Vista Del Mar Elementary is the newest school in the San Ysidro School District, and it is a beauty. Perched atop a hill in the aptly named Ocean View Hills — a relatively new suburb in south San Diego — the school boasts a clear view of the ocean and surrounding community.
The school isn’t all looks, either. Vista Del Mar, a kindergarten through third grade school, is one of only two schools in the district whose facilities received an “Exemplary” rating in a recent inspection. Research suggests quality facilities boost student achievement and this school could be a prime example. During the 2012-13 school year, Vista Del Mar students outperformed the district in virtually all academic metrics.
That appears to be an excellent start for a school that opened in 2012 after years of delays and just 10 months of construction. Its final price tag of $23.9 million was under budget. It was paid for at least in part with a $15.6 million bond issued in 2011.
The district won’t have to make any payments on that bond for three decades. But starting in 2041 the district will pay, on average, almost the full cost of Vista Del Mar each year for a decade. By 2050, the San Ysidro School District will have paid out $228.9 million, almost $15 for every $1 the district borrowed. From 2041 to 2050, the district will pay, on average, $22.9 million each year.
That’s because San Ysidro used capital appreciation bonds, which are designed to defer debt — often to future generations — to meet immediate needs. Capital appreciation bonds are used throughout California, but San Ysidro’s debt-to-payback ratio is among the highest.
A $105 million bond issued by the Poway Unified School District in 2011, for example, that achieved national notoriety after a series of news reports, had a payback ratio of $9.35 paid for every $1 borrowed. The final payout will be almost $1 billion.
Across California, 338 school and community college districts issued 573 capital appreciation bonds from 2007 to 2012, according to a database compiled by the Los Angeles Times. In San Diego County alone, 42 capital appreciation bonds were issued by 19 school and community college districts.
Capital appreciation bonds are special, but San Diego County Treasurer-Tax Collector Dan McAllister says they aren’t automatically bad.
“There’s nothing inherently wrong with them. It’s the terms that make all the difference in the world,” McAllister said.
He compared most traditional bonds issued by school districts to home mortgages. A family buying a house often gets a 30-year home mortgage, which is paid off each month, he said. For that, McAllister added, “they’re likely to pay about a 2 to 2-1/2 (dollars) to 1 (dollar) payback ratio over the 30 years in interest and principal payments.”
Capital appreciation bonds don’t have to be paid until they mature, which can take decades, so the people who vote to approve them aren’t the people who will pay them off.
School districts started using capital appreciation bonds in part because of mounting pressures around 2008. Parents were pushing districts to use the money from bond authorizations, as well as state and federal matching funds, to modernize schools. At the same time the spiraling economy had eroded home values, which determine property taxes that districts rely on to pay for bonds. That left only one option for some districts: capital appreciation bonds with long maturities and high payout ratios.
Although a 2013 law capped debt possibilities for these bonds, some districts with capital appreciation bonds are stuck with the debt burden because they often cannot be refinanced.
Santee School District, which is a kindergarten through eighth grade district, issued the most expensive capital appreciation bond in San Diego County and the fourth most expensive in California in 2011. Its payback ratio beats San Ysidro’s at $16.57 to $1. The district got $3.5 million from that bond, and by 2051 will pay back $58.6 million.
To put this and the San Ysidro capital appreciation bonds in practical perspective, a third-grader in Santee’s Chet F. Harritt Elementary School today could grow up and have a child of her own before the district finishes paying off its 2011 bond. That child — the grandchild of the current residents — could be a freshman in college before the bond is paid off. The same is possible in places like the San Ysidro School District that also used bonds with long maturities.
Karl Christensen, Santee School District’s assistant superintendent of business services, declined a request for an interview, but in answers to questions submitted by email, Christensen wrote that the district considered its overall $4.15-to-$1 payback ratio to be “very acceptable.” That number is an average that includes four other traditional and capital appreciation bonds issued by the district since 2007.
School board members, the email said, didn’t realize how much its most expensive bond would cost when they issued it.
“The total maturity value was not evident to the Board when the documents were presented. At the time of issuance, the Board relied upon the expert advice of bond counsel and financial advisors as well as review by the County Auditor and Controller’s office.”
Dena Whittington, San Ysidro School District’s assistant superintendent of business services, said the district’s board had directed school administrators to issue a bond to finance the construction of Vista Del Mar, along with modernizations at other schools. When the district approached some experts about it, school officials were told their options were limited. By that time, the district had already issued almost $95 million in bonds and paying for that was taking up all the tax revenue the district had available.
“In the calculations, we were maxed out already on what we could issue on a traditional general obligation bond,” Whittington said. The district had the choice to increase the tax rate beyond what it had promised residents, or issue a capital appreciation bond. So, “the decision was made to issue the capital appreciation bonds.”
Unlike in the Santee School District, Whittington said the board received information that the $15.6 million bond issued in 2011 would cost 15 times that to pay back.
McAllister said capital appreciation bonds could have potential repercussions for district residents down the road, in addition to just a higher tax bill.
“It could have a negative impact on property values, it could have a negative impact on people’s desire to live in an area where that big bill was coming due,” he said. “If you think about it, I’m not sure a lot of people want to sign up for something that’s gonna see their bills just soar out of control the first year they buy the house, right?”
Not A Lot Of Bond Options
School districts are often under enormous pressure to build things, whether it’s new schools, modernized classrooms or new ballparks. Even when the recession hit and districts maxed out their property tax revenue, the pressure to issue new bonds to build stuff was there.
Kim Rueben, a senior fellow with the Urban Institute Tax Policy Center, said some districts were in the midst of construction projects when housing values started falling. And just as it was getting harder to issue bonds, state and federal stimulus matching grants became available to districts.
Say you run an elementary school district: Voters approved a bond proposition in 2006 for you to build a new school and completely upgrade other ones. By 2008, you’ve issued some traditional bonds and gotten started on some of those projects. Suddenly, the recession hits and tax revenues start falling.
You can’t afford to issue any more traditional bonds, but residents in the district expect the upgrades they voted for. Maybe matching funds are also available from the state and federal governments. So now you can wait until you’ve paid back the existing debt and then issue more bonds. Or, you can issue a capital appreciation bond that won’t be paid back until there’s more tax revenue available.
These capital appreciation bonds started as a stopgap measure to finish projects and access matching funds, said Rueben, who is also a director of the State and Local Finance Initiative and an adjunct fellow at the Public Policy Institute of California.
They didn’t stay that way for long.
“It’s been used more and more in either big amounts or small amounts as a way of doing bonds school construction, which in general isn’t what you really want to do,” she said.
Betting On Property Values
Capital appreciation bonds are a bet on rising property values. They push off debt payments for years, and if property values keep growing, those payments will be comparatively much more affordable by the time they come due. Historically, that’s not a bad bet.
In the decade leading up to fiscal 2007-08, San Ysidro School District’s assessed property values — which are independent from the constantly changing market property values — had grown by almost 360 percent. Santee School District saw its assessed values grow by more than 120 percent during that time.
Between then and fiscal 2013-14, San Ysidro School District’s property values grew 6.2 percent; Santee School District’s grew 2.7 percent.
In the northwestern corner of San Diego County, Oceanside Unified School District also issued $70.1 million in capital appreciation bonds from 2009 to 2012. Christopher Wright, Oceanside Unified’s associate superintendent of business services, said the district had estimated property value growth of 4.5 percent when it was issuing its bonds.
“Up until the Great Recession it was actually growing at about 11 percent, so we had a very conservative rate,” he said. Since fiscal 2008-09 the district has shrunk an average of 0.5 percent a year.
“It could be, if you think that house prices are going to recover, that postponing payments while things are artificially low and people aren’t feeling wealthy, could be OK,” Rueben at the Urban Institute Tax Policy Center said. “But saying you’re not going to pay any of it back for 40 years is a little crazy.”
By the time districts are done paying back the bonds those schools will be so old, Ruben said, districts are going to need to “get more money to renovate schools again at that point.”
Troubled District
For San Ysidro School District, the looming debt burden is far from its only financial problem. Last year, credit rating agency Fitch Ratings downgraded several of the district’s bonds, including its $15.6 million capital appreciation bond, to below investment grade. It also predicted a state takeover of the district in 2015 after years of deficit spending. In addition to financial woes, the district has been hard-hit by leadership and legal troubles.
Former Superintendent Manuel Paul was sentenced to two months in jail on Jan. 13 for a 2013 pay-to-play scandal. The two interim superintendents following Paul have stepped down, most recently George Cameron on Jan. 12, NBC San Diego reported. Another widespread South Bay corruption investigation resulted in the resignation of school board trustee Yolanda Hernandez in April 2014. In March of that year, trustee Jean Romero stepped down without an explanation.
Last year, a judge awarded a solar panel company $12 million in damages against San Ysidro School District for breach of contract. And in 2012, the district was sued by parents of Beyer Elementary students who claimed pesticides used at the school made some of the children sick. In November, a judge dismissed a request for a restraining order from one newly elected school board trustee against the other.
What Happens Next
In 2013, California passed Assembly Bill 182 limiting the use of capital appreciation bonds by school districts. In part, it forces any capital appreciation bonds issued starting in 2014 to mature in 25 years. Payback ratios are also capped at $4 to $1 borrowed. About 57 percent of the capital appreciation bonds issued from 2007 to 2012 in the Los Angeles Times database had payback ratios of less than $4 to $1.
Capital appreciation bonds must now also include a provision that allows districts to refinance those bonds for a lower interest rate or swap them for more traditional bonds. Generally, capital appreciation bonds didn’t include those provisions in the past, although some issued in California during 2007 to 2013 did.
San Ysidro School District’s 2011 capital appreciation bond had such a provision, as did about 60 percent of the capital appreciation bonds issued by Oceanside Unified School District. But for San Ysidro, its credit rating downgrade makes a bond refinance near impossible.
“If we were to go out now on the open market to issue bonds … we couldn’t even get insurance,” Whittington at San Ysidro said.
In order to increase transparency, school boards also now have to discuss and adopt capital appreciation bonds during public meetings.
Treasurer-Tax Collector McAllister said there’s a lot to be proud of in AB182, which passed the state Legislature with unanimous support.
“I think this was arguably one of the finest moments for the Legislature, being able to stand up in unison, Republicans and Democrats, together saying we need to do something for the taxpayers,” he said.
The changes brought on by the law will help a district considering capital appreciation bonds “focus more than it ever did before,” McAllister said. With a shorter maturity, he thinks administrators will have to be more proactive about managing the debt burden.
Still, school districts and taxpayers might benefit from stricter rules on capital appreciation bonds in the future.
Karen Ribble, senior director at Fitch Ratings, said the law probably won’t change the bond payments districts already have to make “and therefore the tax rate that residents pay.”
Whittington, in the San Ysidro School District, said the bond decisions were based on residents’ wishes.
“It’s the community’s district and it’s the community’s bond program. So if the community, you know, approved these bonds for school construction, they’re used for school construction,” she said. “We’re not getting any negative feedback in my office, so I assume everybody’s happy.”
On a Thursday afternoon, parents drove up the hillside to pick up their kindergartners at Vista Del Mar Elementary. A reporter asked several of them if they knew how their children’s school was paid for. None of the parents knew about the bonds or what the final cost would be.
“I want a nicer neighborhood, of course,” Arnel Elmido said as he picked up his daughter. “I want a nicer school, you know.”
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