CERTIFICATES OF PARTICIPATION

INTRODUCTION

In August 2000, the Santa Barbara County Board of Supervisors (BOS) approved the issuance of $32.99 million in Certificates of Participation (COPs) to build ten new County administrative, public safety, and health-related facilities. This issuance, if completed, will increase the County’s outstanding long-term obligations (as of June 30, 2000) by 65%.

COPs are lease financing agreements in the form of securities that can be marketed to investors in a manner similar to tax exempt debt. Legally, COPs are not considered debt, however, and can therefore be issued by a vote of the BOS rather than requiring a vote of the residents of the County. For this reason, and to encourage public awareness of and knowledge about the proposed issuance, the 2000-2001 Grand Jury believes that a report explaining COPs and the rules by which they are governed is appropriate. This report also describes past usage of COPs in Santa Barbara County and the present proposal.

BACKGROUND

Historically, COPs have been a financing method, among other things, to monetize existing surplus real estate. If a local government agency (Lessor) did not have a current need for certain facilities, officials had the authority to lease those facilities to a designated non-profit corporation (Trustee) that would in turn sub-lease the facilities to other organizations (Sub-lessees). In order to monetize the facility, Trustees would sell Certificates of Participation in the future sub-lease payments to be received by the corporation. The corporation would then apportion those monies back to the local government agencies.

For projects such as purchasing or constructing new buildings, governmental entities traditionally used long-term bonds, issued with approval of the voters (or, rarely, available cash). In 1978 California voters approved Proposition 13, which, among other things, increased the required voter approval for bond debt from a simple majority to a two-thirds vote, and governments found this increased approval percentage quite difficult to obtain. COPs, not requiring any voter approval, quickly became the financing mechanism of choice.

Since the passage of Proposition 13, the Board of Supervisors has encumbered the citizenry of Santa Barbara County with more than $100 million in long term obligations over the years without voter approval. This has been accomplished through sale-leasebacks of county real estate and equipment financed by COPs rather than bonded indebtedness. As of June 30, 2000, the outstanding COPs debt was $50.695 million. Of this total, $43.414 million is in the general long-term debt account group and $7.28 million is in the Solid Waste Enterprise Fund.

This large debt obligation can be created by a simple majority (3-2) vote of the BOS if COPs are approved during the budget cycle (a 2/3 vote is required if outside the budget).

Voter reluctance to approve bonds by the required 2/3 majority has no doubt contributed to the BOS use of COPs as the primary financing method for capital projects.

DESCRIPTION OF CERTIFICATES OF PARTICIPATION

Certificates of Participation are defined as lease financing agreements in the form of tax exempt securities similar to bonds. In COPs financing, title to a leased asset is assigned by the lessor to a trustee (non-profit corporation) that holds it for the benefit of the investors, the certificate holders. The participation of many investors in the lease transaction allows the transformation of what would otherwise be a straightforward financing instrument executed between a lessee and a lessor into a marketable security. COPs are thus a method of leveraging public assets and borrowing all or a portion of the value of a public agency’s equity in those assets in order to finance other assets. By entering into a tax-exempt lease financing agreement a public agency is using its authority to acquire or dispose of property, rather than its authority to incur debt. This financing technique provides long-term financing through a lease or lease-purchase agreement that legally does not constitute indebtedness under the State constitutional debt limitation. (Despite this, the term "debt" is generally still used in describing the obligation.) It is not subject to other statutory requirements applicable to bonds, including the requirement of a vote of citizens.

The non-profit corporation is the intermediary entity that is created to issue the COPs for sale to investors as marketable securities. This means that the lease enjoys much greater access to funds and creates liquidity for investors. COP-based borrowing makes the certificates marketable and transferable, generally behaving like conventional tax-exempt debt instruments.

A key characteristic of a tax-exempt lease that distinguishes it from bond indebtedness is a nonappropriation clause. The nonappropriation or fiscal funding clause means that payments of the lease are dependent upon an annual appropriation by the governing body. This differentiates the lease from indebtedness because with the nonappropriation provision, the present-year government’s action does not bind succeeding ones to pay the obligation. However, the non-debt classification of lease-purchase financing does not eliminate the need to fund lease payment expenditures nor does it eliminate the responsibility of the government to disclose the obligation in its financial statements.

COPs Procedure

The general procedure for issuance of a COP is as follows:

  1. The County identifies the leaseable asset, the purpose for incurring debt and the amount of debt to be incurred.
  2. The County leases or transfers the leaseable asset to a Lessor.
  3. The Lessor leases the asset back to the County.
  4. The Lessor’s right to receive lease payments are transferred to a Trustee.
  5. The Trustee executes Certificates of Participation which are sold to members of the public.

All of the steps in the leaseback arrangement are performed together giving the appearance of one seamless transaction.

Certificates of Participation Language

The following language is on the first page of the most recent issues of County of Santa Barbara Certificates of Participation (earlier issues had substantially the same language):

"NEITHER THE CERTIFICATES NOR THE OBLIGATION OF THE COUNTY TO MAKE BASE RENTAL PAYMENTS CONSTITUTE AN OBLIGATION OF THE COUNTY FOR WHICH THE COUNTY IS OBLIGATED TO LEVY OR PLEDGE ANY FORM OF TAXATION OR FOR WHICH THE COUNTY HAS LEVIED OR PLEDGED ANY FORM OF TAXATION. NEITHER THE CERTIFICATES NOR THE OBLIGATION OF THE COUNTY TO MAKE BASE RENTAL PAYMENTS CONSTITUTE A DEBT OF THE COUNTY, THE STATE OF CALIFORNIA OR ANY OF ITS POLITICAL SUBDIVISIONS WITHIN THE MEANING OF ANY CONSTITUTIONAL OR STATUTORY DEBT LIMITATION OR RESTRICTION."

If the government lessee fails to make the required lease payments, the lessor has the right to take possession of and operate or sell the property without a legal contest.

Budget and Appropriation of Base Rental Payments Language

Language as follows is included in the most recent issues of County of Santa Barbara Certificates of Participation (earlier issues had substantially the same language):

"During the term of the Sublease, the Base Rental Payments for the Demised Premises or such component thereof shall be paid from any source of legally available funds of the County, and so long as the Demised Premises, or such component thereof, is available for the Lessee’s use. The County has covenanted to take such action as may be necessary to include (from all lawfully available money of the County) all Base Rental Payments and Additional Rental (as defined herein) due under the Sublease and all funds necessary or appropriate for the operating and maintenance of the Demised Premises and the administration of the Trust Agreement (including without limitation audit fees, Trustee fees and rebate amounts) in its annual budgets, and to make the necessary appropriations for all such Payments, which covenants of the Lessee shall be deemed to be, and shall be, ministerial duties imposed by law, and it shall be the duty of each and every public official of the County to take such action and do such things as are required by law in the performance of the official duty of such officials to enable the Lessee to carry out and perform such covenants."

In the event the issuer failed to make a lease appropriation under a COPs financing the lessor would assume ownership of the leased equipment or facility and would also be subjected to a potential change in the tax treatment of the obligation. For these reasons investors place great emphasis on the "essentiality" of the leased property. If it is evident that the equipment or facility is essential to the government’s operation, investors feel there is a reduced risk that an event of nonappropriation will occur.

An asset transfer structure for COPs is typically used for two reasons: First, it allows the construction of a project without having to capitalize interest. Second, the project being acquired or constructed may not have a sufficient degree of necessity; encumbering a more essential asset may raise the level of essentiality to allow COP financing.

Some of the stated disadvantages include "dilution of the government’s general resources by encumbering equity in the pledged assets" and "revenue capacity within the current operating budget must be identified." The interest-rate for COPs financing is typically higher than for general obligation bonds. The interest rate differential reflects the added risks of nonappropriation in a lease-purchase financing structure. COPs also require a debt-service reserve fund, typically 10% of the principal, which is not required for general obligation borrowing. Using COPs increases the principal amount borrowed because of the debt service fund.

Other Methods of Financing Projects

Pay-As-You-Go

The pay-as-you-go method of funding means that capital projects are paid for from the government’s current revenue base or its reserves rather than issuing bonds or COPs and repaying those borrowings over time. The advantage is that interest payments are avoided. For long-term indebtedness interest cost over the life of the debt typically exceeds the amount borrowed. The savings by not having to pay a debt load are substantial. Converting to a pay-as-you-go method rather than issuing bonds or COPs may cause a delay in project implementation, however, if funds have not been set aside. With pay-as-you-go financing it can be extremely difficult to achieve a discipline whereby elected officials will set aside sufficient money for capital purposes.

Long Term Debt Options:

A variety of bond options in addition to COPs are available for funding projects. Examples are shown in the table on the next page.

Bond Options Per Typical Project

 

Project Examples

General Obligation Bonds

Special Assessment Limited Obligation Bonds

Special Tax Bonds
(Mello-Roos)

Sales Tax Limited Obligation Bonds

Lease Obligation Bonds (COPs)

Marks-Roos Bonds
(Joint Powers Authority)

Public Lease Revenue Bonds**

Public Enterprise Revenue Bonds

Public Buildings

X

 

X

X

X

X

X

X

Gov't Office Buildings

X

 

X

X

X

X

X

 

School Buildings

X

X

X

X

X

X

X

 

Jails

X

 

X

X

X

X

X

X

Juvenile Halls

X

 

X

X

X

X

X

X

Parks

X

 

X

X

X

X

X

 

Utility Infrastructure

X

X

X

X

X

X

X

X

Capital Maintenance Projects

X

 

X

X

X

X

   

Roads and Bridges

X

X

X

X

X

X

   

Road Maintenance Projects

X *

X

 

X

X

X

   

Sidewalk Maintenance Projects

X *

X

X

X

X

X

       

Flood Control Projects

X

X

X

X

X

X

     

Equipment

       

X

X

X

 

* Deferred maintenance projects only
** Public Lease Revenue Bonds may be used to finance all projects when issued through a Joint Powers Authority
(see Marks-Roos Bonds)

SANTA BARBARA COUNTY COPs

The County of Santa Barbara has issued numerous COPs dating back to 1983. In order to facilitate issuance of these instruments, the Santa Barbara Finance Corporation (SBFC) was incorporated under the California Nonprofit Public Benefit Corporation Law in July 1983. The first COPs issued under the SBFC was in July 1983, and was a lease-purchase agreement on the Santa Barbara County Administration Building for $970,000 to acquire the 6,650 sq.ft. McDonald Building located at 1226 Anacapa Street, Santa Barbara. By the early 1990’s, the County of Santa Barbara had issued in excess of $100 million in Certificates of Participation.

The main County properties used as demised (leased) property in the lease agreements have been:

  1. The Santa Barbara County Administration Building (1983 & 1998).
  2. The Santa Barbara County Social Services Building (1988 & 1994).
  3. The Santa Barbara Main Jail Complex (1990 & 1994).
  4. The San Antonio and Health Care Services Buildings (1987 & 1994).
  5. The County Engineering-Public Works Building (1989).
  6. The Santa Maria Court House and Office Complex (1991).
  7. The Betteravia Government Center (buildings A, B, & D (1997).

The funds received from the lease agreements are used to finance new capital projects or to refinance prior COPs. Recent examples of the use of funds are as follows:

1994 COPs

Refunding of 1987, 1988, 1990, and 1991 Certificates of Participation for:

  1. Rehabilitation of the San Antonio building (1987 COP).
  2. Construction of the Social Services building at the Calle Real Campus (1988 COP).
  3. Purchase of newly constructed Betteravia Government Center (1990 COP).
  4. Purchase of Santa Barbara Shores Park (1991 COP).

1997 COPs

Refunding of 1986 and 1989 Certificates for:

  1. Improvements to the Laguna Sanitation Wastewater Treatment Facility
    (1986 COP).
  2. Fire Department Capital Improvements, Public Works Energy Conservation Program, Superior Court/County Clerk Automated Court Management Information System, Santa Ynez Airport Fuel Storage Tank Replacement, and District Attorney and Tax Collector Lease Refinancing (1989 COP).

Acquisition and construction of the Sheriff’s computer-aided dispatch center, related equipment and software.

1998 COPs

Refunding of 1991 Certificates for:

  1. Purchase of undeveloped bluff top parcels on behalf of the Isla Vista Redevelopment Agency.
  2. Addition to the Santa Maria Courthouse and parking lot.
  3. Acquisition of the Rancho Baron real property adjacent to the Tajiguas Landfill.
  4. Seven separate Solid Waste projects which include: the construction of a maintenance shop building, a beachside collection system and cover structure, the development of an improved recycling processing area, the redesign of the Tajiguas Landfill, the permitting of an additional landfill site in Santa Maria, and the expansion of the Foxen Canyon Landfill.

Summary of outstanding COPs

The table below summarizes COPs in the general long-term debt account and the Solid Waste Enterprise Fund as of June 30, 2000 (Dollars in thousands):

 

Certificates of Participation

Original Issue

Outstanding Principal

Maturity

Interest Rate

2000/2001
Debt Service

1994 Land & Improvements

$45,680

$28,060

03-01-11

3.30-5.70

$3,748.7

 

1997 Capital Improvements

7,310

4,985

12-01-06

5.39-7.11

1,026.4

 

1998 Capital Improvements

11,720

10,370

02-01-11

3.80-4.60

870.7

Solid Waste Enterprise Fund
 

1998 Baron Ranch

7,760

6,795

02-01-11

3.80-4.60

596.5

 

1998 Capital Improvements

1,450

485

02-01-11

3.80-4.25

299.9

 

   Total

$73,920

$50,695

 

 

$6,542.2

2000 COPs

On August 8, 2000 the County Board of Supervisors approved the issuance of $32.99 million in Certificates of Participation (COPs). The term of debt is planned to be 20 years at a forecasted interest rate of 6.19%. The annual debt service is forecast to be $2.8 million per year (see table below). The purpose of this issuance is to build, rehabilitate, or modify 10 County administrative, public safety, and health-related facilities. The projects and their costs are as follows:


Project Name

Square
Feet

Estimated COP
Cost
($ in millions)

Estimated
Annual Debt Service

South County

 

District Attorney Facility

25,000

$6.16

 

$514,570

Courthouse East Wing

9,690

1.10

 

91,888

Rehab. Institute Building

28,690

2.50

 

208,835

Clerk-Recorder-Assessor

10,744

2.40

 

201,041

Casa Nueva

25,600

5.14

 

429,365

Engineering Bldg. Remodel

8,000

3.06

 

255,586

North County

 

Court Clerk

18,857

3.95

 

330,210

Juvenile Hall Expansion

47,900

4.48

 

374,233

Juvenile Court

12,800

3.00

 

250,602

Lompoc ADMHS Clinic

6,000

1.20

 

100,241

Total

193,281

$32.99

 

$2,756,571

 

Project Descriptions

South County

District Attorney Facility: The Space Utilization Report (SUR) estimates that the District Attorney will have a space deficit of 8,967 sq.ft. in five years in South County. These offices are currently located in 14,450 sq.ft. of space in the East Wing of the County Courthouse. Poor facility conditions in the Courthouse, particularly the lack of windows and water seepage in the basement walls, result in poor air circulation and mold, creating an unhealthy working condition. A 1996 study by Design ARC identified the optimal space to be a 25,000 sq.ft. two-story facility in close proximity to the courts. The proposed location would replace a parking lot for jurors and a small building that is occupied by the Sheriff’s Civil Division. The Sheriff’s office must be relocated and new parking must be provided for jurors before this project can proceed.

Courthouse East Wing: The SUR estimates that the Public Defender will have a space deficit of 2,799 sq.ft. in five years in South County. This office is currently located in 7,430 sq.ft. of space in the Courthouse Annex. The Sheriff needs a holding facility in the East Wing for defendants who are waiting for court hearings. Additionally, the Sheriff’s Civil Division will need to be relocated from its current location across the street to make room for the new District Attorney building. This project will renovate slightly over 1/3 of the usable space in the Courthouse East Wing. The work cannot begin until after the District Attorney’s Office relocates into its new facility across the street.

Rehabilitation Institute Building: The Multi-Integrated System of Care (MISC) program is currently in 12,050 sq.ft. of leased space and needs about 10% additional space. This project renovates an existing building that was occupied by the Rehabilitation Institute. It moved out in January 2001. The work includes substantial foundation stabilization, asbestos abatement, roof repairs, and a complete remodel of the interior.

Clerk-Recorder-Assessor Building: The Recorder’s Office currently occupies 8,430 sq.ft. of space in the Hall of Records and will need an additional 2,314 sq.ft.. This project is a new building at the site of the former Werner’s Deli on East Victoria Street.

Casa Nueva Building: Social Services is currently in leased space which costs the County more than the debt service cost per square foot for a new building. The Air Pollution Control District and the Santa Barbara County Association of Governments both have current leases that end within two years. The existing 8,140 sq.ft. building will be demolished and a new two story building will be built in its place. The building will be designed to maximize energy efficiency and utilize natural air movement and lighting to the fullest extent possible.

Engineering Building Remodel: The Public Works Department currently occupies 20,055 sq.ft. of space on Anapamu Street and will need an additional 1,891 sq.ft. in five years. Planning and Development (P&D) currently occupies 16,700 sq.ft. of space in South County and will need an additional 9,512 sq.ft. in five years. This project will "fill in" two underutilized courtyards. The first is in the center of the Engineering Building between a wing used by P&D and a wing used by Public Works. The second is between the Engineering Building and the Administration Building adjacent to the Planning Commission hearing room. Each "in-fill" will be two stories and will provide new circulation patterns between the buildings and the wings they connect.

North County

Court Clerks Building: According to the SUR, the Superior Court will have a space deficit of 50,000 sq.ft. in five years which represents approximately 50% of its existing space in North County. Currently, a major portion of the Clerk’s Office is housed in temporary trailers. This project is a new building for the Unified Superior Court Clerk’s Office. Following completion of the building, 3,600 sq.ft. of space in Building C will be vacated by the Courts and remodeled for the District Attorney. Additionally, an existing break room and restrooms will be allocated to the Sheriff. Finally, 1,500 sq.ft. of space will be constructed between Building A and B for the Public Defender.

Juvenile Hall Expansion: A Needs Assessment Study was prepared by Hellmuth, Obata, and Kassabaum which recommended 170 beds for North County detention needs. This new facility will provide 90 beds, as well as space for detention staff offices, classrooms, kitchen, laundry, visitation, and related areas. The facility shall incorporate the "Podular" concept of design for the juvenile housing units. Intake and release, staff, and juvenile support areas will be provided in close proximity to the housing. Security, safety, and efficiency are key. Preliminary site plans and alternatives have been prepared by Ravatt Allbrecht and Associates, Inc.

Juvenile Court Expansion: The Superior Court will have a space deficit of 50,000 sq.ft. in five years which represents approximately 50% of their existing space in North County. This project will remodel and expand the existing Santa Maria Juvenile Court Facility located adjacent to the Juvenile Hall. The project includes some space for the District Attorney, Public Defender, and some non-assigned space for meetings.

Lompoc ADMHS Clinic: Alcohol, Drug, & Mental Health Services currently occupies 30,516 sq.ft. of space in North County and will need an additional 15,618 sq.ft. in five years. This project is a new mental health clinic on County-owned land near the R Street complex. Space for new programs including the new Urgent Care Centers, Mentally Ill Offender Crime Reduction (MIOCR), and the integration of the Alcohol & Drug program will be provided.

OBSERVATIONS

Over the past two decades the BOS has issued more than $100 million in COPs without voter approval. This has, arguably, enabled the County to purchase or construct numerous needed facilities much sooner than could have been achieved if the funds had to be saved prior to initiating the projects. However, interest cost, which can exceed the principal borrowed over the life of a COP, would not be incurred under a "pay-as-you go" program.

The issuance of COPs is authorized by the BOS by a simple majority (3-2) vote when the COP is in the budget. A two-thirds (4-1) vote by the BOS is required if the COP is not in the budget. The approval process does not require any public notice beyond that provided by the normal agenda process. Although issuance is normally discussed at several meetings, and may receive some press coverage, the potential lack of wide publicity may deprive the citizens of the County a reasonable opportunity to engage in a constructive dialogue concerning the merits of a proposed COP financing, and the alternatives thereto.

FINDING AND RECOMMENDATION

Finding 1: The general public is not sufficiently aware of the process involved in the issuance of COPs or the extent to which the County has used them in the past.

Recommendation 1: The Board of Supervisors should generate greater publicity for all proposed COPs financing, and hold public hearings at several locations throughout the County to justify the need and rationale for the use of COPs as opposed to alternative financing strategies.

AFFECTED AGENCY

Board of Supervisors

Finding 1
Recommendation 1


1   County of Santa Barbara - COPs Facility Program Strategic Plan, August 2000.
2   County of Santa Barbara - Capital Financing Feasibility Project - Appendix II Financing Options September 21, 1999 - § 8, page 2, -Certificates of Participation (COP's).
3   The use of COPs is not unique to Santa Barbara County government. Other government agencies also use these same financial instruments to finance equipment and real property.
4   County of Santa Barbara, "Comprehensive Annual Financial Report," Fiscal Year Ended June 30, 2000.
5   See footnote 2.
6   County of Santa Barbara - Capital Financing Feasibility Project - Appendix II Financing Options September 21, 1999 - § 22 -Certificates of Participation (COP's)
7   See footnote 2.
8   Ibid
9   Ibid
10  County of Santa Barbara - Capital Financing Feasibility Project - Appendix II Financing Options September 21, 1999 - § 3 -Certificates of Participation (COP's)
11  See footnote 4.
12  County of Santa Barbara - COPs Facility Program Strategic Plan, August 2000, § I-1
13  County of Santa Barbara, "Space Utilization Report, South County," January 2000.
14  County of Santa Barbara, "Space Utilization Report, North County," August 2000.