Ticking Time Bond

The latest in the long list of creative financial instruments to gobsmack the public since the Great Recession struck in 2008 is a municipal bond called a capital appreciation bond (CAB), which gained attention recently with reports that the Poway school district in San Diego County has saddled its taxpayers with almost a billion dollars in future debt by issuing them. In the past five years, these bonds have been increasingly employed by districts throughout California, including several in Santa Barbara County.

In the coming weeks, the county Auditor-Controller’s Office will, along with the County Education Office, perform an analysis of CABs issued by Santa Barbara districts, according to officials from both agencies. “There isn’t anything we can do about them because they have been approved by voters,” said Wendy Shelton, director of communications for the County Education Office, “but we can be aware of them.”

Unlike typical municipal bonds, CABs do not have to be paid off for several years, often decades, during which time interest compounds and is due along with the principal. Poway will have to pay $877 million in interest on a $105-million principal. Ed Price, Santa Barbara County property tax manager, explained, “What made those particularly frustrating was that they weren’t callable,” meaning that the district could not pay them off early and avoid some of the interest.

According to a Los Angeles Times–compiled database, the Santa Barbara Unified School District has issued about $26 million worth of CABs as part of Measure Q and R bond measures passed in 2010. It has also issued conventional bonds as well as convertible CABs that revert to conventional bonds after a certain number of years.

The decision to issue CABs is based on the gamble that assessed values will increase enough to cover that interest, a gamble that, as the recent recession has proved, can be a losing proposition. Price said he is not a fan of CABs. Meg Jetté, business chief for the Santa Barbara schools, feels confident that, in the long term, property values in Santa Barbara will increase.

CABs also allow districts to circumvent Proposition 39, passed in 2000, which made it easier for districts to pass bond measures but limited the amount of property tax that can be levied. Meanwhile, schools have faced constant cuts over the past four years. “If you don’t have enough in the bank, and you aren’t going to raise tax rates, then you resort to a CAB,” said Sandra Doria, business manager for the Hope Elementary School District. In 2010, Hope district voters approved $8-million Measure L, but because of declining property values, only $3 million worth of bonds — all CABs — could be issued.

Measure L has funded the installation of 234 kilowatts of solar panels on all three Hope campuses. In the Santa Barbara district, bond proceeds have paid for projects like repairing play areas at elementary schools, adding a new wing on the San Marcos High School campus that replaced eight deteriorating portable classrooms, and replacing the HVAC system at Dos Pueblos High School. The portion of the measures funded by CABs will mature in 30 years, at which point taxpayers will owe $148 million, a combined 5.7 times the principal. “CABS are like a homeowner waiting to add an addition to their home,” said Jetté, “pulling equity out of it and extending the loan out 30 years.”

But these delayed maturity dates beg the question of whether the districts have quite literally mortgaged the children’s futures. Districts need to think, said Price, about whether raising tax rates would be a better way of financing projects than capital appreciation. “I don’t envy [schools],” he said, “because they have a heartfelt need.” But he also wonders, “Do they miss some of the nuances of these financing deals that can be quite complex? People selling bonds are out to make money, not necessarily to protect the taxpayers or districts.”

Whether or not districts understand the financing arrangements into which they enter, the public is much further in the dark. While voters approve bond measures, they leave the financing up to districts. Ballot measures do not ask voters to weigh in on such details. That responsibility lies with school officials, who have to balance the educational needs of children with the long-term fiscal health of their communities.

Aside from the Hope and Santa Barbara districts, the Lompoc, Cold Spring, Buellton elementary, and Allan Hancock college district have all issued CABs.