Municipalities across Georgia could face higher borrowing costs if the state government enables the de-annexation of about half of one small city.

The city of Stockbridge’s bondholders and legal experts say that will happen if Gov. Nathan Deal signs into law Senate bills 262 and 263.

SB 262 would de-annex about 51% of Stockbridge’s assessable residential and commercial property value to pave the way for the new city of Eagle's Landing. SB 263 authorizes the creation of Eagle's Landing, which voters in the prospective city would then have to approve.

Stockbridge, Ga., city hall
The Stockbridge, Georgia, city hall was financed with revenue bonds that are now at the center of a de-annexation dispute. City of Stockbridge, Ga.

Deal has until Tuesday to approve or veto the bills, or allow them to become law without his signature.

“The governor has never allowed a bill to automatically become law by not signing it,” Deal spokeswoman Jen Talaber Ryan said Tuesday. “The governor is carefully reviewing this legislation, including input from stakeholders, along with all other bills to reach his desk.” Deal, a Republican, is term-limited out of office after this year.

Neither bill apportions the outstanding debt held by Stockbridge, which legal experts say is required by precedent-setting court cases before the U.S. Supreme Court and Georgia when the boundaries of a governmental entity are changed.

An attorney for Eagle's Landing disagrees.

Last week, Stockbridge officials and representatives of the Eagle's Landing effort held separate meetings with the governor during Georgia Cities Week activities sponsored by the Georgia Municipal Association.

Stockbridge’s meeting with the governor was “very productive,” said city attorney Michael Williams, a former bond counsel.

“The governor said he would consider the series of points we made,” Williams said. “I’m certainly taking him at his word that he will.”

Stockbridge has hired three outside law firms to challenge the laws if Deal approves them.

If de-annexation occurs, the much smaller remainder of Stockbridge still would be obligated to pay off about $13.02 million of privately placed Urban Redevelopment Agency lease-revenue bonds and $1.5 million of water and sewer notes issued through the Georgia Environmental Facilities Authority. Both have final maturities in 2031, according to the city's Dec. 31, 2016 audit.

The lease-revenue bonds, issued in 2005 and 2006 for projects including buying land and building city hall, are backed by general fund revenues and the city’s taxing power, if needed, even though the city doesn’t currently assess a property tax.

The bonds are owned by Capital One Public Funding LLC, a nationwide municipal lender. Chapman and Cutler LLP, which represents Capital One, wrote to the city a day after the General Assembly ended its session March 29, warning it could face potential litigation.

“SB 262 and SB 263 infringe Capital One's constitutional rights under the contracts clause of the U.S. Constitution and the Georgia Constitution by taking away a significant source of the security and source of repayment for the bonds that was contractually bargained for by the bondholders,” Chapman and Cutler partner Laura Appleby wrote to the city attorney.

Unless the bonds are properly apportioned between Stockbridge and Eagle's Landing, and the bondholders have the benefit of the full security that they were originally promised, Appleby wrote, “We have serious concerns regarding the ability of [Stockbridge] to continue to pay debt service on the bonds because it will have lost a large portion of its ad valorem tax base.”

Jonathan Lewis, Capital One Public Funding’s president, sent a letter to Deal April 6 requesting a meeting.

“The failure of SB 262 and SB 263 to provide for the apportionment of the bonds between the city of Stockbridge and, if formed, the city of Eagle’s Landing, is not only an inequitable result for the city of Stockbridge, it is an infringement on Capital One’s constitutional rights under the contracts clause of the U.S. Constitution and the Georgia Constitution as it removes a significant portion of the security and source of repayment for the bonds,” Lewis wrote.

“Capital One has come to trust that the state of Georgia will take those actions required to maintain, preserve and protect the pledges made by its municipalities to their bondholders,” Lewis wrote. “Permitting SB 262 and SB 263 to become law would no longer allow us to rely in the state of Georgia [based] on the bedrock public finance principle of non-impairment.”

Stockbridge’s de-annexation will impair Capital One’s bonds and “create new, unprecedented risks for existing holders and prospective purchasers of state of Georgia local debt,” Lewis wrote in an April 26 letter to Larry Hanson, executive director of the GMA, which has 521 municipal government members.

The de-annexation, Lewis wrote, would require all lenders to Georgia’s cities to “consider, and price in, the potential loss of security from future de-annexations,” because the legislation does not apportion Stockbridge’s outstanding debt.

“GMA’s members would bear the burden of this new, Georgia-specific risk in the form of higher interest costs,” Lewis wrote. “The uncertainty created by such a shift sets a dangerous precedent and could produce additional negative unintended consequences as lenders consider municipal financing opportunities within the state.”

Hanson did not immediately respond to a request for comment about the letter from Lewis or if the GMA had taken a position on the legislation.

Georgia has triple-A ratings, and an analysis by municipal advisor Larry Kidwell, president of Brentwood, Tenn.-based Kidwell & Co., said if the annexation plan is approved it would establish a new, negative legal precedent for the state that could also adversely affect bond ratings.

Stockbridge is about 20 miles south of Atlanta in Henry County. It had an estimated population of 28,700 in 2016, up from 25,636 in 2010, according to the U.S Census Bureau. The city consists of about 13 square miles, and will celebrate its centennial in 2020.

Allison Halron, a board member of the Eagle's Landing Educational Research Committee advocating for incorporation, said she believes some of the issues and risks suggested by financial professionals and Stockbridge officials are misleading.

“It’s such an easy thing for people to create this false hysteria,” said Halron, who is the finance director for the Clayton County Water Authority.

Halron, who lives in unincorporated Henry County within the boundaries of the proposed city of Eagle's Landing, suggested that fund balances available in the city’s budget show that the repayment of debt will not be a problem.

“Stockbridge has been saying that the formation of the city of Eagle's Landing will throw it into financial ruin – that the repayment of debt will be called into question,” she said. “After reading the latest audit that’s not the case.”

The GEFA notes are backed primarily by a voter-approved special purpose local option sales tax, and secondarily by water and sewer revenues.

Halron, who said she underwrote the deal when she worked for GEFA between April 2010 and August 2014, said the SPLOST funds can only be used for specific projects and repayment of debt for the construction of that particular project.

“The SPLOST stays with the project,” she said. “Any failing in SPLOST funding will be covered by cash flow generated by the water and sewer fund.”

When asked about the privately placed lease-revenue bonds held by Capital One, Halron said that unrated debt is “more like a loan than a bond” that is monitored in-house by Stockbridge city staff. Since there is only one bondholder, she said it would be “relatively easy” to negotiate new terms, if necessary.

The law in Georgia is that bonds that are validated and approved by the voters are subject to the ad valorem tax levy by the issuing governmental entity even if such property is later annexed into another jurisdiction, Thompson Kurrie Jr., a partner with Coleman Talley LLP, which represents the Eagle's Landing committee, said in an email to The Bond Buyer.

The bonds issued by Stockbridge’s Urban Redevelopment Agency were not required to be validated by the Henry County Superior Court nor were they required to be approved by city voters, he said.

“The courts have not ruled one way or the other whether ‘back- door general obligation bonds’ also are treated similarly under Georgia law,” he said. “My opinion is that they do not since the voters have not obligated them.”

Kurrie also said the city had restricted and unrestricted reserves for its governmental activities of $16.7 million and $14.9 million, respectively, as of Dec. 31, 2016. “The creditworthiness of Stockbridge in my opinion is not an issue," he said.

“An unintended result of the incorporation of Eagle’s Landing is the adverse regulatory effect on the holder of these local agency bonds, even though Stockbridge has the reserves today to pay off the bonds in full and operate each year with a surplus,” he said.

Stockbridge has annexed numerous parcels over the years without a public vote, Halron said, and that has become a hot-button issue for residents in the proposed Eagle's Landing and portions of unincorporated Henry County.

Halron also said Stockbridge’s five-member city council and mayor are elected at large, instead of within districts, and the council has a past history of “alienating people.” Their general decision-making fostered the desire by some people to incorporate Eagle's Landing.

“We need to get control of what’s happening,” Halron said. “I’d rather be in the city of Eagle's Landing, but if I couldn’t, I don’t want to be in Stockbridge.”

Robbins, Ross, Alloy, Belinfante, Littlefield LLC, one of three law firms hired by Stockbridge, told Deal in an April 24 letter that underwriters the firm has consulted oppose the Eagle’s Landing legislation because they consider a city's taxable property when determining bond rates and whether to issue municipal bonds.

“Underwriters have not previously considered the ‘destabilization’ that would follow the de-annexation of a significant portion (here, above half) of a city's territory,” the Robbins letter said. “The underwriters are concerned about evaluating risk when the territory subject to taxation can be cut in half overnight. This uncertainty may increase the cost of borrowing funds, which is perhaps why nearly 100 Georgia cities opposed the Eagle's Landing legislation.”

Williams, Stockbridge city attorney, said that some of Stockbridge's annexations were done at the request of the developer who created the Eagle's Landing community. He also said some problems that developed over the years were created by former mayors and city council members.