TO: HONORABLE MAYOR AND MEMBERS OF THE CITY COUNCIL
FROM: DENNIS McLEAN, DIRECTOR OF FINANCE AND INFORMATION TECHNOLOGY
DATE: FEBRUARY 1, 2005
SUBJECT: PROPOSED VEHICLE LICENSE FEE GAP LOAN RECEIVABLE SALE
Staff Coordinator: Gary Gyves, Senior Administrative Analyst
BACKGROUND AND DISCUSSION:
Prior to 1999, State residents paid a Vehicle License Fee ("VLF") of 2% of the market value of their respective vehicles to the Department of Motor Vehicles. This VLF funding is passed through to cities and counties throughout California. The State legislature reduced the VLF tax rate from 2% to 0.65%, commencing in 1999. The same legislation also guaranteed cities and counties that the State would "backfill" the difference between the two rates.
On June 19, 2003, due to the State budget crisis, the VLF tax rate was restored to the pre-1999 rate of 2%. Due to the increase of the VLF tax rate, the need for the State to backfill local governments was eliminated. On November 17, 2003, the new Governor issued an executive order lowering the rate back down to 0.65% and reinstating the backfill to local governments. However, during the time it took the DMV to initiate the increase (approximately three months), the State did not make VLF backfill payments to local governments. The State Legislature has characterized the amount of VLF backfill revenues it failed to pay to cities and counties during this three-month period as a loan.
The State Controller’s Office has determined that the City’s VLF backfill gap loan to be $725,942 (the "VLF Backfill Gap Loan"). In accordance with the State’s FY04-05 Budget document, the VLF Backfill Gap Loan is scheduled to be repaid on August 15, 2006. However, the City’s receipt of this payment could be delayed further by future State budget legislation.
Proposition 1A, passed in November 2004, amended the State Constitution to protect certain sources of local government funding. Among other things, Proposition 1A generally prohibits the State from shifting to schools or community colleges any share of property tax revenues allocated to local governments for any fiscal year under the laws in effect as of November 3, 2004 including the VLF Backfill Gap Loan. However, as stated in the Analysis of Proposition 1A prepared by the State Legislative Analysts Office and included in the Official Voter Information Guide, there are notable exceptions to these protections:
"The measure provides two significant exceptions to the above restrictions regarding sales and property taxes. First, beginning in 2008-09, the state may shift to schools and community colleges a limited amount of local government property tax revenues if: the Governor proclaims that the shift is needed due to a "severe state financial hardship", the Legislature approves the shift with a two-thirds vote of both houses, and certain other conditions are met. The state must repay local governments for their property tax losses, with interest, within three years. Second the measure allows the state to approve voluntary exchanges of local sales tax and property tax revenues among local governments within a county."
Proposition 1A only requires the State to make payments on the VLF Backfill Gap Loan prior to any time the State wishes to utilize the "severe state financial hardship" provision described above. Therefore, the State’s payment of the VLF Backfill Gap Loan could be delayed by State budget action beyond its scheduled payment date of August 15, 2006, until FY08-09 or fiscal years beyond.
The State Legislative Analysts Office has reviewed the State’s Proposed FY05-06 Budget and opined:
"The state faces an ongoing structural budget shortfall, peaking at $10 billion in 2006-07, absent corrective actions. The budget proposal for 2005-06 contains about $4.5 billion in ongoing savings, which would expand to roughly $5 billion in the subsequent year. This implies that, if all of the budget proposals were adopted and the savings estimated by the administration were fully achieved, the projected ongoing imbalance between revenues and expenditures would be reduced by roughly one-half. Thus, while adoption of the budget plan would reduce the structural shortfall, the state would continue to face major budget imbalances in 2006-07 and beyond, absent additional corrective actions."
As you may recall, the scheduled receipt of the VLF Gap Loan has not been included in the 2004 Five-Year Financial Model – Revision 2, due to the uncertainty of its receipt, in light of the State’s ongoing structural budget shortfall.
Authorized under SB 1096, the VLF Program was instituted by the California Statewide Communities Development Authority (CSCDA) to enable cities and counties to sell their respective VLF Gap Loan receivables to CSCDA for a fixed purchase price. If the City were to participate in the VLF Program, it would receive the purchase price for the VLF Backfill Gap Loan by late March or early April 2005. CSCDA is a joint powers authority sponsored by the League of California Cities and the California State Association of Counties. CSCDA was created to provide local governments low-cost financing for projects that create jobs, help communities prosper and improve the quality of life in California. The member agencies of CSCDA include approximately 230 cities and 54 counties throughout California. Prior to participation in the VLF Program, the City will first need to become a member of CSCDA by adopting the attached resolution provided by CSCDA and executing the applicable joint powers agreement (also attached). Based on information provided by CSCDA, 140 cities and counties have submitted applications to participate in the VLF Program with VLF gap loans totaling over $362 million. Some of the cities participating in the VLF Program are detailed in Table 1 below:
CSCDA is planning to issue notes ("VLF Notes") and use the note proceeds to purchase the VLF Gap Loan receivables ("VLF Receivables"). The actual purchase price of the VLF Receivables will depend on the total amount of VLF Receivables that cities and counties sell to CSCDA and on bond market conditions at the time the VLF Notes are priced. Therefore, the exact amount of net proceeds the City will receive from selling its VLF Receivable is unknown at this time. The VLF Program is a pooled financing program. Therefore, the attached documents must be executed as is, or not at all. However, the City Attorney and Deputy City Attorney have reviewed and approved the attached resolutions and attached documents.
Staff is recommending that the City Council establish a maximum discount rate of 10.53%, and therefore, a minimum sales price of 89.47%. This will ensure that the City will receive at least $649,500 of its estimated VLF Receivable of $725,942. If this minimum sales price cannot be met, the City will not be obligated to participate in the VLF Program.
The maximum 10.53% discount rate was established using an "unlikely" 1% upward movement in the short-term interest rate of 3.7% for the VLF Notes (as of January 12) and adding in an additional discount for credit enhancement fees and bond issuance costs. However, considering the time value of money, the estimated net discount rate is estimated to be 8.4% (based upon a "worst case scenario" calculation). The net discount rate is calculated by offsetting the maximum 10.53% discount rate by interest earnings projected on proceeds received from the sale of the VLF Receivable for a period of one year (based upon the December 2004 LAIF Rate of 2.13%). The VLF Gap Loan is non-interest bearing. The City’s sale of its VLF Receivable will be irrevocable. Bondholders will have no recourse to the City if the State does not make the VLF Gap Repayment.
Presentation To The Finance Advisory Committee, January 26, 2005:
Staff expects to present the Proposed Vehicle License Fee Gap Loan Receivable Sale to the Finance Advisory Committee (the "FAC") at its regular meeting on January 26, 2005, subsequent to completion and submission of this Staff Report. Staff will be prepared to present any of the FAC’s questions, answers to such questions and comments to the City Council along with its oral presentation of this Report.
If the City Council elects to participate in the VLF Program, staff is recommending that the City Council establish a minimum sales price of 89.47%, which will ensure that the City will receive at least $649,500 of its estimated VLF Receivable of $725,942. If this minimum sales price cannot be met, the City will not be obligated to participate in the VLF Program. If the City Council approves the VLF Gap Loan Receivable sale General Fund reserves would be increased by the same amount during FY04-05, estimated to be $649,500.
Director of Finance and Information Technology