The water and sewer tax increases in Mayor Emanuel’s 2017 city budget are no surprise. Every possible city resource must be capitalized upon, including drinking water and sanitation. The increase in the water and sewer tax is laddered.
For the average water consumer in Chicago, their 2017 bill will go up by $53.
In 2018, the tax increases to a rate of $1.28 per 1000 gallons consumed, equivalent to an extra $115 a year for the average consumer.
In year three (2019), the tax rate goes to $2.01 per 1000 gallons consumed, or an extra $180.90 a year for the average user.
In year four (2020), the rate goes up to $2.51 per 1000 gallons consumed, or an extra $225.90 per year for the average user.
The city used the same ladder mechanism for the property tax hikes that began in 2015.
By the end of the 4th year, the total increase in water and sewer tax rate will be 33%. The expectation is that when the tax is fully enacted in 2020, the water and sewer tax will generate $240 Million annually. That’s a lot of money, and there is no doubt with the development going on in downtown, Wrigleyville, and other areas in Chicago, we could use it. Well, sadly, upon further research, a total of $0 of that money will go to upgrading water/sewer infrastructure. All of it will go toward funding pension liabilities, specifically for the Municipal Employees’ Annuity and Benefit fund. It’s a fancy name. Notice how it doesn’t include the world “pension” in it. Pension funds stir anger in the hearts of taxpayers. It seems unfair that today’s taxpayers are paying for yesterday’s employee pension funds. Pension funds are protected by federal and state law, and so there is no getting around it. The mayor’s office released this letter on the day that the mayor and it’s “union partners” agreed to the deal. The deal means that the city will transfer wealth via taxation on water and sewer from Chicago’s property and business owners, to the city’s municipal employees; essentially anyone who works for the city or the Chicago Board of Education.
There are 4 pension funds that City of Chicago employees could potentially be a part of.
- Municipal Employees’ Annuity and Benefit Fund of Chicago
- Policemen’s Annuity and Benefit Fund
- Firemen’s Annuity and Benefits Fund
- Laborers’ & Retirement Board Employees’ Annuity & Benefit Fund
From what I can tell, the line between them can be very vague, as to which employees qualify for which pension. Since it is Chicago, it wouldn’t surprise me if some employees draw benefits from multiple funds.
I got a little side tracked here, but there was a point into diving into the new water and sewer tax. The money generated is not going into water infrastructure, or fixing Chicago’s sewer system, or generating the cultural change around water that David St. Pierre talked about. The money is going into paying municipal employees their pensions. Pension funds that were enacted into law by the State of Illinois a long, long time ago (1935 for the Laborers Fund, 1921 for the Municipal Employees Fund, and 1887 for the Policemen’s Fund).
This was long before climate change was even a thing in anyone’s mind. So it seems like the alleys will continue to flood in Chicago, the roads will do the same, the rain storms will continue to get worse and worse, just as they are across the Midwest, and meanwhile, Chicago’s pensions will not go insolvent…at least not until after 2025. Oh, and by the way, the city acknowledges (as you can see here at the very end of this article) that after the ramp-up (ladder-up) of the water-sewer tax ends in 2023,
“…city officials…will need to identify additional funding sources to meet the higher required contributions in 2023 after the end of the ramp”.
You know what means my dear Chicagoans? More taxes!
There is plenty of talk about what will be taxed next, and it’s all in the name of funding pensions. Besides the 4 pension funds mentioned above, there is the behemoth that we haven’t talked about yet: the Chicago Teachers Pension Fund. Technically, that pension fund is under the State of Illinois umbrella. The State of Illinois, being in its own state of absolute disarray, takes money from all over the state to fund the CTPF, but Chicago has a huge funding liability because it is the largest school district in Illinois. When it comes to property tax increases in Chicago, 2018 is not quite as bad as 2017, but almost, as noted in this Chicago Tribune article. From the article, the city of Chicago’s property tax hike will…,
“come in July , when the second installment of property tax bills goes out, with payments due August 1st. CPS property taxes are rising by $224.5 Million, with most of the money going into the CHICAGO TEACHERS’ PENSION FUND. City property taxes are going up another $63 Million – the fourth and final increase in Emanuel’s plan to boost city contributions to pension funds for police officers and firefighters.”
Again, the money is not going to building new schools, fixing old schools, instituting new education programs, conducting studies on what works and what doesn’t, etc… The money is not going toward making Chicago’s schools better, No, it’s all going toward funding pension liabilities.
An article in the Wall Street Journal talks about Chicago and the creation of this “not-for-profit” entity called the STSC. As we said earlier, it’s pretty much common knowledge that Chicago is running a multi-million dollar deficit and faces a pension funding crisis that dwarfs others around the country. Chicago’s General Obligation debt is rated by both S&P and Fitch (the two largest rating agencies). That is one notch above junk status. This type of rating means that Chicago has to pay up on interest when borrowing money. The interest rates on general obligation bonds are upwards of 9%. This means Chicago has to pay a lot of money just to service its debt, i.e. make interest payments. And so, of course, Chicago has called the financial engineers to save the day. And the financial engineers have obliged hoping to collect some hefty fees for their service.
The result of this financial engineering was the STSC. The STSC entity was created to sell municipal bonds on behalf of the city of Chicago backed by the city’s sales tax receipts. Actually, the devil is in the details: The bonds offer investors FIRST CLAIM to the city’s sales-tax revenue. The WSJ claims that,
“…in theory, this would make the debt as secure as US Treasury bonds.”
If that were to be the case, it would drive Chicago’s interest rate on debt substantially, to the 3% range. But once again the devil is in the details. The Illinois Department of Revenue is the entity that collects home-rule, local-share sales tax, and use taxes for the City of Chicago.
What is home rule sales tax? It is the portion of sales tax that is charged by the locality, either municipal (city/village) or county. Chicago’s home rule sales tax is 1.25%. Cook County’s home rule sales tax is 1.75%. The majority of sales tax goes to the state of Illinois. That rate is 6.25%. So the portion of sales tax that is owed to Chicago (1.25%) is not collected by the city. It is collected by the Illinois Department of Revenue, which would then send it to the city.
But in the proposed Sales Tax Securitization Corporation, Chicago’s sales tax income would never go to the city; it would instead be sent from the State of Illinois to the STSC. This means that the revenue is…
“less likely to be affected by any city operating shortfalls or similar pressures.”
The funds cannot be diverted to the city, is what this essentially means. The revenue legally touch the city’s coffers, even in transition; they go directly to STSC. This, claims S&P rating agency, is one of the reasons for the high rating on the bonds (AA). The other reason is that a lien is placed on the STSC revenues, that cannot be “impaired”, or circumvented, under state law. What this means is that bondholders have collateral on the debt; basically, the debt is secured. The city is also going to great lengths to emphasize that the STSC is a separate entity from itself. Why is that? Well, one possibility is that the city wants to start over fiscally; it wants to try and clean its fiscal slate somehow. Starting over fiscally for any organization, public or private, can sometimes mean the dreaded word “bankruptcy”. Of course, bankruptcy would destroy the city’s equity. What is the city’s equity? Well, its residents of course. The city itself has no equity. It has way more debt than equity on its books. With that said, city residents have a lot of equity, in terms of property they own, businesses they own, land they own, etc… Yet that equity would be destroyed in a municipal bankruptcy because owners of city debt would do anything to recover their money, e.g. raise taxes to the moon to force fire sales of property, and scoop up that property at cheap prices. I don’t think that’s ever happened, but it would probably lead to civil unrest.
Illinois state law actually prohibits municipalities from declaring bankruptcy. With that being said, several proposed laws have either been passed or floated in the State legislator that aim to change that bankruptcy rule. For example, in this article, a bill named HB438 is pointed out. The bill is called the Local Government Bankruptcy Neutral Evaluation Act. It is,
“virtually identical to the California Neutral Evaluation Law.”
It goes on to say,
“It (HB438) provides for a process of selection by the municipality and participating creditors of a neutral evaluator, and a 60 or 90 day process of good faith negotiations and if resolution of the financial difficulties of the municipality is not reached, then and only then may a MUNICIPALITY FILE CHAPTER 9 MUNICIPAL BANKRUPTCY”.
It goes on to say that in the case of financial emergency as the act defines it, the use of a neutral evaluator can be eliminated and the municipality may file for Chapter 9 without going through the 60 to 90 day evaluation period! Quite amazing! This act basically overrides the existing law in the State of Illinois that says municipalities cannot file for bankruptcy!
“Illinois currently doesn’t allow its municipalities to file for bankruptcy, though lawmakers introduced legislation [HB 4499] in recent years that cleared the way for Chicago or its school system to file.”
HB 4499 is the Chicago Bankruptcy Neutral Evaluation Act! It’s the law that set the precedent for all the other municipalities in Illinois! It started with Chicago and HB 4499.
I came across recently this article in the Prairie State Wire publication. There is apparently yet another bill in the Illinois General Assembly, this one more recent, named the Local Government Bankruptcy Neutral Evaluation Act. It is HB 5644. Again, this is the same bill, just with another name. The article states that there are 400 pension funds in Illinois that are short of their full payments. Furthermore, there are even cities in Illinois where 100% of the revenue stream has been seized by the Illinois state comptroller. The city of Harvey, IL is one of those cities. Harvey was recently spotlighted in this article in the Chicago Tribune after it cut a deal with the state so that it could access seized revenue in order to make payroll and pay its sanitation bill. Why was the comptroller seizing Harvey’s tax revenue you ask? Because Harvey was so behind on payments into its police and fire pension funds that the state had no choice to seize revenue and put it into the pension funds itself!! Once again, municipal pension funds driving cities into bankruptcy. The Illinois Policy Institute pretty much summed it up beautifully in this piece:
“Ultimately, the lesson to take away from Harvey is that defined-benefit pension systems are unsustainable. The only way for governments across Illinois to secure the financial futures of both taxpayers and public retirees is to immediate enact reforms to put workers, no politicians, in charge of their own retirement money. Defined contribution 401(k) style plans for all new government workers are a step in the right direction, but policymakers should get to work on a complete structural overhaul of this unsound system.”
But in the meantime, because most politicians do not have the guts to even begin this “complete structural overhaul of this unsound system”, Wall Street is stepping up to the plate to “help”. It’s always a bad sign when Wall Street offers to help; you can be sure it’s going to cost at least an arm, if not a leg, or both.
The most recent sale of ~$1 Billion dollars of STSC municipal bonds, the first portion of which with maturities up to 26 years, will save the city more than $90 Million in borrowing costs in 2018. The city will be using most of the money to refinance existing general obligation debt (GO bonds). Those bonds are rated far below the AA and AAA that S&P and Fitch, respectively, have rated the STSC bonds. As we said before, Chicago GO bonds have an interest rate of ~9%, reflecting their near junk status. This is the difference between being a creditworthy borrower, and being a crappy borrower.
The other rating agency worth mentioning here is Moody’s. They actually DO rate Chicago GO bonds at junk status! Chicago has asked Moody’s to remove the junk rating, but Moody’s has refused.
Does this remind you of anything? Well if it doesn’t, then maybe you are too young to remember, but back in the run-up to the financial crisis, rating agencies were complicit in issuing over-stated ratings on mortgage backed bonds. What does that mean? It means mortgage backed debt, that was securitized and sold to investors as bonds, were given a rating by the likes of S&P, Fitch, and Moody’s, that was far higher than they actually qualified for. The rating tells investors what kind of risk the bonds have. If the risk is higher, than investors would demand a higher interest payment on the bond. If the risk is low, then investors would accept a lower interest rate on the bond. Think of the agency rating as a credit score. Moody’s, Fitch, and S&P are to corporate, mortgage, and federal debt as Experian, Equifax, and TransUnion are to consumer debt. If you’ve got a credit score less than 600, you are considered a high risk borrower and therefore will get charged a higher interest rate. If you have a score above 750, you qualify for the best rates.
Wikipedia has a good summary on what happened with regards to the rating agencies and their faulty, overrating of mortgage backed bonds. You can find that here at Wikipedia. The takeaway is that it is imperative that credit rating agencies do a good in assessing risk, and provide honest ratings, because the lending industry relies on it. When credit rating agencies don’t do their job, we lose a critical safeguard against a crisis like 2008.