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Jeffco COPs: Whatcha gonna do when they come for you?

Is Jefferson County School District about to take on $80,000,000 in unsecured debt without asking its taxpayers?  That’s what would happen under a proposal to fund new school buildings.

Under the Colorado State Constitution, governments are forbidden from issuing unsecured, or General Obligation (GO) debt without a vote of the taxpayers.  General Obligation debt is not secured by any specific revenue stream or asset, but by the general tax revenues of the district.

The purpose of that clause was to prevent a city, county, school district, or even the state, from saddling future generations with unsupportable debt.  Such debt might be a good-faith effort to meet current needs, but it might also be a political payoff to supporters. The best way of checking a spendthrift or corrupt handful of elected representatives is to subject all such debt to the ballot.

Local governments have, however, found a way around Colorado’s constitutional restriction through something called Certificates of Participation, or COPs.

icon_op_edThe government, in this case a school district, transfers some asset, usually a building or set of buildings, to a special-purpose entity set up specifically to administer the COP.  That entity – not the school district itself – then floats the bond on the municipal bond market.  It then leases the buildings back to the school district for lease payments that match the bond payments.  It is those lease payments that secure the debt.  In addition, the lease comes up for annual review by the school board which, in theory, could refuse to renew.

Because the lease is technically up for annual renewal, the school district has avoided contracting a long-term lease debt obligation – in this case, a capital lease – without a vote of the people.  The bond itself is secured not by general fund revenue but by the district’s lease payments, even if the only source for those payments is the general fund itself.  And the district itself is not issuing the debt, the special-purpose entity is.

In fact, everyone recognizes this is a convenient fiction to permit an end run around the Colorado Constitution.  The markets use the bond rating of the school district to price the bonds and set the interest rate.  There is little chance short of impending bankruptcy that a district would fail to renew its lease, otherwise the interest rate on the bonds would be so high as to make the deal unattractive to the issuers.  The district has to disclose the COPs on its Comprehensive Annual Financial Report (CAFR) as a long-term debt obligation.

In this case, the COPs would be for $80,000,000 to finance new construction for an expected increase in the district’s student population.  The term would be between 20-25 years, and the expected interest rate would be between 3% and 3.25%.  This translates to an annual payment of somewhere between $4.6 million and $5.5 million.

To put that in perspective, Jeffco School District currently spends $800 million per year.  These payments would not be an enormous portion of that figure, but they would not be insubstantial, either.  The financing portion of the district’s spending would rise from roughly 7.25% to just under 8%.

The proposed COPs also represent a significant increase in reliance on these non-taxpayer-approved long-term debt obligations.  Currently, Jeffco has $474 million in outstanding bond principal, $71 million in outstanding capital lease principal, and $29 million in outstanding COP principal, for a total long-term debt of $574 million.

The additional $80 million would represent a 14% increase in total long-term indebtedness, and a roughly 10% increase in annual debt payments.  The portion of debt financed by COPs would rise from roughly 5% to 16.7%.  This means that roughly 1/6 of Jefferson County Schools’ long-term debt would have been contracted without any taxpayer approval.

It’s easy to see how such financing could become addictive. And as financing payments begin to crowd out other spending, the obvious temptation will be to go the taxpayers with the claim that the district “needs” a higher mill levy to finance its operations.

Since bond issues usually go hand in hand with mill levy increases, the District’s Chief Operations Officer, Steve Bell, argues that this alternative avoids burdening the taxpayers.  However, he also admits that without the additional funding stream, the COPs will have to be paid for out of the existing budget.  So while it might not burden taxpayers, it will certainly require some cuts in other areas.

Supporters also note that leasing is a commonly used financing tool for municipal and state governments all over the country.  They cite current leases that Jeffco Schools have for computers, vehicles, even copiers.  However, those items depreciate quickly, and the leases are operating leases, not capital leases.  They run for much shorter terms, and are already budgeted for.

Long-term financial obligations – one that students not born yet will still be paying off after they graduate high school – should not be assumed lightly.  The temptations that originally led the state’s founders to mistrust unsecured debt still exist, and any such obligation should be put to a vote of the people responsible for bearing it.

Joshua Sharf is a fiscal policy analyst at the Independence Institute, a free market think tank in Denver.

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