Two Michigan local governments will bond for retirement shortfalls
Two Michigan local governments plan to price taxable limited tax general obligation bonds by year-end to close shortfalls in retiree obligations and meet funding requirements set by the state’s year-old oversight program that monitors community pension and retiree health care plans.
The city of Dearborn is planning to price $35 million of bonds in the first week of December and Muskegon County plans to price up to $45 million of bonds the week of Dec. 10, according to deal documents.
Dearborn has selected Hilltop Securities as senior manager. PFM is the municipal advisor.
Moody’s Investors Service has affirmed its Aa3 on the city's LTGOs. Following the sale, the city will have $220.5 million of unlimited tax GO debt and $101.2 million of outstanding limited tax GO debt.
“The current issuance will decrease the city's retiree healthcare liability and there will be a commensurate increase in the city's debt burden,” said Moody’s.
The bonds are a first budget obligation of the city payable from all available revenue. The city has pledged its full faith and credit, but its taxing authority is limited by constitutional and statutory caps.
Matt Fabian, a partner at Municipal Market Analytics, said that the lack of taxable supply could be a positive for the bonds.
“The taxable market is relatively weak because of the disruption in corporate bonds, with longer maturities being the worse off,” Fabian said. “But there has been little supply of taxable munis in 2018, probably making these attractive to taxable muni-specific buyers.”
Fabian said the deals don't speak well for the long-term credit quality of Dearborn and Muskegon County.
“Investors will have to assume the bonds will amplify local financial volatility and could lead to faster downgrades than otherwise if the local economies begin to sag,” he said.
In 2017, legislators passed Public Act 202, which required local units of government with retirement systems to submit to the Treasury information on their retirement plans’ funded ratios, the community’s required contributions and the municipality’s annual revenue.
Under the state law, retirement pension plans are required to have a funding level of 60% and retirement health care plans are required to have a funding level of 40%. Dearborn and Muskegon County are two of 215 communities currently underfunded.
Dearborn’s bonding would help the city exceed the 40% funding level required for its health care plan by the state, Dearborn Financial Director James O’Connor said. O’Connor said in an email that the cities unfunded liability is roughly $160 million for post-employment healthcare.
The city closed fiscal 2017 with an available fund balance across core operating funds of $31 million, or 25% of revenue, according to Moody's. In fiscal 2017, the city contributed $13.6 million to all pension plans, or 10.7% of its operating revenue. Dearborn's pay-go OPEB cost in fiscal 2016 was $15.5 million, or another 12.3% of operating revenue.
“We have no issue funding retirement but healthcare is different,” Councilman Michael Sareini, said at a recent city council public hearing. “We have to fund retirement at 60% and healthcare at 40%, which we have been funding at 36%.”
Muskegon County's $45 million in limited tax general obligation bonds would make the county’s pension plan approximately 86.9% funded, according to a county document.
As of December 31, 2017, the most recent actuarial valuation date, the defined benefit plan as a whole was 64.9% funded. The county paid $8 million in pension contributions this year, and will pay a little more than $9 million in 2019.
“The county has not yet finalized the numbers, the preliminary official statement or disclosure documents, as they are still waiting for approval from the Michigan Dept. of Treasury,” a source familiar with the deal said.
S&P Global Ratings rates the county’s limited-tax GOs AA, with a stable outlook.
“While the underfunded pension liability is not placing significant pressure on the budget now, we believe future pension costs could rise given that the Michigan Municipal Employees Retirement System plan uses aggressive assumptions on rates of return and risky mortality projections,” S&P said.
Both bonds would have to get done before the state’s pension and OPEB bonding sunsets the end of this year. In Michigan, local government pension and OPEB bonds are permitted under 2012 revisions to the state's Municipal Finance Act, which added a section to allow pension and OPEB bonding by governments that have closed their defined-benefit plans. They can only sell bonds if the defined benefit plan is closed to new hires and a defined contribution plan has been opened to new hires. They also need a bond rating of double-A or higher.
The legislation has since been extended twice and expires in December.