e. The City shall have a call date (pre-payment date) of no longer than 10 years on longer term debt and 6 to 8 years on shorter-term debt. IV. ~ Debt Issuance Practices a. Rating .-~ ~encies: The City utilizes Standard and Pooi•'s for all of its debt issuance of more than $1 M or longer than 3 years in term. b. Method of Sale: The City shall use competitive bidding for all of its debt unless the debt is so specialized in its nature that it will not attract more than 2 bids. c. Refunding: i. Advance refunding bonds shall not be utilized unless present value savings of 4% to 5% of refunded principal is achieved and unless the call date is within 4 years. The state law minimum is 3% of refunded principal. Bonds shall not be advance refunded if there is a reasonable chance that revenues will be sufficient to pre-pay the debt at the call date. ii. Current refunding bonds shall be utilized when present value savings of 3% of refunded principal is achieved or in concert with other bond issues to save costs of issuance. iii. Special assessment or revenue debt will not be refunded unless the Finance Director determines that special assessments or other sufficient revenues will not be collected soon enough to pay off the debt fully at that call date. d. Professional Services. The City shall use an outside bond attorney and an independent financial advisor to structure the sale. V. Debt Management Practices a. Investment of bond proceeds. The City shall invest bond proceeds in a capital project fund. b. Disclosure: The City shall comply with SEC rule 15(c)2(12) on primary and continuing disclosure. Continuing disclosure reports shall be filed no later than 180 days after receipt of the City' ~ annual financial report. c. Arbitrage Rebate: The City shall complete an arbitrage rebate report for each issue no less than every five years after its date of issuance. Exhibit 3: San Luis Obispo's Budget and Fiscal Policy Areas • Financial Plan Purpose and Organization • Balanced Budget • Financial Reporting • General Revenue Management • User Fee Cost-Recovery Goals • Enterprise Fund Fees and Rates • Revenue Distribution • Investments • Appropriations Limits • Minimum Fund Balance • Capital Improvement Management • Capital Financing and Debt Management • Human Resource Management • Productivity • Contracting for Services As Exhibit 1 shows, not all cities with policies had the same ones, or had fully achieved them. However, those cities with articulated policies were clearly in better financial condi- tion than those without them. Exhibit 2 shows the results of a follow-up survey ten years later, when all of these cities in the county had adopted minimum reserve policies and were closely following them. San Luis Obispo has used formal policies as an integral part of its financial planning and budgeting process for more than 20 years, which has served the city well in both good times and bad. (The fact is that for most governments, the roots of fiscal adversity take hold in the good times, when they make commitments that are not sustainable.) As shown in Exhibit 3, the ciys's budget and fiscal polices, which are included in its budget document, cover a broad range of areas. (The document is available for download on the city's Web site at www.slociry.org/finance/policies.asp.) Of these, the debt management policies have played an especially important role in preserving the city's long-term fiscal health. PRPARII'~ i.3~Bl` MANA;~~~ Pt~LiiFS There are no right answers in preparing debt management policies, only right questions. These include: Who prepares them? Who approves them? Who sees them? Exhibit 4: Fitch Ratings: Best Practices Impact on Ratings Very Significant • Fund balance policy • ebt a~aabflity reviews and po Signif cant • Pay-as-you-go capital financing • Multi-year forecasting • Monthly or quarterly reporting/monitoring • Quick debt retirement Influential • Contingency plans • Non-recurring revenue policy • Depreciation of fixed assets (GASB 34 implementation) • 5-year capital improvement plan integrating operating cost impacts • GFOA financial reporting award • GFOA budgeting award Who is the audience? How detailed should they be? How often are they reviewed and updated? The importance of effective debt management policies is reflected Exhibits 4 and 5, which summarize the role fiscal polices play in the formal assessment process of two major credit ratings agencies, Standard & Poor's and Fitch Ratings. In each case, debt affordability is a key factor in assessing financial strength. Exhibit 5: Standard & Poor's Top 10 Practices Financial Management Assessment Methodology • Established budget reserve • Regular economic and revenue reviews • Prioritized spending plans and established contingency plans • Formal capital improvement plan • Lon~term~lann'Ing~,~~, `Debt affordabilit model • Payl~as-you-go financing • Multi-year financial plan • Effective management and information systems • Well-defined and coordinated economic development plan 50 Government Finance Review I August 2011