GOVERNMENT OF THE DISTRICT OF COLUMBIA Office of the Chief Financial Officer

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Natwar M. Gandhi Chief Financial Officer

March 16,2010

The Honorable Adrian M. Fenty Mayor of the District of Columbia

1350 Pennsylvania Avenue, NW - 6th Floor Washington, DC 20004

The Honorable Vincent C. Gray Chairman

Council of the District of Columbia

1350 Pennsylvania Avenue, NW - Suite 504 Washington, DC 20004

Dear Mayor Fenty and Chairman Gray:

As you are aware, new revenue estimates were released in February with lower revenues forecast for FY 2010 through FY 2013, with only a small revenue increase in FY 2014. Following the February revenue estimates, I provided briefings to both of you, to Councilmembers and to key members of the Executive Office addressing the effects of the drop in revenues on the upcoming budget and on the Debt Cap.

Effect of February Revenue Estimates: The effect on FY 2010, along with identified spending pressures, was to create a gap of about $200 million that needed immediate attention in order to balance the budget before the end of the fiscal year. For FY 2011 and beyond, the lower revenues created a significant challenge in formulating the Budget and Financial Plan.

Furthermore, these revenue estimates, which will force a corresponding drop in expenditures in order to balance the budget, had the effect of raising the Debt Cap ratio projections to levels in excess of the 12 percent Debt Cap limit in FY 2011, FY 2013 and FY 2014, and thereby prohibiting the District to authorize and issue new debt. This would have required the District to forego all borrowing in FY 2011 and substantially reduce borrowing in FY 2012. Critical infrastructure projects, including some projects already underway, would have had to be postponed until funding became available. These projects include borrowing for schools modernization, roads and bridges, parks and recreation facilities, government buildings and other government projects. The District postponed investing in its infrastructure in the 1990s, and now we are paying the price of those delays as evidenced by our high debt burden. Postponing important projects now could again result in higher costs over the long term, and that is not acceptable.

1350 Pennsylvania Avenue, N.W., Suite 203, Washington, DC 20004 (202) 727-2476 Fax (202) 727-1643

Table 1 below shows the effects of the February revenue estimate on the Debt Cap ratios.

Table 1

Summary of Debt Cap After February Revenue Estimates ($ in millions)

Ratio of Debt Service to Expenditures

$5,958.40 $5,846.90 $5,986.69 $6,074.24 $6,229.86
$673.00 $708.90 $695.40 $759.20 $792.80
11.29% 12.12% 11.62% 12.50% 12.73%
$41.92 ($7.29) $22.58 ($30.30) ($4522)
$ 660.00 $ 583.72 $ 566.54 $ 59907 TBD
$ $ (583.72) $ (141.55) $ $
100% 25% General Fund Expenditures (per Forecast Impact)

Total Existing & Projected Debt Service on Tax-Supported Debt

Available Debt Service Capacity:

Current Financial Plan CIP

Required CIP Reductions to Remain Within Cap

Percent Reduction in CIP

Debt Restructuring: Last week the District sold $708 million Income Tax Secured Revenue Refunding Bonds, the purpose of which was to restructure debt service in FY 2010 through FY 2014 in order to fund the CIP and stay within the Debt Cap. The OCFO has recalculated the Debt Cap ratios to reflect the revised debt service requirements resulting from the debt restructuring. The results are shown in Table 2 below.

Table 2

Debt Cap After March Restructuring ($ in millions)

Total Debt Service on Tax-Supported Debt

FY 2010 FY 2011 FY 2012 FY 2013 FY 2014

$570.87 $654.93 $619.82 $702.54 $733.14

Ratio of Debt Service to Expenditures

9.58% 11.20% 10.35% 11.57% 11.77%

Available Debt Service Capacity:

$144.1 $46.7 $98.6 $26.4 $14.4

As you can see, during the period FY 2010 through FY 2014, the restructuring created sufficient capacity to allow the current Capital Improvements Plan (CIP) to be fully financed while staying within the Debt Cap. Changes in the size of the CIP in the FY 2011 Budget and Financial Plan, or any other tax-supported borrowing such as for TIFs or other economic development projects will, of course, affect these ratios.

How much borrowing can be authorized? The Debt Cap Act covers the period of the Budget and Financial Plan period, which for the upcoming FY 2011 Budget will include all fiscal years through FY 2014. Since the District generally issues its bonds for a period of 25 years, borrowing in FY 2011 will create additional debt service expenditures in the following 25 fiscal years. Currently, a rough estimate of the ratio of debt service to amount borrowed is $1 of annual debt service for every $15 borrowed. U sing that calculation, and assuming no further revenue reductions, the District could authorize additional borrowing (in excess of the current CIP and currently authorized but unissued TIFs, PILOTs and other debt) of an aggregate of about $216 million and still be within the 12 percent Debt Cap in each of the fiscal years through FY

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2014. Note that the estimated $216 million is the combined total additional amount that could be borrowed in the Financial Plan period; it is not an annual figure.

Budget Savings from Debt Restructuring: Another positive effect of the debt restructuring was the achievement of budget savings in the near term (through FY 2017), by lowering debt service requirements. Prior to the restructuring, there was a "peak" in fiscal years 2010 through 2014, then dropping off to a more level profile. The restructuring "leveled" the peak creating savings in the near term. This was a one-time transaction that cannot be repeated, and the net present value cost of the restructuring was only about $5 million over 21 years. Significant relief to the Debt Cap was achieved, but in addition, those savings will also help balance the budget in years FY 2010 through FY 2014. Indeed, the savings achieved in FY 2010 amount to nearly half of the current budget gap created by the February revenue estimates and the spending pressures. Table 3 below shows the budget savings in each year from FY 2010 through FY 2014.

Table 3

Fiscal Year

Savings versus Budget and Financial Plan

FY 2010 * FY 2011 FY 2012 FY 2013 FY 2014

$95 million $54 million $76 million $55 million $58 million

* FY 2010 includes savings generatedfrom the debt restructuring, savings associated with the issuance of Build America Bonds to finance FY 2010 capital projects, and low interest rates on outstanding variablerate bonds.

Long-term outlook for Debt Cap: The debt restructuring achieved near-term relief from high debt service levels in FY 2010 through FY 2017 that would otherwise have prevented the District from funding its critical capital needs such as schools modernization. However, by reducing debt service in the near term, we increased those requirements in years FY 2018 and beyond because principal repayment has been pushed out to later years. The result is a more "level", or constant, debt service profile. (See Attachment 1.)

As a result, I must also inform you of the long-term outlook for borrowing under the Debt Cap. Although there is capacity for more borrowing in the FY 2011 Budget and Financial Plan period, in the years beyond those shown in the Table 2, if revenue (and therefore expenditure) growth does not exceed the currently estimated annual growth rates, any additional borrowing (beyond that which is currently approved) in FY 2010 through FY 2014 would cause the District to be unable to fully fund the ClP within the next two years. The Debt Cap applies to all years in the Financial Plan period. Despite the savings achieved with the successful restructuring, assuming borrowing needs of $400 million annually going forward, the Debt Cap ratio is projected to hit

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12 % in FY 2016, and it would apply to the Financial Plan period starting in FY 2013. If new borrowing is authorized now, it will increase the Debt Cap ratio, cause the FY 2016 Cap projection to exceed 12%, and could cause the Cap to reach 12% even sooner and apply to an earlier plan period.

For this reason, I urge Mayor and Council to carefully evaluate the need for any and all proposed borrowing, including both for the core government functions funded by the CIP as well as for economic development projects, and to set priorities for what is most critical to the needs of District residents.

Sincerely,

Enclosure

DISTRIBUTION LIST

Councilmember David Catania (At-Large) Councilmember Phil Mendelson (At-Large) Councilmember Kwame Brown (At-Large) Councilmember Michael Brown (At-Large) Councilmember Jim Graham (Ward 1) Councilmember Jack Evans (Ward 2) Councilmember Mary Cheh (Ward 3) Councilmember Muriel Bowser (Ward 4) Councilmember I-larry Thomas Jr. (Ward 5) Councilmember Tommy Wells (Ward 6) Councilmember Yvette Alexander (Ward 7) Councilmember Marion Barry (Ward 8)

Neil Albert, Deputy Mayor and City Administrator

Valerie Santos, Deputy Mayor, Office of Planning and Economic Development Merav Bushlin, Budget Director, Executive Office of the Mayor

Eric Goulet, Budget Director, Council of the District of Columbia

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Attachment 1

RESULTS OF DEBT RESTRUCTURING

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Fiscal Year 5