Toa Baja, a mid-sized city in Puerto Rico, shut down last Monday after failing to pay municipal employees for several weeks.  All public services have been suspended indefinitely. Could this be the future for other cities across Puerto Rico and on the US mainland?

Toa Baja, with a population of about 80,000 people, reported over $175 million in long term debt, according to its fiscal year 2015 financial statements.  This excludes $5.7 million in “Matured Bonds” – which were evidently in default. Meanwhile, the city’s general fund – essentially its checking account – ended the fiscal year with a negative balance of $14 million.

The shutdown is not a surprise for many of us in Puerto Rico, as Toa Baja’s finances have been deteriorating for some time. Back in 2004, the year before former mayor Anibal Vega Borges took over the municipality, Toa Baja had a positive general fund balance and less than $50 million in long term debt.  Over the next 12 years the city’s debt increased by a whopping 250%, while that of the Puerto Rico Commonwealth “only” grew by about 65% during the same period.  Mayor Vega Borges was popular until recently, winning the 2012 election with 65% of the vote.  He lost the primary this year to a member of his own party. Although this is good news for the people of Toa Baja, the road ahead for the new mayor will not be easy, and the chances for Toa Baja regaining financial stability are slim.

Unfortunately for Puerto Rico, there are the many other cases like that of Toa Baja going unnoticed. Let’s begin with Ponce, the Island’s fourth largest city. According a Financial Index constructed by our Center for Integrity in Public Policy (CIPP), Ponce has consistently among the most financially distressed municipalities since 2010. The city has over $324 million in long term debt and a negative general fund balance of $38 million. One might think that a city like this would change its ways, but during 2015 Ponce general fund expenditures exceeded revenues by $14 million, representing a 15% budget deficit for the year. Sadly, the people of Ponce were not as proactive as the people of Toa Baja: incumbent mayor Mayita Melendez was just reelected with 50% of the vote, almost the same percentage she received in 2012.

The town of Maunabo is another good example, as it also has one of worst fiscal scores on our index. Maunabo mayor Jorge Luis Márquez has been at the helm since 2001 and was also reelected with 50% of the vote in this past election. Although Maunabo’s long term debt of $18 million might not seem like much, it is substantial relative to its small population of 11,335 people.  And this is part of the problem in Puerto Rico: there are 33 municipalities with a population of less than 30,000 people. One might ask how these small municipalities finance their operations given Puerto Rico’s ongoing recession. This is where the Commonwealth government has stepped in – providing 77% of Maunabo’s general fund revenue in 2015. The municipality spends most of this aid on payroll. This includes the mayor’s salary of $54,000 a year, a hefty number considering that the median household income in Maunabo is only of $17,866.

We anticipate that as soon as next year other municipios like Toa Baja will have to shut down and seek a bailout. At least 25 cities currently receive more than 50% of their general fund revenue from Commonwealth appropriations, and like Maunabo most of this money is spent on payroll.  Total long term debt for all municipalities surpassed the $5 billion mark in 2015, and this number has grown at a faster rate than the Commonwealth’s debt.  Puerto Rico cities also have large public employee pension obligations that are not fully accounted for: many failed to implement new Government Accounting Standards Board pension reporting rules and all participate in a multi-employer retirement system that is 0% funded.

This municipal debt binge has gone unnoticed in the local and US media, with most of the attention going to the financial woes of the Commonwealth government and public corporations. But this situation should concern Puerto Rico’s creditors because the Commonwealth spends so much money on cities like Toa Baja, Ponce and Maunabo. Last year, Puerto Rico’s government provided over $500 million in grants and appropriations to the island’s cities, irrespective of their financial management.  The Commonwealth also facilitates most of the cities’ financing needs through the Government Development Bank – which recently became insolvent.

Municipal financial reform may not be possible within Puerto Rico’s political system. Mayors are a powerful interest group so they make change in the Puerto Rico Legislature very difficult. Recently, a lame duck legislator offered a bill to consolidate municipalities, but the bill did not even receive a public hearing. Although we are happy that Toa Baja got a new mayor, most cities in poor financial health were not as lucky. Sadly, the new mayor in Toa Baja will probably not be able to save his city: it is too deeply in debt. Barring intervention from the new financial oversight board, it is likely that other Puerto Rico cities will be closing their doors in the months and years ahead.

Arnaldo Cruz is co-founder of the Center for Integrity and Public Policy (CIPP), a local think tank in Puerto Rico. This past October the CIPP published its third annual Financial Health Index, a measurement tool developed to allow peer to peer comparisons among Puerto Rico’s 78 municipalities using standardized financial indicators. Citizens and other interested parties can go to CIPP’s municipal scoring website at http://fiscal.cipp-pr.org to check 2015 fiscal rankings.

(DeKalb, Illinois, September 27, 2016)

Northern Illinois University’s Center for Governmental Studies (CGS) and Department of Accountancy
announced the availability of a new draft taxonomy that will enable analysts to compare financial
information over time and between governmental units. In addition to being documented via
spreadsheet, this new taxonomy is expressed in machine-readable XBRL, short for Extensible Business
Reporting Language. The taxonomy standardizes basic reporting definitions so that financial
information is consistently and explicitly defined and because the reports can also be expressed in XBRL
using the taxonomy the information submitted by governments is immediately machine-readable and
easier to analyze. The taxonomy development is part of a national project in which NIU has collaborated
with partners including colleagues at Rutgers University, financial reporting tool industry leaders, along
with XBRL and other domain experts.

Dr. Shannon Sohl, a CGS researcher who is leading the taxonomy initiative, said “We are already pilot-
testing this taxonomy for the government-wide financial statements in two Illinois cities, Aurora and
Fulton, and are looking forward to working with other governmental entities in the state to establish
digital reporting standards.” In Illinois, the State Comptroller collects and publishes Annual Financial
Reports (AFRs) from local governments, but these reports are often inconsistent with audited
information contained within Comprehensive Annual Financial Reports (CAFRs) filed in PDF format by
the same governments. “Rather than have two sets of inconsistent disclosures which are difficult to
work with, we want to encourage the government finance community to standardize around one
machine-readable reporting format. This will reduce the amount of work and confusion for everyone
involved,” Sohl concluded.

Marc Joffe, principal consultant of Public Sector Credit Solutions, assisting CGS with inputs to the XBRL
taxonomy, noted that the situation is similar in California. In a 2013 study for the State Treasurer’s
Office, Joffe found large discrepancies between CAFRs and data published in the State Controller’s Cities
Annual Report. “Not only will XBRL make reporting more efficient and consistent at the state level, but it
will also help investors and credit analysts get the data they need to analyze municipal bond default
risk.”

Professor Tammy Waymire, on faculty in the NIU Department of Accountancy, notes that academic
research in the government finance area has been limited by the lack of availability of data.
“Researchers are often left with one option for conducting financial research related to state and local
governments – hand-collection, gathering information one pdf document at a time. Availability of data,
in the standardized format to allow for comparability, would draw new academic researchers to the
field, and increase the scope and timeliness of government finance research.”

XBRL was developed in the late 1990s and entered widespread use after the Securities and Exchange
Commission began requiring public companies to file their quarterly and annual financial reports (10-K’s
and 10-Q’s) using that language. In Brazil and Spain, local governments are required to report their financial statistics to central authorities in XBRL, but no such mandate exists in the U.S. Under the Single Audit Act of 1984, the federal government is required to collect audited financial statements from state and local governments receiving $750,000 or more of federal assistance annually, but these disclosures are in a PDF format. Similarly, the Municipal Securities Rulemaking Board (MSRB) receives audited financial statements from state and local governments that issue municipal bonds, but only as PDFs.
That situation would change if HR 2477, the Financial Transparency Act of 2015, were to become law.
One provision of the bill, which has 35 co-sponsors, mandates the MSRB to collect issuer disclosures in
searchable and machine-readable text formats. Although passage of the bill is uncertain in this Congress,
proponents are expected to offer similar legislation in the future.

“But the community does not need to wait for Congressional action,” Sohl said. “We are urging the
accounting profession, statement preparers and consumers of government financial data to partner
with us to complete the taxonomy and encourage its use.”

The taxonomy description spreadsheet is freely available online for review and integration with XBRL
tools, at http://www.govwiki.info/UGGT as of 2016-09-23.xlsx, along with an example of a municipality’s
instance document created with this taxonomy, at http://www.govwiki.info/Fulton 2015 CAFR UGGT-
XBRL.zip. The taxonomy includes concepts with definitions and business rules for the Government-wide
financial statements (Statement of Net Position & Statement of Activities) along with concept labels for
the Fund financial statements (Revenues, Expenditures and Changes in Fund Balances & Balance Sheet).
These four statements are the most widely analyzed statements appearing in CAFRs published by US
public sector entities.

For additional information or feedback please contact Shannon Sohl, ssohl@niu.edu, 815.753.5851.

Prior to the Great Recession, interest rates on municipal bonds were generally lower than Treasury rates. This relationship has reversed since 2008, imposing substantial extra costs on state and local government borrowers. Further, the municipal bond market witnessed major interest-rate spikes in the aftermath of Wall Street analyst Meredith Whitney’s dire (and errant) 2010 warning of widespread bond defaults and the Detroit bankruptcy.

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On November 17, State Treasurer John Chiang launched a new web site that provides information on bonds issued by California state and local governments. The site, athttp://debtwatch.treasurer.ca.gov, has detailed data on over 50,000 bonds sold to investors over the last thirty years.

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This is the second of an occasional series of posts on municipal bond issuance costs.  You can see the first one, focusing on Fullerton, here.

In a recent study of 800 municipal bond issues for UC Berkeley, I found that issuance costs varied widely – from less than 0.2% of face value to over 10%. Issuance costs are to local governments like points are to a consumer taking out a home mortgage. In both cases, the goal should normally be to minimize them. While consumers have many forums to compare against and thus reduce financing costs, local government officials have been less fortunate – but that situation is starting to change.

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