Caution: Bonds Have A Hidden Cost

There was a popular song a few years ago called "Money for Nothing." While the tune was a satire on the vast amounts paid to successful rock stars the title could just as easily apply to many voters’ attitudes toward bonds.

As we approach the November election with over $41 billion in bonds on the statewide ballot and additional billions being considered for local jurisdictions now is a good time to brush up on the significance of bonds their true costs and how they are repaid.

The California Constitution gives the electorate the right to vote on state and local general obligation bonds.

However the rules for passage are different for each category.

State bonds commonly used for infrastructure improvements like highways and to provide additional funding for school construction require a simple majority vote of the statewide electorate for approval. These bonds do not trigger a tax increase but are repaid from the state’s general fund into which virtually everyone pays through sales and income taxes.

Although there is at least the appearance of fairness to a system that allows a majority vote to approve bonds that are repaid by everyone these bonds are hardly a perfect means to finance long term capital improvements.

First these bonds are more expensive than many voters imagine. Most are aware that bonds mean debt that must be repaid but just like when we see that must-have item that we charge to a credit card it is easy to overlook the impact of compounding interest. Since most government bonds are issued with a 30 year payback a good estimate of the actual cost to taxpayers is to double the face amount of the bond. Additionally when the state takes on a lot of debt bond buyers demand higher interest rates to compensate themselves for the perceived additional risk. This makes the bonds even more expensive.

Second since bond repayment has first call on the general fund less money is left behind to pay for transportation education healthcare and other programs Californians consider important. In other words the amount of debt we must pay from the general fund means less money to finance other government programs or for infrastructure on a "pay-as-you-go" basis where taxpayers get by far more bang for their buck.

The second category of bonds on which we vote is local general obligation bonds used for local infrastructure projects libraries and schools. Although everyone can vote on these bonds property owners are singled out as solely responsible for the repayment of principal and interest. Both commercial and residential property owners see a tax increase when these bonds are approved but the hardest hit are the single-family homeowners who unlike businesses that can pass additional costs on to customers must pay the entire amount.

Wisely the drafters of the California Constitution of 1879 recognized the inherent unfairness of letting everyone vote on a tax that would be placed on a minority of the community. To level the playing field they required a two-thirds vote for passage of these local general obligation bonds under the belief that if passed with a higher vote threshold it would be a reflection of a strong community consensus including the support of those who would be paying the principle and interest bills.

This system served the state well for over a century. Then in 2000 Netflix CEO Reed Hastings — author of the Proposition 88 property tax increase on the November ballot — and his merry band of billionaires bankrolled the misleading campaign that passed Proposition 39 which lowered the vote for local school bonds to 55 percent. The measure has virtually guaranteed that all school bonds pass regardless of merit and has saddled property owners with tens of billions of dollars in bond debt.

So for the upcoming election a large percentage of Californians will confront bond proposals that require a majority vote a 55 percent vote and a two-thirds vote.

Although this may seem complex there is a simpler way to classify bonds. Those that are a necessary evil and those that are an unnecessary evil.

The "necessary evil" bonds are those that build something like a bridge or a sewage treatment plant that would be very difficult to fund immediately out of existing revenue. Although paying for the infrastructure improvement means going into debt the debt may be justified in that it allows government to continue to provide vital services that would be curtailed if an immediate cash outlay were required.

"Unnecessary evil" bonds are those like some we have seen in recent years marketed as measures to help the environment. However closer examination has shown that some of the backers of these bonds benefit because when the bonds are passed the state becomes obligated to buy property they own at inflated prices.

Unfortunately some bonds contain both flimflam and worthwhile projects which make it even more difficult for voters to weigh their merits.

Ultimately Californians would be wise to approach all bonds with extreme caution. The debt bonds create is an irreversible obligation that continues for decades. Don’t buy into voting yes unless the need for a bond is proven beyond a reasonable doubt.

Jon Coupal is president of the Howard Jarvis Taxpayers Association — California’s largest taxpayer organization — which is dedicated to the protection of Proposition 13 and promoting taxpayers’ rights.

To print or download a PDF version of this commentary click here.