Debt Service Expenditure Ratio in Large Cities

March 28, 2012

This blog continues the Civic Federation’s examination of indicators that can be used to assess the financial health of local governments. The Federation is working on a project that compares the City of Chicago with a group of thirteen large U.S. cities that have also been the subject of analysis by the Pew Charitable Trusts’ Philadelphia Research Initiative. Previous entries examined the City of Chicago’s fund balance ratio, continuing service ratio and operating deficit ratio. This blog examines the debt service expenditure ratio.

Many cities across the United States have a large and increasing direct debt load, which can be a major indicator of financial risk. Long-term debt consists of tax-supported debt issues such as general obligation bonds and notes as well as bond premium and issuance costs. Credit rating agencies take into account a government’s debt load when assessing that government’s bond rating.

Debt service expenditures include principal retirement, interest and other fiscal charges made in the current fiscal year. The ratio of debt service expenditures as a percentage of total governmental fund expenditures can be used to assess service flexibility with the amount of expenses committed to annual debt service. As the ratio increases, service flexibility decreases because more operating resources are being committed to a required financial obligation. In other words, the more a government spends on financing its debt, the less it will have available to fund ongoing services.

The chart below compares debt service expenditure for 13 U.S. cities between FY2006 and FY2010, the most recent years for which data is available for all of the cities. In FY2010 the City of Chicago had a debt service expenditure ratio of 11.9%, a decrease from its peak of 15.1% in FY2008. In FY2008 debt service expenditures increased by $393.1 million, or 61.4%, from the prior fiscal year, while total governmental expenditures increased by $740.9 million, or 12.1%. From FY2008 to FY2010, debt service expenditures decreased by $277.1 million while total expenditures decreased by $505.0 million.[1] The size of Chicago’s debt service expenditure ratio may be a cause for concern because it indicates that a significant portion of its operating expenses are being designated for long-term obligations.

Although none of the 13 cities experienced a steady decline in its debt service expenditure ratio, five cities generally declined over the five-year period: Boston, Detroit, New York, Pittsburgh and Seattle. Atlanta and Kansas City experienced steady inclines in their debt service expenditure ratio, increasing by 9.0% and 4.9% respectively over the five-year period.[2]

The City of Seattle experienced the largest decline between FY2006 and FY2010, with debt service expenditures dropping from 8.6% of total governmental expenditures to 4.7%. Much of this decline can be attributed to a $55.4 million, or 44.9%, drop in debt service expenditures in FY2009 from the previous fiscal year, while total governmental expenditures increased by $50.7 million, or 3.4%.[3] The drop in debt service is due in part to advance refunding payments made to escrow in FY2007 and FY2008. In order to lower interest costs, Seattle refunded and defeased certain bonds by issuing new refunding bonds, the proceeds of which are placed in escrow.[4]

Atlanta’s debt service expenditure ratio increased 5.2% between FY2007 and FY2010, the most recent full fiscal years for which data is available. During the four-year period, debt service expenditures increased by $28.6 million, or 36.0% while total governmental funds expenditures decreased by $94.9 million, or 11.6%.[5] The growth in debt service expenditures is due in part to increased payments on limited obligation bonds in FY2009.[6]