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principles of finance a la shmoop lifecycle the how and why of muni bonds

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will ever be into a town hall meeting and they usually have lots of retired [town hall meeting full of old people]

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people attending their lousy coffee a lot of blue hair rinses and dentures

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yeah don't trip on those and yet municipalities are the backbone [Uncle Sam seen as a skeleton]

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infrastructure of our country they build the parks and buildings and sewers and

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garbage collection thingies and so on you know the things that make us go or

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deal with us after we you know go well some examples of muni bonds here we go [public toilets]

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new york city needs improvements to its subway system so it is bonds to pay for [people getting onto subway train]

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him the local NBA squad wants a new arena or it's moving to Vancouver or [basketball court]

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Seattle or wherever the home city desperately wants to keep him there so

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it issues muni bonds to build those overpaid pituitary freaks a new home

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all right well crime capital USA wants more cops on the streets crime capital

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has to pay for those additional heroes wages training new squad cars yeah they

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all require big bucks solution issue bonds uni bonds all right well there are

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really only two flavours immune Yvonne's general obligation bonds and revenue

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bonds well the state or local issuer assures repayment through quote Full

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Faith and Credit unquote but there is a huge difference between them with

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Treasuries Full Faith and Credit means that the US government unconditionally [picture of government building]

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promises to pay all interest and principal even if it has to run the

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presses 24/7 to print enough money to do so Geo's or general obligation bonds on [money getting printed]

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the other hand pay interest and principal from taxes that the issuer can

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levy on its local citizens income tax property tax sales tax sin tax

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cigarettes and booze or examples of these if there's a way to extract a

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tithe a municipality might actually try it well The Full Faith and Credit is the [money collected during town hall meeting]

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issuer's unconditional promise to pay unless some you know they can't generate

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enough tax revenue to do so then Full Faith and Credit fades to pay you messed

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up you trusted us aren't any animal house fans out there yeah that's great

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one all right well revenue bonds do not offer any Full Faith and Credit comfort [writing on white board]

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payment on these bonds comes from the revenue generated from what the bond

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were used to create bonds to build a toll bridge or good example here the

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issuer can estimate fairly accurately the revenue that will be generated from

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the tolls and then it's up to the investors to decide if that revenue will [hand passes briefcase full of money]

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be sufficient to service the debt a hybrid mut formed from both of these

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concepts is a double-barreled bond which is backed by both taxes and revenues

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think of a County Beach that charges admission and/or parking one other type [people leaving county beach]

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of Muni is an industrial revenue bond this is where the municipality issues

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debt to pay for something that's ostensibly for private use like you know

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a new sports stadium well the issuer gets a piece of the revenue generated [ariel view of sports stadium]

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from that stadium and uses it to pay off the bonds and usually there's a whole

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lot of horse trading in the stadium has to hire a whole bunch of union workers

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at full price to get the muni bond to be supported by the masses in fact many

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concepts in the land of Muni derive in analogous fashion to those in the

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corporate world so if this section feels a bit deja vu well it's no accident

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shall we dive in deeper oh yes we should okay so general obligation bonds again

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think Full Faith and Credit the city pledges to pay no matter what and that

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what can mean that the city itself goes bankrupt and in fact that bizarro land

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phenomenon is starting to happen more and more around the country general [map of USA]

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obligation bonds are usually used for general things like sewage treatment

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plants infrastructure maintenance cops firemen and you know like well the main

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thread linking these is that their activities that don't themselves [web of string linking these activities]

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generate revenue then the city pays off the bonds from its general flow of

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revenues like fishing licenses and parking tickets income and property

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taxes medicinal marijuana franchise license fees and and so on well since

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geo bonds are backed by The Full Faith and Credit those responsible for the

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full faith in such credit must approve their issuance and who might these

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people be yes the citizens of the locality issuing them yeah that would be [time lapse of people in public places]

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you most geo bonds get paid out of property

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taxes the $5 word for which is ad valorem

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during the Reagan era California passed Proposition 13 which set out the manner [president signing papers]

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in which taxes would be levied on the proletariat specifically prop 13 did

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away with all the old real estate tax systems and charged a simple real estate

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tax equal to 1.25 percent of the purchase price of the home plus a kicker

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for inflation each year well California experienced one of the great real estate

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booms in history from the early 1980s until the crash of 2008 nine during that

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era real estate compounded in value at something like 15% a year depending on [ariel view of suburbia]

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where you lived in Silicon Valley was a whole lot more than that and Gilroy it

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was a whole lot less if the inflation kicker only went up a modest amount

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maybe two to three percent a year because that was our nation's inflation

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so considered a little old lady who bought her mansion in 1981 for 250 grand [happy old lady in front of house]

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which was worth four million dollars in

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well her initial taxes were one point two five percent of 250 grand per year

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or 31 hundred bucks and change each year those taxes went up maybe a hundred

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bucks so that by 2007 she was paying five grand a year in taxes on a four

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million dollar mansion the effective tax rate then is just a little over 0.1% and [numbers of white board]

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you can imagine how little realtors love this it makes the cost of moving

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exorbitant because the new purchaser pays taxes based on the much higher

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purchase price of their new home and is that fair that the little old lady is

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paying such low taxes maybe maybe she should maybe she shouldn't well other

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states use different systems a common taxman plan is called Miyage or think

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thousands that is in a Miyage system there's simply a standard percentage tax [writing on white board]

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rate applied to whatever the assessed value of a home comes out to be so you

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can imagine that the business of being a home Assessor that is a very popular one [long line of people]

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in those kind of states hi Texas we're looking at you and the most popular

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Assessors are likely those who give the lowest assessed values and the slowest

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tax rates on those kinds of homes and yes if you're wincing there is in fact

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room for tons of corruption here well for most

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cities real estate taxes alone aren't enough to cover their corn nut you know [pie chart]

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their operating expenses consequently most cities offer limited tax bonds

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which are issued when other sources of tax hikes can't be done

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well these bonds often cover up grades to school districts and police and fire

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you know the whole nine yards in California recently interesting

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conflicts arose out of the Union pension liability which the city owed to its

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local police force it was a big number well a common game in the negotiations

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between unions and politicians revolved around retirement economics police could [union and politician playing monopoly]

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retire after 30 years of service and collect a pension for the rest of their

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lives the deal didn't seem bad when the average cough lived to be l62 but then

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cops got organic and shunned the whole donut thing and 82

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became the new 62 compounding problems police received as their pension 85% of

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whatever their total compensation came to on average in the previous three

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years that they worked so in those three years cops put in massive overtime often

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working the equivalent of double shifts for three years and as a result salaries [cops working on the streets]

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or at least groves take-home amounts skyrocketed

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well they then took 85% of that figure and promptly retired hey wouldn't you

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now add to this liability to all of us taxpayers the pension obligations and a

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bunch of other costs like health insurance and it created a crisis we're

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in cities explained that they simply could not afford a police force anymore

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or at least not the one they had so instead of pointing to the bloated deals

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that were cut by lousy politicians with unions who negotiated beautifully on

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their own behalf cities asked their constituent taxpayers to be allowed to

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raise taxes when the vote was emphatically no many cities were forced

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to fire their entire police and fire forces and outsource them or hire a

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service which could negotiate much more intelligently with in market pricing of

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course the des moines amateur police and firefighting unit isn't exactly top [mannequins dressed as cops and fire fighter]

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notch talent but you know they do their best alright well that's the how and the

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why of muni bonds

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