ARM On Steriods

Poway is a smallish suburb of San Diego, not a wealthy bedroom like Rancho Bernardo, but an incorporated city with a smattering of industry and commerce and a population of 47,800 in the 2010 census.

In 2002 voters approved a $198 million bond issue to upgrade the city’s 24 schools, with the bonds to be paid off by a $55 per year tax increase per $100,000 value in individual home property tax for the term of those bonds. All well and good, but the building boom, and maybe some mismanagement and graft, caused the costs to climb and by 2008 the money was gone and, amazingly, the work was only half done.

In 2008, however, taxpayers were in no mood for a tax increase, so the city proposed another bond sale, of $179 million this time, that did not involve a tax increase and, awesomely enough, the voters went for it. No, I’m not kidding, the voters authorized the city to sell bonds but did not authorize the city to collect any taxes to repay those bonds. Interestingly, the voters did not specifically instruct the city not to repay the bonds, they just did not authorize any money with which to do so. California voters are fascinating.

So the city bought $105 million in “Capital Appreciation Bonds” on which they will make no payments for the first twenty years, not even interest payments. After twenty years of accruing interest without making any payments, Poway will make payments for another twenty years to pay off the bond, payments which will total $981 million.

Now, if you have a home loan, you know that the total of your payments consists of large amounts of interest. Initial payments are almost all interest, in fact. By the time you pay your house off, you may have paid as much in interest as you paid for the house. On a typical mortgage at a 4.5% rate, for instance, the total of payments might be $285,000, so one would pay $105,000 in interest on an original loan of $180,000.

Poway’s $105 million loan will cost them $876 million in interest. And where will they get the money to make the payments? The tax increase was extended in 2008, but that revenue is still paying off the original bonds, and that extension expires before the payments on these new “Capital Appreciation Bonds” are scheduled to begin. The city is going to have to go to voters and ask for a tax increase that will not provide any benefit because it is paying off money that has long since been spent.

Voters would, of course, say “oh hell no” and blame the politicians, but who approved the sale of bonds without authorizing money to repay them?