Distressed Gary, Indiana, has created a special corporation for a sale-leaseback bond transaction using the city’s public safety building as part of a long-term plan to stave off insolvency and stabilize the city's fiscal foundation.
The plan, hatched as a way to help the Northwest Indiana city along Lake Michigan raise revenue to balance the city’s budget, paves the way for the city to implement a financial recovery plan, says Gary Mayor Karen Freeman-Wilson.
“The city has since been working to develop a sustainable plan, one that is not susceptible to changes in property tax revenue or changes in casino revenue that will allow us to live within our means and provide government to the people," Freeman-Wilson said in an interview. "This sale-leaseback is just a part of that plan.”
For the last 15 years Gary has struggled with a structural deficit that has ranged from a low of $6 million to a high of $15 to $17 million. The city currently is $17 million in the red and the latest cash flow analysis shows the city will go broke by Oct. 31.
The city will sell the building to an entity called the Gary Building Corp. for $40 million, and in turn, the corporation will lease the building back to the city.
The corporation will issue lease rental obligations in a principal amount not to exceed $40 million, with bonds in a series not exceeding 8% annually, according to the ordinance passed by the Gary city council last month. The length of the bond is expected to be between 15 and 22 years. Freeman-Wilson said the bonds are scheduled to price by the end of October.
The bonds would be secured by local income tax revenue that is withheld from employee paychecks, like state and federal income taxes. The city receives $4.7 million yearly from the tax.
The city is working with James D. Shanahan, an attorney with Taft, Stettinius & Hollister LLP, and financial advisor Comer Capital LLC on the transaction. Hilliard Lyons is the senior manager.
Some city council members have hotly contested the plan. The ordinances were approved by a 6-to-3 vote in September with opponents saying they did not feel comfortable borrowing against the city’s future. “Using long-term money for short-term expenses is a bad financial position," Councilwoman Rebecca Wyatt, a Democrat, said.
Freeman-Wilson believes the city has few options.
Howard Cure, director of municipal bond research at Evercore Wealth Management LLC, called the sale-leaseback of a municipal building a terrible budgetary and debt practice. “You don’t want to take an existing asset and turn it into a liability to solve a budgetary problem,” Cure said. “You want to solve a budgetary problem with recurring revenue.”
Details on the bond structure and whether it will include a state intercept remain unclear but Cure said that city would pay a premium without one.
“If they don’t have some sort of other security there will always be a market at right price,” he said. “It is just a matter on how they are budgeting for it and how much added burden they want to create for this yearly payment that they will have to make.”
The sale-leaseback is a major part of the administration’s three-year recovery plan, Freeman-Wilson’s chief of staff Dayna Bennett said in a city council presentation. “Funds from the sale-leaseback along with cost reductions in city operations and new revenue generation methods will enable the city to balance its budget by 2020,” Bennett said.
In 2017, the city’s deficit was $13.7 million. It had total expenses of $124.6 million and total revenues of $110.9 million. The city has $26 million of outstanding debt compared to $43 million in 2012. The sale-leaseback allows the "city to fill the cash gap that we have as we are implementing the measures that we set forth in our financial recovery,” Freeman-Wilson said.
“We have not only detailed the financial recovery but we have also developed a mechanism for ensuring that we measure our adherence to that plan,” Freeman-Wilson said. She said that the one down side to executing the sale-leaseback would be if the recovery plan were not followed.
“If we develop a plan and measures and fail to follow them, because it will require discipline on the part of our administration, if we don’t do that then to have done the sale-leaseback would be in fact a wasted revenue,” she said.
The sale-leaseback of a public facility is just a way of creating liquidity where it’s tight, said James Spiotto, a municipal finance expert with Chapman Strategic Advisors.
“Clearly one of the issues that municipalities that are financially challenged have is where you can find liquidity,” Spiotto said.
“In the beginning you’d look for other options and when those options don’t pan out you are down to fewer options and of those is sale-leaseback of a public service building,” Spiotto said.
Spiotto said Gary may still be able to go to the state and work out some additional liquidity and possible other tax sources which would then take the pressure off of segregating its cash flow.
“In one sense [the sale-leaseback] is a creative device to create some interim financing, long term they may need some further assistance from the state if the illiquidity becomes greater than the financing they get from the sale-leaseback,” Spiotto said.
Freeman-Wilson said the goal is to have the bond rated.
“That is the other aspect of the financial recovery plan, so that we can now begin to issue debt that can be rated,” Freeman-Wilson said. “Going forward we should be in a better position relative to our debt being rated.” Currently, Gary government has no official rating and is regarded as a “government in distress.”
Freeman-Wilson said that a year ago her administration, working with an entire team of both internal and external advisors, set out to come up with a permanent financial plan to balance the budget and to provide government services.
The plan relies on about $3 million in planned expense reductions that stem from the consolidation of departments and city’s office space to get rid of overhead costs as well as implementing a software program to track fuel consumption at various gas pumps citywide where personnel fill up.
The lion’s share of its financial recovery relies on the increasing revenues that Freeman-Wilson said comes from developments that is guaranteed and already underway in the city, legislative changes that will benefit the city and yield additional revenue. Freeman-Wilson said it is also from increased productivity in the city's departments.
The city also stands to see increases in investment due to
Gary opted against giving U.S. Steel a 100% property tax abatement as an incentive for the investment; instead it negotiated a payment in lieu of tax increment. That way, U.S. Steel can keep $35 million of property taxes it would have otherwise paid and the Gary city government, the Gary Community School Corp., and the Gary Public Library will split $35 million in newly generated tax revenue.
"Eighty percent of these dollars will be realized during the first 10 years of the investment," Freeman-Wilson said. "We are also exploring whether there may be an opportunity to monetize these dollars to receive some or all of them earlier in a lump sum."
The city’s low property tax collections, falling property values and declining casino revenues have driven the city's budget crisis.
While the mayor has garnered national attention for her efforts to rejuvenate the city, management remains a sore spot. An investigation into the misuse of $8.2 million in emergency public safety dollars to cover payroll and other expenses is underway. The City Council is subpoenaing all communications and records from the city administration, mayor's office, fire chief and the Fire Department's business/financial manager as part of the investigation.
Whittaker and Co., an accounting firm recently contracted by the city administration, determined through a detailed analysis that about $8.2 million was improperly transferred from the city’s emergency services fund. Money was pulled from the restrictive account between Jan. 1, 2015, and March 31, 2018, to cover payroll and other expenses in the face of a multimillion-dollar structural deficit. Of the $8.2 million, $131,850 remains unaccounted for.
