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Poway and the billion dollar capital appreciation school bond

by Eileen Norcross on August 21, 2012

in City Life, Debt, Education, Public Choice, Public Finance

Where does it cost $1 billion to borrow $105 million? In Poway Unified’s School District. With a pie chart showing the full cost of a $105 million capital appreciation bond being issued in a California school district to finance capital improvements, Will Carless’s local reporting turned into a national story. (Previous work on Poway’s bond financing was put together by a retired Michigan blogger, John Thurrell, who covers municipal finance).

The power of the story surely has much to do with the chart itself, which I reproduce from the original article here:

 The reason this bond is different from garden-variety school borrowing is that the district couldn’t issue a conventional bond without raising property taxes. So they “got creative.” With the help of a financial consultant they instead issued a Capital Appreciation Bond.

With a 40 year time horizon, the district doesn’t have to start making payments on it for 20 years – long after the students who enjoy the improvements have graduated. Future taxpayers will be paying bond investors about 10 times more than the initial loan.

The local taxpayer’s association calls the deal “loan-sharking,” but I also have to wonder what role property taxes and Prop 13’s limits on property tax rate hikes played in this story. Carless details how local officials figured out a way around the politically difficult choice of a tax rate hike: Proposition C. There wasn’t enough revenue coming in from the district’s $55/$1000 per assessed value levy. Proposition C asked voters if they would be willing to extend the levy for another 14 years. The idea was to collect the revenue now and start paying the bond back later. But the CAP maneuver shows that by limiting a direct and stable source of local revenues (via the property tax rate cap – which voters may modify), politicians have the incentive (and may even prefer) to pursue more exotic, and less transparent funding mechanisms.

The news story is also the power of a basic pie chart to convey information. This picture stirred up an online debate over what kinds of information citizens are given when they go to vote on bond issues. In response to the “chart-gone-viral”, the School district is defending its choice of financing while residents are “shocked” and “appalled.”

CAPs are getting a pretty bad rap in the press. One blogger calls them, “the poor community’s way to borrow their way out of insolvency,” with the “cancer spreading” to Los Angeles Unified. While California municipalities appears to have embraced CAPs, Michigan banned them in 1994. The NYT reports that U.S. school districts issued $4 billion in CAPs last year.

  • zippy

    What a political pile of crap. I live in the PUSD district. Amazingly an earlier bond proposition turned out to be underfunded. To fix that mess along comes proposition C. Of course there was no disclosure that taxing limitation caused by the earlier bond would cause creative financing (CAP). And of course what ever is built will be obsolete well before the bonds are paid off. Now many believe that the earlier bond proposal was purposely underfunded to meet state tax limitations.

  • Richard

    I wonder what the district will do when it wants to build something in 10 years? If the district remains at the tax cap, will issuance of the future bonds require a simultaneous vote to raise the tax cap when the new bonds start requiring actual cash payments?
    Little has been said about what the $105 million bonds will actual buy, or whether $105 million is a fair price for the value received. There’s a certain lack of discipline about spending “free” money. Free to the current board members, district administrators, and even taxpayers at least.

  • tombking

    I think capital appreciation bond is CAB, not CAP.

  • EDG reppin’ LBC

    It seems a little wacky, but it actually makes sense. I broke out the HP 12c, and yep, the Net Present Value of $105 million at 5.5% interest amortized over 40 years, is about $1 billion. Certainly a big number, and seems shocking at first. But it seems to be a pretty decent bond after all. My only concern is Poway. Have you ever been to Poway? I have. Yeeeesh!

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