As is readily apparent to all of us in New York state, across the country and around the world, the shutdown of public and private sector economic activity due to the COVID-19 pandemic has resulted in a collapse in consumer and commercial spending, travel and tourism, unprecedented unemployment and massive expenditures by the states for expansion of health care facilities, public health protective equipment and other essential government operations. News reports nationwide confirm that local governments are considering dramatic reductions in workforces and cutbacks in public services, as projected revenues in the current fiscal year fall significantly short of adopted budget levels. In New York, the Governor has publicly warned that the state’s own cash flow and revenue shortfall crisis will likely result in reductions of state aid to local governments and school districts of 20 percent or more, unless the federal government provides immediate fiscal relief. Consensus projections of reductions in sales tax and other revenues to the state and local governments are also collectively in the 20-30 percent range.

While it’s tempting at the local government level to view this fiscal distress as an immediate cash flow problem, and consider the issuance of tax anticipation notes (“TANs”) or revenue anticipation notes (“RANs”) as a remedy to finance such cash flow, the reality is that revenue shortfalls actually result in current-year budget deficits. Diminished cash liquidity is a symptom and the band-aid of TANs or RANs may be applied to provide immediate relief, but the real disease is the budget deficit which must be addressed with a combination of (i) immediate layoffs or other expenditure/service reductions; (ii) receipt of aid from other levels of government, (iii) use of available fund balance from prior years, and/or (iv) short-term borrowing through the issuance of deficiency notes pursuant to the New York Local Finance Law.

Coping with the Downturn

As noted above, layoffs and expenditure/service reductions by state and local governments have begun nationwide. Given the dire fiscal straits New York state is experiencing, state aid to local governments will be reduced and only amplify the crisis. Federal fiscal relief is being debated in Congress and may become available in some form depending on how partisan differences are resolved. While many local governments have accumulated substantial fund balances from the economic expansion during recent years, the magnitude of COVID-19 related revenue shortfalls would likely require in many cases use of all available fund balances (assuming that is the only or principal remedy applied), so issuance of deficiency notes may be necessary to address some portion of the budget deficit.

Under section 29.20 of the Local Finance Law as it exists today, a municipality, school district or district corporation is authorized to issue a deficiency note during any fiscal year in an amount not to exceed 5 percent of its annual budget to finance a deficiency in any fund or funds arising from revenues being less than the amount estimated in the budget for such current fiscal year. Deficiency notes may be renewed from time to time, but such notes, including the renewals thereof, must mature no later than the close of the fiscal year succeeding the fiscal year in which such notes are issued. For example, a city with a fiscal year ending December 31, 2020 could issue deficiency notes in May 2020 and such notes, including any renewals of such notes, must mature no later than December 31, 2021.

However, such notes, including the renewals thereof, may mature not later than the close of the second fiscal year succeeding the fiscal year in which such notes are issued, when authorized and issued during a fiscal year at a time subsequent to the date of the adoption of the annual budget for the next succeeding fiscal year. In the above example, if the city issued deficiency notes in 2020 after adoption of its budget for fiscal year 2021, such notes or the renewals of such notes could mature not later than December 31, 2022.

Fiscal 'Breathing Room'

Borrowing in this manner can provide a measure of fiscal “breathing room” for municipalities and school districts, so that the consequences of COVID-19 revenue shortfalls do not have to be addressed immediately or in their entirety by layoffs and service reductions, using all available fund balance and/or reliance on aid from the federal government in the current fiscal year. The period for addressing the fiscal distress would be extended at least until the end of the next fiscal year, giving more time to assess policy options, communicate such options to constituents, taxpayers and businesses, and thereby reach consensus on fiscal recovery plans.

It should be noted that special state legislation has been proposed which would provide even more flexibility in the issuance of deficiency notes due to the occurrence of an unforeseeable public emergency. This proposed bill would modify current law to allow municipalities, school districts, district corporations and BOCES to authorize and issue deficiency notes in amounts necessary to address the full magnitude of the revenue shortfalls. The amount of any deficiency note to be issued would be determined by the finance board and certified by the chief fiscal officer of such municipality, school district, district corporation or BOCES prior to the issuance of any said notes.

In addition, this proposed bill will authorize municipalities, school districts, district corporations and BOCES the flexibility to renew deficiency notes for a period of five years, redeem said notes as soon as adequate resources are available, or liquidate such budget deficits with long-term bonds. The term of such bonds would be determined in accordance with the criteria set forth in the legislation. The authority to issue renewal notes and/or bonds is expected to enhance the marketability of deficiency notes and will allow additional time for the potential receipt of state and federal aid that may be received on account of the COVID-19 outbreak which can be used to reduce the principal amount of any outstanding deficiency notes. Principal pay-downs on outstanding deficiency notes would have to be made starting no later than two years after the notes were issued.

Terms of Bill

Under the proposed bill, prior to the issuance of bonds to finance liquidation of a budget deficit and/or redeem deficiency notes previously issued by a municipality, school district or district corporation, the State Comptroller would be required to review and determine the amount of the budget deficit. Any deficiency notes issued in excess of the amount of the deficit determined by the State Comptroller would need to be repaid with other funds of the municipality, school district or district corporation at maturity or prior redemption. The proposed bill also provides that a BOCES would be authorized to issue deficiency notes; however, the BOCES would not be authorized to issue bonds as general obligation bonds.