Press Room

Draft no. 5; 03/15/07

FINANCING CAPITAL MAINTENANCE PROJECTS

By
Ronald J. Ianoale, Esq.
McManimon & Scotland, L.L.C.
rianoale@mandslaw.com
973-622-5056
_______________

New Jersey school districts are required to maintain safe facilities, despite an increasing difficulty to obtain funds to do so. This problem relates not only to a school district’s ability to build new facilities, but also to maintain its existing facilities. One strategy for financing a district’s capital maintenance projects is through the periodic authorization of debt at a school district’s annual school election by a Type II school district.[1] This strategy grows out of the adoption of Senate Bill No. 1701 and its restrictions on annual budget increases and surplus.

Introduction

This article discusses the financing of capital maintenance projects. These types of improvements qualify for debt financing as well as state support under the Educational Facilities Construction and Financing Act, N.J.S.A. 18A:7G-1 et seq. (the “Act”). Capital maintenance[2] expenditures are distinguished from “routine”[3] and “required”[4] maintenance expenditures because the latter two expenditures do not qualify for financial support under the Act. The Act does, however, provide for two forms of state support for capital maintenance expenditures—grants and debt service aid. Since it does not appear likely that the Governor and Legislature will fund the grant program soon, districts are left with electing to receive debt service aid.

Debt Issuance

Currently, the best strategy for financing capital maintenance expenditures for Type I and Type II school districts is to issue debt[5] because the debt service expense—both principal and interest—is entitled to debt service aid. The reasons are several. The Act permits many school districts to receive debt service aid that did not receive it prior the Act’s adoption, or at levels that exceed any prior legislation. Secondly, the budgeting for debt service in the debt service fund is not restricted by budget caps. And debt is especially attractive for a Type II school districts if the voters authorize the debt at an annual school election, thus avoiding the additional expense of conducting special school election.[6] A final advantage exists for bond authorizations that do not exceed $1 million, because both Type I and Type II school districts are permitted to sell their bonds privately when this occurs. The private sale of bonds avoids some of the issuance costs normally associated with the competitive sale of bonds. For example, in a private sale, a district would not be required to incur costs for newspaper publications and the preparation and printing of an official statement. Several of the professional fees would also be reduced. A private sale permits a district to negotiate an interest rate on the bonds with a local bank. Of the several closing documents that would be required by the bank, the one essential document would be a legal opinion, asserting the validity of the bonds and whether their interest earnings are exempt from both federal and state income taxation.

Preparing for AnnualSchool Election

A district must plan sufficiently in advance to submit a bond question to its voters at the annual school election. Its first priority is to have an approved long-range facilities plan; otherwise, the New Jersey Department of Education, Office of School Facilities (the “Department”) will not review a school facilities project application. Assuming that a district has an approved long range facilities plan and submits an application, the Department will notify the district whether its project is consistent with its long range facilities plan within 90 days of the submission of the application. If the Department is unable to make a determination within 90 days, it will notify the district in writing that it needs more time to review the application, but such review cannot be more than 60 days from the expiration of the 90 day period. In effect, the Department could take a maximum of 150 days—or 5 months—to review a school facilities project application in order to determine the amount of state support for a project, unless the project is deemed to include an “emergent” condition.

An “emergent project” [7]is a one that requires an expedited review by the Department in order to correct a building condition that, if not corrected, poses an imminent peril to the health and safety to the students and staff. N.J.A.C. 6A:26-1.2. Emergent projects qualify for state support. But in order to be designated as such, the school facilities project application must be filed directly with the commissioner of education who will confer with the Department’s Office of School Facilities and the county superintendent’s office to determine if an emergent condition exists. If it is determined that such a condition exists, the commissioner will forward the application to the Office of School Facilities for an expedited review, regardless of whether the district has an approved long range facilities plan. N.J.A.C. 6A:26-3.16.

Ballot Question

The ballot or proposal question that will be submitted to the voters must include several elements required by the Act and its regulations. The latest date that the question can be approved by the board of education of a Type II school district for inclusion on the ballot at the annual school election is the last date that the board of education can conduct its public hearing on the budget.

Aside from describing the capital maintenance project to be authorized, the question must also include the project’s total cost. The question must also provide the amount of bonds to be authorized and include the project’s eligible and ineligible costs as determined under the Act. The percentage of debt service aid that the project will receive must also be included in the ballot.

If the capital maintenance project will be financed by sources of revenue other than bond proceeds—namely, capital reserve funds, surplus, or investment income—these sources must be identified in the ballot. And if the district intends to finance projects in more than one school building, the ballot should provide that the district has the ability to transfer its local share (as that amount is determined in the Department’s “preliminary eligible costs” letter) between projects. Failure to have such transfers approved in the ballot question will require the district to obtain the approval of the commissioner to make such a transfer. N.J.A.C. 6A:26-4.2

Given these requirements, a sample ballot question would read as follows:

PROPOSAL The Board of Education of the Township of Anytown in the County of Anytown, New Jersey is authorized (a) to undertake renovations to Anytown Elementary School and the Anytown Middle School; (b) to make the necessary onsite and offsite improvements and purchase the necessary furniture and equipment associated with such improvements; (c) to appropriate $1,000,000 for such improvements; (d) to transfer $100,000 from the capital reserve account to the capital projects fund; (e) to issue bonds in the amount of $900,000; and (f) to transfer any unexpended local share between the school facility projects. The final eligible cost of the projects approved by the Commissioner of Education is $1,000,000, consisting of $400,000 for Anytown Elementary School and $600,000 for Anytown Middle School . The improvements are entitled to 40% debt service aid of the final eligible costs of the projects.

 Debt Service Aid

Debt service aid is paid annually by the State of New Jersey while the bond issue is outstanding. The timing of the sale of the bonds will determine whether a district will receive its share of debt service aid in the same year that debt service is first incurred. With the re-authorization of debt service aid under the Act, it appears that the issuance of bonds between December and the following June precludes the ability of a district to receive debt service aid in the same budget year that it begins to pay debt service. The Department’s current policy requires that any request for debt service aid must be made no later than December in order for such request to be included in the State of New Jersey’s next annual budget. If bonds are sold after December but prior to the following June 30 th--while the aid will not be received in the next budget year--it will be received in the second budget year following the original issuance of bonds along with the aid due in that year. In order match the initial receipt of debt service aid in the same budget year that debt service is first paid, a district is encouraged to issue bonds no sooner than July 1—or little more than two months after the voters approve the bond authorization—and require that the first interest payment on the bonds occur the following July 1—or the first year that the district will receive debt service aid. This strategy has the combined effect of allowing a district to sell bonds in time for it to have the bond proceeds available to finance the capital maintenance projects during the summer months as well as receive debt service aid in the same year that it initially pays the debt service on the bonds.

Conclusion

The strategy for financing capital maintenance projects with debt has several advantages in light of the difficulty of many districts to budget annually to pay for these projects. The most cost-effective procedure for authorizing debt for capital maintenance projects for Type II school districts is to obtain the approval of the voters at the annual school election in April.

Once debt is authorized either by the voters or a board of school estimate, districts can receive the appropriate level of state support provided under the Act in the form of debt service aid. Since capital maintenance projects usually qualify for state assistance, districts can receive a minimum of 40% state support in the form of debt service aid. An added advantage is that the debt service payments—principal and interest—are exempt from any cap restriction since these payments are paid from the debt service fund. Another advantage occurs if the debt authorization does not exceed $1 million; in that case, districts can sell their bonds privately and significantly reduce bond issuance costs as compared to the costs of selling bonds competitively. Finally, in order for this strategy to work districts must plan early for the submission of the ballot question to the voters at the annual school election by submitting school facilities project applications approximately five months prior to the annual school election date. If the project qualifies as an “emergent project,” this lead time can be abbreviated.

[1] Type I school districts are not required to obtain the approval of the voters to issue debt. These districts must convene its board of school estimate to determine if school bonds will be authorized.

[2]A “capital maintenance” expenditure “extends the useful life of a school facility, including upgrades and replacements of building systems, such as structure, enclosure, mechanical, plumbing and electrical systems, and can be considered to constitute or be part of a school facilities project.” N.J.A.C. 6A:26-1.2. (For a full list of what constitutes capital maintenance expenditure by the New Jersey Department of Education view “http://www.nj.gov/njded/facilities/archives/tools/maintenance/maint.shtml.”)

[3]A “routine maintenance” expenditure means “contracted custodial or janitorial services, expenditure for the cleaning of a school facility or its fixtures, the care and upkeep of grounds or parking lots, and the cleaning of, or repairs and replacement to, movable furnishings or equipment.” N.J.A.C. 6A:26-1.2

[4]A “required” maintenance expenditures means “specific maintenance activities required for system warranty purposes which are approved for repairs and replacements for the purpose of keeping a school facility open and safe for use or in its original condition . . . .” N.J.A.C. 6A:26-1.2

[5]The term “debt” in this article includes both “bonds” (which have a term of longer than a year) and “temporary notes” (which have a term that does not exceed a year). The issuance of temporary notes also qualifies for debt service aid under the Act. See, e.g., Ronald J. Ianoale, Calculating Debt Service Aid under the Educational Facilities Construction and Financing Act, Key Post, A Publication of the New Jersey Association of School Business Officials, Vol. XXII, No. 2, January, 2006, p. 20.

[6]A Type II school district can conduct a special election on any of the following dates: fourth Tuesday of January, second Tuesday of March, last Tuesday of September, and the second Tuesday of December.

[7]An “emergent project” is to be distinguished from “emergency stabilization,” which does not qualify for state financial assistance. N.J.A.C. 6A:26-3.16(a). “ ‘Emergency stabilization’ means any action taken by a district to correct and eliminate an actual or imminent peril to the health and safety of student or staff designed to render a school facility fit for occupancy by students or staff.” N.J.A.C. 6A:26-1.2 (emphasis added).

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