What are the pros and cons of debt financing?

The pros of debt financing are:

• A project that a community does not have the resources to fund completely can go forward;
• Funding agencies may view debt financing as an indication of a community's commitment to a project, resulting in higher scores on grant applications;
• Having matching funds can make a community eligible for funding programs that it might not otherwise qualify for.

The cons of debt financing are:

• Unlike grants, debt financing has to be paid back;
• Debt financing is not free and in some cases repayment and interest charges can be quite high;
• The process for obtaining debt financing can be complicated and beyond the management capability of many small communities;
• Managing and paying back the debt requires a complex management and monitoring system.

Are there any restrictions on how a community may borrow or invest its money?

There are no legal restrictions spelled out in the statutes on how a community may invest its money. There are of course restrictions on how grant funds may be spent and are usually spelled out in the grant agreement. There is an implied restriction in fiduciary responsibility. A municipality should not be investing in high risk ventures. Title 29 of the Alaska Statutes gives incorporated communities the power to invest money in investment pools (AS 29.35.015) and to borrow money and issue evidences of indebtedness (AS 29.35.010(11)). There are, however, restrictions and limitations on how communities may issue and manage bonds (debt). There are numerous types of bonds that the community may have available and these are spelled out in AS 29.46.130-140 and AS 29.47.140-340. As mentioned before, elected public officials have a fiduciary (trust) responsibility to their communities, and investing money or issuing debt that is against the best interest of the community may be a breach of that fiduciary responsibility.

What are bonds?

A bond is a loan that the community promises to pay back to the bondholders. It is different from a bank loan because the bond is sold out on the open investment market to anyone who wishes to purchase a piece of that bond. If you get a 1 million-dollar loan from a bank, for your purposes the bank is the only investor in that loan. A 1 million-dollar bond may have thousands of people who purchase shares of that bond. There are many different types of bonds for different purposes. There are numerous types of bonds that the community may have available. These are spelled out in AS 29.46.130-140 and AS 29.47.140-340.

What is the difference between general obligation bonds and revenue bonds?

General obligation bonds are used for capital improvement projects, such as roads, schools, public buildings, etc. and are paid back through taxes or other sources of general fund revenue. Revenue bonds are used for projects that can generate revenue that can be used to pay back the debt. Examples would be electric or water and sewer utilities, or port or harbor facilities that generate revenue through user fees.

Though borrowing is an attractive alternative for reducing debt or proceeding with a project or capital improvement that is under funded, an organization should give serious thought to whether it has the capacity to manage debt. Any debt must be planned for and included in the community's financial planning and budgeting. The Department of Community and Economic Development's (Commerce) "Local Government Handbook" chapter on "Managing City Finances" has a good discussion on borrowing and bond sales. The Alaska Municipal Bond Bank Authority (AMBBA) has information and assistance available on bond sales and borrowing, as do other public and private organizations.

Most communities have limited resources available to invest; however, communities should have contingency funds, reserve funds, or excess grant funds that can be invested for a certain period of time without imposing a hardship on the community. If your community has surplus funds it wishes to invest you should seek professional guidance before making any decisions. The "Local Government Handbook" chapter on "Managing City Finances" has a good discussion on investing, and there are public and private organizations available to provide assistance with investment. There are risks associated with investing, so careful thought must be given to whether a community can afford the risk. Generally, the higher the return, the higher the risk.

• Alaska Department of Community and Economic Development (Commerce), Division of Investments
• Alaska Municipal Bond Bank Authority (AMBBA)
• Alaska Municipal League Investment Pool (AMLIP)

• Alaska Constitution, Article IX, Section 9 - debt for capital improvements and ratification by voters
• Alaska Constitution, Article IX, Section 10 - interim borrowing and repayment provisions
• Alaska Constitution, Article IX, Section 11 - exceptions on restrictions in section 9 when selling revenue bonds
• Alaska Department of Law

Alaska Statutes

• Alaska Legislature "Folio Infobase" - The Current Alaska Statutes
• AS 29.35.010 authority to borrow money
• AS 29.35.015 authority to enter into investment pools
• AS 29.35.625-670 port authority bonds
• AS 29.45.590 levy of tax by second class city to meet debt
• AS 29.46.130 interim financing of local improvements in anticipation of special assessment revenues
• AS 29.46.140 special assessment bonds and guarantee fund
• AS 29.47.010-040 borrowing in anticipation of revenue, revenue anticipation notes, payment on revenue anticipation notes
• AS 29.47.080-140 borrowing in anticipation of general obligation and revenue bonds, bond anticipation notes, repayment of notes, security, limitation, use of proceeds
• AS 29.47.180-200 general obligation bonds for capital improvements, ratification by voters and notice of indebtedness, cost of debt, payment
• AS 29.47.240-260 revenue bonds and repayment, election and exceptions
• AS 29.47.300-340 refunding bonds, election and exception, payment provisions, sale of refunding bonds
• AS 29.47.390-460 revenue bonds for financing public purpose project, repayment and exceptions, manner of sale and pricing, terms, interest rate, redemption, borough and service area debt, development and redevelopment projects
• AS 37.23.020 investment pool authorization, authorized investments and collateral, management and reporting, and definitions. See Current Alaska Statutes
• AS 37.39.100 prohibitions on bond bidding
• AS 44.85.005 - 400 creation of municipal bond bank authority, authority directors, powers of the authority, tax exemption, bond and note purposes, security, preferences, sale price, payment or refunding, terms, bond anticipation notes, reserve funds, default, property levy exemption, lien on revenues, government agency cooperation, public records, open meetings
• AS 44.85.410 definitions
• AS 44.88.150 investments by fiduciaries (including municipalities) in Alaska Industrial Development and Export Authority

Regulations

• Alaska Legislature "Folio Infobase" - The Alaska Administrative Code
• 15 AAC 144 010 - municipal bond bank authority, eligibility of a municipality for loan approval, loan application and board review, method of bond sale, loan application conditions, definitions

Updated 4/27/02