So I’ve gotten a lot of comments and concerns about wrapped debt financing. After spending several years working on legal issues related to the Financial Crisis, I completely understand people having an aversion to financing arrangements that look too good to be true. To be clear, a “wrapped” debt service is not an unusual financing structure but rather one that works well in certain circumstances.
According to the Office of the Treasurer for the State of Ohio, “wrapped” debt service provides for little amortization in the first few years. That means for the bonds issued to construct the new middle school, the initial payments will only pay interest and not pay down principal. Instead, the County will use the increased tax revenue to pay off the Pulaski Elementary School debt (which should be completed by 2021) and then the Riverlawn debt (which is broken into three bonds that mature between 2029 and 2036). Then the additional revenue from the tax increase will be used to address the principal and the interest for the middle school bonds, which will then be paid off by about 2040 (depending on the issuance date and term of the bond).
The “wrapped” debt structure is typically used when an a municipality’s existing debts have a short life span (like the 4 years left on Pulaski Elementary at about $700,000 a year) and adding more “level” debt would put stress on tax rates. Also, it only makes sense when we are in a very low interest rate environment. As of last year, Moody’s rated Pulaski County Aa2 which is well into the investment grade range. Therefore, we can expect to pay anywhere from 2.5-3.5% on a 20 year term bond if the bond is issued this year. When Pulaski High School was built in 1974, interest rates for municipal bonds were over 6% and rose to over 12% in the early 1980’s. While we are unlikely to see inflation reach the levels seen in the 1980s a return to a higher interest rate environment is clearly the intention of the current Administration and the Federal Reserve, which announced a rate increase today. In fact the Federal Reserve is also selling the up to $4 trillion worth of assets, left over from the Financial Crisis, which should also drive up interest rates.
All of this together indicates that if the County wants to be a responsible steward of its fiscal resources, quick action is needed. The longer it waits to issue bonds, the more expensive it will be. If interest rates rise from 3% this year to 4% next year, on a $45 million bond over 20 years, it will cost an extra almost $6 million for Pulaski County to build a new middle school. That’s close to the amount of additional interest that is required for the “wrapped” versus “level” debt options presented by the School Board. For comparison, the NRV Regional Jail pays about 3% on $50.3 million dollars on outstanding bonds. In addition, every year that we’re operating older schools with poor insulation, drafty windows, aging HVAC, and leaky plumbing is another year of high energy and water bills. A new school with LED lights, efficient plumbing, modern windows, and insulation (and we can only hope solar power) will drive down our utility costs and maintenance budgets not just the year it opens, but for decades.
Thanks, Michael. I have now a better understanding of "wrapped" with regards to school financing. :)