Debt Policy Model


Cities occasionally need to incur debt to finance a needed project or program for the community. It is recommended to first adopt a debt policy that governs the use of debt and provides a plan for the city. The following is a model for cities to review and consider using.

Model Debt Policy

The language in this model is compiled from various policies along with components from the Government Finance Officers Association’s Model Debt Policy. Each city should tailor the policy to their local preferences and expertise. As with all legal matters, cities are urged to consult with their city and bonding attorney for guidance.

City of _____________, IA Debt Policy

The purpose of this debt policy is to establish a set of parameters by which debt obligations will be undertaken by the city of ______________, IA. This policy reinforces the commitment of the city and its officials to manage the financial affairs of the city so as to minimize risk, avoid conflicts of interest and ensure transparency while still meeting the capital needs of the city. A debt management policy indicates to the public and the rating agencies that the city is using a disciplined and defined approach to financing capital needs under the Iowa Constitutional Debt Limit.

The goal of this policy is to assist decision makers in planning, issuing and managing debt obligations by providing clear direction as to the steps, substance and outcomes desired. In addition, greater stability over the long-term will be generated by the use of consistent guidelines in issuing debt.  

Definition of Debt: All obligations of the city to repay, with or without interest, in installments and/or at a later date, some amount of money utilized for the purchase, construction, or operation of city resources. This includes but is not limited to notes, bond issues, capital leases, and loans of any type (whether from an outside source such as a bank or from another internal fund). 

Approval of Debt: Bond anticipation notes, capital outlay notes, grant anticipation notes and tax and revenue anticipation notes will be submitted to the city council prior to issuance or commencing the obligation sale process. A plan for refunding debt issues will also be submitted to the council prior to the issuance process. Capital or equipment leases may be entered into upon approval of the council; however, details on the lease agreement must be consistent with the annual appropriations for debt management retirement. 

Transparency
  • The city shall comply with legal requirements for notice and for public hearings related to debt issuance. 
  • All notices shall be posted in the customary and required posting locations, including as required local newspapers, bulletin boards and Web sites.  
  • All costs (including principal, interest, issuance, continuing and one-time) shall be clearly presented and disclosed to the citizens, city council and other stakeholders in a timely manner.  
  • The terms and life of each debt issue shall be clearly presented and disclosed to the citizens/members, council and other stakeholders in a timely manner. 
  • A debt service schedule outlining the rate of retirement for the principal amount shall be clearly presented and disclosed to the citizens/members, council and other stakeholders in a timely manner but not less than annually during the budgeting process.
Role of Debt

Long-term debt shall not be used to finance current operations. Long-term debt may be used for capital purchases or construction identified through the capital improvement, regional development, transportation, or master process or plan.

Short-term debt may be used for certain projects and equipment financing as well as for operational borrowing; however, the city will minimize the use of short-term cash flow borrowings by maintaining adequate working capital and close budget management.

In accordance with Generally Accepted Accounting Principles and state law,

  1. The maturity of the underlying debt will not be more than the useful life of the assets purchased or built with the debt, not to exceed 30 years; however, an exception may be made with respect to federally sponsored loans, provided such an exception is consistent with law and accepted practices.
  2. Debt issued for operating expenses must be repaid within the same fiscal year of issuance or incurrence.
Types and Limits of Debt
  • The city will seek to limit total General Obligation outstanding debt to: _______________ (% of assessments, per capita amount, or percent of Constitutional Debt Limit, etc.), excluding overlapping debt, enterprise debt and revenue debt.
  • The limitation on total General Obligation outstanding debt must be reviewed prior to the issuance of any new debt.
  • The city’s total outstanding debt obligation will be monitored and reported to the city council (by the person identified for example city clerk or finance officer) shall monitor the maturities and terms and conditions of all obligations to ensure compliance. (The person identified) shall also report to the council any matter that adversely affects the credit or financial integrity of the city.
  • The city is authorized to issue General Obligation bonds, Revenue bonds, Tax Increment Financing (TIF) bonds, loans, notes and other debt allowed by law. Debt shall be managed in such a way that the city’s debt service property tax levy shall be maintained at a fairly consistent level, avoiding wide movement either up or down.
  • The city will seek to structure debt with level or declining debt service payments over the life of each individual bond issue or loan.
  • As a rule, the city will not backload, use “wrap-around” techniques, balloon payments or other exotic formats to pursue the financing of projects. When refunding opportunities, natural disasters, other non-general fund revenues, or other external factors occur, the city may utilize non-level debt methods. However, the use of such methods must be thoroughly discussed in a public meeting and the mayor and governing body must determine such use is justified and in the best interest of the city.
  • The city may use capital leases to finance short-term projects in the event that this is financially beneficial to the city upon deliberation of the council.
  • Bonds backed with a general obligations pledge often have lower interest rates than revenue bonds. The city may use its General Obligation pledge with revenue bond issues when the populations served by the revenue bond projects overlap or significantly are the same as the property tax base of the city. 
  • The city council and management are committed to maintaining utility rates and fee structures of revenue supported debt at levels that will not require a subsidy from the city’s General Fund. [This provision is necessary only if the city has a source of repayment for a revenue bond, such as a water or sewer system.]
  • The city may issue TIF or general obligation securities to fund improvements to the water and sewer system that benefit a smaller number of users (for example, a water line to a new development). The city may use TIF revenues to repay such obligations if TIF revenues are available from the development in question or if an agreement can be put in place that produces sufficient TIF revenue to repay the debt within 15 years from original issuance of the debt.
  • TIF development agreements must stand on their own merit. The city’s obligations under a development agreement shall not exceed the expected TIF income, using reasonable assumptions, from the development itself and no other income source, over the term of the agreement.
  • All TIF development agreements must contain “annual appropriation” provisions so that the agreement does not count against the city’s constitutional debt limit.
  • Cash incentives to businesses or developers shall be in the form of TIF rebate of actual property taxes paid from the development. The term of rebate shall not exceed 10 years unless the city is receiving substantial public property out of the agreement or the city is receiving jobs that exceed Iowa’s High Quality Jobs description (as it evolves and perhaps changes names). Construction of roads, water and sewer lines necessary to support the proposed development must be factored into the TIF plan and, if necessary, the rebate amount shall be adjusted such that the required public infrastructure can be paid from the TIF fund over the same period of time. If the council specifically determines that low or moderate income housing is required, the city may enter into rebates that exceed 10 years where necessary, within then current statutory provisions.
Use of Variable Rate Debt

The city recognizes the value of variable rate debt obligations under certain market conditions. However, the city also recognizes there are inherent risks associated with the use of variable rate debt and will implement steps to mitigate these risks; including:

  1. The city will annually include in its budget an interest rate assumption for any outstanding variable rate debt that takes market fluctuations affecting the rate of interest into consideration.
  2. Prior to entering into any variable rate debt obligation that is backed by insurance and secured by a liquidity provider, the city council shall be informed of the potential affect on rates as well as any additional costs that might be incurred should the insurance fail.
  3. Prior to entering into any variable rate debt obligation that is backed by a letter of credit provider, the city council shall be informed of the potential affect on rates as well as any additional costs that might be incurred should the letter of credit fail.
  4. Prior to entering into any variable rate debt obligation, the city council will be informed of any terms, conditions, fees, or other costs associated with the prepayment of variable rate debt obligations.
  5. The city shall consult with persons familiar with the arbitrage rules to determine applicability, legal responsibility, and potential consequences associated with any variable rate debt obligation. 
Use of Derivatives

Certain derivative products such as a swap are actually investments under Iowa law, and as such, are not permitted investments since the statute does not speak to them. The city  of __________chooses not to use derivative or other exotic financial structures in the management of the city’s debt portfolio.

Prior to any reversal of this provision: 1. A written management report outlining the potential benefits and consequences of utilizing these structures must be submitted to the City Council; and 2. The city council must adopt a specific amendment to this policy concerning the use of derivatives or interest rate agreements that complies with the Code of Iowa.

Costs of Debt

All costs associated with the initial issuance or incurrence of debt, management and repayment of debt (including interest, principal, and fees or charges) shall be disclosed prior to action by the city council in accordance with the notice requirements stated above. In cases of variable interest or non-specified costs, detailed explanation of the assumptions shall be provided along with the complete estimate of total costs anticipated to be incurred as part of the debt issue. Costs related to the repayment of debt, including liabilities for future years, shall be provided in context of the annual budgets from which such payments will be funded (i.e. General Obligations bonds in context of the General and Debt Service Fund, Revenue bonds in context of the dedicated revenue stream and related expenditures, loans and notes).

Refinancing Outstanding Debt

The city will refund debt when it is in the best financial interest of the city to do so, and the city clerk/financial officer shall have the responsibility to analyze outstanding bond issues for refunding opportunities. The decision to refinance must be explicitly approved by the council, and all plans for current or advance refunding of debt must be in compliance with state laws and regulations.

The city clerk/financial officer will consider the following issues when analyzing possible refunding opportunities:

  1. Onerous Restrictions – Debt may be refinanced to eliminate onerous or restrictive covenants contained in existing debt documents, or to take advantage of changing financial conditions or interest rates.
  2. Restructuring for Economic Purposes – The city will refund debt when it is in the best financial interest of the city to do so. Such refunding may include restructuring to meet unanticipated revenue expectations, achieve cost savings, mitigate irregular debt service payments, or to release reserve funds. Current refunding opportunities may be considered by the city clerk/finance officer if the refunding generates positive present value savings, and the city clerk/finance officer must establish a minimum present value savings threshold for any refinancing.
  3. Term of Refunding Issues – The city will refund bonds within the term of the originally issued debt. However, the city clerk/finance officer may consider maturity extension, when necessary to achieve a desired outcome, provided such extension is legally permissible. The city clerk/ finance officer may also consider shortening the term of the originally issued debt to realize greater savings. The remaining useful life of the financed facility and the concept of inter-generational equity should guide this decision.
  4. Escrow Structuring – The city shall utilize the least costly securities available in structuring refunding escrows. Under no circumstances shall an underwriter, agent or financial advisor sell escrow securities to the city from its own account.
  5. Arbitrage – The city shall consult with persons familiar with the arbitrage rules to determine applicability, legal responsibility and potential consequences associated with any refunding.
Professional Services

The city shall require all professionals engaged in the process of issuing debt to clearly disclose all compensation and consideration received related to services provided in the debt issuance process by both the city and the lender or conduit issuer, if any. This includes “soft” costs or compensations in lieu of direct payments.

Counsel: (It is recommended that) the city shall enter into an engagement letter agreement with each lawyer or law firm representing the city in a debt transaction. (No engagement letter is required for any lawyer who is an employee of the city or lawyer or law firm which is under a general appointment or contract to serve as counsel to the city. The city does not need an engagement letter with counsel not representing the city, such as underwriters’ counsel.)

Financial Advisor: (If the city chooses to hire financial advisors a written agreement is recommended) The city shall enter into a written agreement with each person or firm serving as financial advisor for debt management and transactions.

Whether in a competitive sale or negotiated sale, the financial advisor shall not be permitted to bid on, privately place or underwrite an issue for which they are or have been providing advisory services for the issuance or broker any other debt transactions for the city

Underwriter: (If there is an underwriter) The city shall require the underwriter to clearly identify itself in writing (e.g., in a response to a request for proposals or in promotional materials provided to an issuer) as an underwriter and not as a financial advisor from the earliest stages of its relationship with the city with respect to that issue. The underwriter must clarify its primary role as a purchaser of securities in an arm’s-length commercial transaction and that it has financial and other interests that differ from those of the Entity. The underwriter in a publicly offered, negotiated sale shall be required to provide pricing information both as to interest rates and to takedown per maturity to the (governing body or designated city official) in advance of the pricing of the debt.

Registrar: (If the city chooses to hire an outside registrar). The city shall enter into a written agreement with each designated trustee, transfer agent, registrar, depository or paying or other agent. If no external designee is hired, the city clerk/finance director, or it’s designee shall serve as the registrar for all debt incurred by the city. (Code Section 76.10)

Arbitrage: In the event that the city would be required to calculate arbitrage on bond issues, the city shall require a written agreement to hire outside assistance.

Conflicts

Professionals involved in a debt transaction hired or compensated by the city shall be required to disclose to the city existing client and business relationships between and among the professionals to a transaction (including but not limited to financial advisor, swap advisor, bond counsel, swap counsel, trustee, paying agent, liquidity or credit enhancement provider, underwriter, counterparty and remarketing agent), as well as conduit issuers, sponsoring organizations and program administrators. This disclosure shall include that information reasonably sufficient to allow the city to appreciate the significance of the relationships.

Professionals who become involved in the debt transaction as a result of a bid submitted in a widely and publicly advertised competitive sale conducted using an industry standard, electronic bidding platform are not subject to this disclosure. No disclosure is required that would violate any rule or regulation of professional conduct.

Review of Policy

This policy shall be reviewed at least annually by the city council during the preparations of the annual budget. Any amendments shall be considered and approved by resolution (in the same process as the initial adoption of this Policy), with opportunity for public input.

Compliance

The city clerk/finance officer is responsible for ensuring compliance with this policy, bond covenants, state and federal regulations. Debt management will also provide for compliance with debt instrument provisions and appropriate disclosures to investors, underwriters and rating agencies.

Each year, the city clerk/finance officer shall be responsible for completing the outstanding debt report required by the State Treasurer’s office in a timely manner.

Post Issuance Compliance policies shall be a separate document because of the rapid changing regulations from the Internal Revenue Service and Securities Exchange Commission requirements. These requirements include, but are not limited to monitoring that the bond proceeds of each individual issue are spent in an appropriate, timely manner as stated in the bond offering and tax compliance documents. Assistance from bond counsel and  financial advisors should be budgeted as part of the project estimates.

Retention

It shall be the responsibility of the city clerk/finance officer to comply with Code Section 76.10(7) which requires all debt related records and documents be retained for at least eleven years after the cancellation, transfer, redemption or replacement of the bonds and obligations.




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