Lexington Meta 6: Sinkhole City

Welcome back, dear readers. The column is back from a two week hiatus and lots has happened in our time apart: in a softball interview with the Herald-Leader, Vice Mayor Wu coined a new nickname, “Civilian Dans,” for bothersome citizens; a new study confirmed what everyone knew back in 2020 and then forgot once federal COVID money hit: the city is broke AF; and a certain Urban County Council Member walked out of a drag performance.. It’s Lexington Meta!! [Cheers and applause]

🎶 I was Born in a Sinkhole City 🎶

Truth in Accounting (TIA) recently gave Lexington a ‘D’ grade for fiscal health. The report labelled Lexington a “Sinkhole City”, meaning the assets we have available to pay our future bills fall short of our total liabilities. $857.3 million short, to be exact, but who’s counting?

A main contributor to Lexington’s fiscal sinkhole, according to TIA, is unfunded retirement obligations that have accumulated over the years. Lexington has set aside “only 65 cents for every dollar of promised pension benefits and 29 cents for every dollar of promised retiree health care benefits,” they wrote. TIA puts our total Unfunded Pension Benefits at $652M and our total Unfunded Retiree Health Care Benefits at $364M. The city also has $588M in outstanding debt, according to LFUCG’s FY2022 Annual Report.

On the other hand, LFUCG does not seem to share TIA’s assessment. The city’s FY2022 Popular Annual Financial Report (PAFR) does give some evidence that Lexington is financially stable. A couple examples given are the city’s positive total net position, which increased to $312.8M in FY22, up from $244.6M in FY21; and the city’s AA bond rating from S&P Global. Even the TIA report admitted that Lexington’s fiscal health appeared to improve since their last report, though they attributed that largely to federal COVID stimulus money from the American Rescue Plan Act (ARPA).

In fact, LFUCG reduced its total debt last fiscal year. At the end of FY22, LFUCG had $587.56M in bonds and notes outstanding, a $19.74M decrease from FY2021. According to LFUCG’s FY2022 Annual Comprehensive Financial Report (ACFR), the decrease in debt resulted from:

1. The issuance of General Obligation (GO) bonds totaling $30.97M, offset by principal payments and amortized bond costs of $37.21M for Governmental Activities, resulting in a $6.24M reduction in total debt.
2. Bond and note payable proceeds of $1.77M, offset by principal payments and amortized bond costs of $15.27M for Business-Type Activities, resulting in a $13.5M reduction in total debt.

What this means is that we paid off about $50M of debt on bonds that came due, but also added an additional $30M in debt for new projects.

According the FY22 PAFR, LFUCG, “developed a robust bond package in response to the low interest rate lending environment, [and] was able to address several deferred needs within this package without a large impact to ongoing debt service.” In other words, despite paying off $50M of debt, there wasn’t a significant reduction (“large impact“) on the amount of interest we pay because we went ahead and took out the $30M for more new projects.

With two very divergent narratives emerging on the city’s financial situation, how do we get to the truth of the matter?

First, let’s hop in a time machine and travel back to January 30, 2020. Most of us hadn’t even heard of COVID-19 yet, but nonetheless, LFUCG was preparing to make some difficult decisions. “If Lexington does not diversify its revenue, significant cuts will have to be made to the LFUCG General Fund Budget,” first-term Mayor Linda Gorton’s Finance and Economic Advisory Work Group reported.

The Herald Leader’s Beth Musgrave wrote a front-page story about it at the time, under the headline “City facing cuts without tax hike, increased revenue.” That article has since been removed from the Herald-Leader’s website, for some reason, but because Musgrave quoted an economist from UK, it was saved in Gatton College’s online news archives and can still be found online today.

The article details how Lexington is/was overly reliant on occupational license fees (OLFs)–the 2.25% local tax LFUCGS collects on paychecks and profits earned in Fayette County–and, as a result, has limited revenue growth potential. In fact, Mayor Linda Gorton warned in her first budget address that the city could be facing a shortfall of as much as $29 million by FY2023 as a result.

In January 2020, the Mayor was tight-lipped on whether she would propose a tax increase in her upcoming budget, which she was set to unveil in April.

“Susan Straub, a spokeswoman for Gorton, said the first-term mayor has not yet decided if she will propose a tax increase for the upcoming fiscal year that begins July 1,” Musgrave wrote.

“The (FY2020) budget was built on a 15 percent cut to most operation budgets, the closing of one pool, freezing many new hires and limited raises,” Musgrave continues, “Even if those cuts continue in future budgets, there is not enough revenue to cover the increased payments to the state pension system in addition to increases in fixed costs.”

The culprits for the stagnation in revenue? According to the report, a low unemployment rate, coupled with “sluggish” wage growth: “Because Lexington’s labor force is essentially fully employed and its employers are not giving substantial raises to their employees, the city’s revenue from payroll tax has slowed significantly.”

If we look at the last five years’ revenue trends, this does seem to track. Relatively speaking, years with low unemployment saw low revenue growth in the proceeding year.

Take a second to absorb that chart, and let’s go back to the present day. One thing that LFUCG completely avoids touching on in their Fiscal Year 2022 Popular Annual Financial Report is the $91.7M in intergovernmental revenues (grants), up 80% from FY21, and a whopping 214% from the $29M in grants it received FY19.

Remember that “tough decision” our city government faced back in January 2020 on whether to raise taxes or cut services? Thanks to the COVID pandemic and the associated federal grant money it brought, Lexington was able to kick that can down the road a little longer–Gorton’s administration received over $46M in state and federal grants that year. The FY2020 CAFR notes that, “Operating and Capital grants increased by $27.11 million from the previous fiscal year, or 161.51% …. these changes year over year are due to the impact of COVID-19.”

A review of the CAFR’s “Distribution of Governmental Activity Revenues” pie charts from FY2019 to present illustrates this point well. Right as we were set to go over the fiscal cliff, COVID came along and we were able to use the related stimulus money to plug the holes and avoid a tax increase or major cuts to services. Keep an eye on how the Yellow portion of the pie chart grows.

In FY2019, when we were staring down either tax increases and big cuts to services, grants made up 4% of the city’s governmental revenues. Let’s use that as our baseline. That proportion nearly tripled to 13% by the end of FY22.

Now, casual observers (and maybe even a Council Member or two) may take in all this information and say “Sweet! Problem solved. No new taxes or cuts to services thanks to COVID money,” and it would be great if it were that simple. However, according to the National League of Cities, grant funds from the American Rescue Plan Act (ARPA) will eventually run out. ARPA funds are “required to be obligated [by] December 31, 2024 and jurisdictions have until December 31, 2026 to fully expend their funds.”

Lexington received $121.2M in ARPA money and has budgeted all of it. Of those funds, a little less than half, $55.7M have been obligated.

One of the permitted ARPA expenditure categories is Revenue Replacement for General Government. “Local governments facing budget shortfalls are permitted to use funding to replace lost revenue for the purpose of providing governmental services,” the description of this category reads, “These services may include recreation, transportation, economic development, and other general government services.” LFUCG has budgeted over $65M to this ARPA expenditure category.

“Revenue Replacement”

While the purpose of the Revenue Replacement expenditure category is stated as being for “local governments facing budget shortfalls …. to replace lost revenue for the purpose of providing governmental services,” there’s nothing that says that money has to go to existing government services. The category is fairly open-ended on what it can be used for.

Heck, if a local government facing a budget shortfall really wanted to, there’s enough leeway that they could totally spend it on non-essentials like new parks, trails, Art, and multimillion dollar grants to friendly nonprofits, but no local government would ever be that audacious… right?

You must be new here 😅

Lexington has budgeted $65.1M for the Revenue Replacement category of our ARPA money. Of that, $29.3M, or 45%, will go to projects relating to parks, new trails, or Art. Now, nothing is wrong with any of those things, mind you. I’m not opposed to building new parks or trails, but the timing of it doesn’t feel right.

If your household was struggling to pay the mortgage every month, your expenses were growing faster than your income, and you already carried a huge amount credit card debt, what would you do with a sudden windfall of cash?

Maybe you would use some of the cash to offset monthly expenses like groceries, paying the utilities, and the mortgage, allowing you to contribute more to savings and pay down debt? Maybe you would invest in something that would increase your earning potential down the road like a new skill or certification? Maybe you would start a college fund, so your children can have a better future? There are a lot of good answers.

However, if you used 45% of this hypothetical cash windfall to build a new swimming pool in your backyard, few reasonable people would see that as a wise course of action. And that’s exactly what our elected officials have done in this analogy. By using a large portion your cash windfall to pay for nonessential “nice to haves,” the city not only spent money on the projects themselves, but also incurred an opportunity cost by not spending it on essential services or investing it in growing the tax base. The essential costs still have to be paid from somewhere and a park does relatively little to create new tax revenue by attracting new industries and workers to Lexington. On top of all that, these new projects bring related expenses that must be paid every year or risk letting the project fall into disrepair.

The net result of this course of action is an increase in recurring expenses, which were already projected to rise faster than revenues pre-COVID, and a missed opportunity to pay essential expenses, invest in growing the tax base, pay down debt, or fund pension and retirement liabilities. Once the ARPA money runs out, we’ll be back to where we were in January 2019, but this time we’ll not only be facing sluggish revenue growth due to low unemployment, we’ll have a slate of new recurring expenditures thanks to our ARPA spending spree on nonessentials like parks.

Last year, the Urban County Council passed the largest city budget ever for FY23. CivicLex, which describes itself as a “civic education” nonprofit, described the situation like this:

“After several years of austerity, Lexington came out of the pandemic better than it went in. Revenue and savings are up, unemployment is down – 3% vs 3.7% pre-pandemic – and a massive injection of aid – over $120M – via the American Rescue Plan Act or ARPA, has left city leaders with almost more money than they can figure out how to spend.

Suddenly, the city has room to plan for large or innovative projects and community needs that had been previously too costly to consider. As a result, the FY23 budget expands allocations to public safety and violence prevention programs, affordable housing, quality of life amenities, economic development initiatives, infrastructure needs, and employee acquisition and retention efforts.

While the budget received support from the majority of Council, two representatives did vote against it at its first reading: CMs Moloney and Kloiber. They cited concerns about the city’s ability to sustain funding for employees and programs once the ARPA money is gone. While many allocations went to one-time needs, items like employee wages and new or expanded programs have ongoing costs which some worry may outstrip future resources.

Nevertheless, the FY23 budget passed in its second reading. With a General Services Fund of over $450M it’s the largest city budget Lexington has produced and we will likely be seeing its effects for years to come.”

The cliff approaches

According to Mayor Linda Gorton’s presentation slides from the FY24 Council Budget Retreat, obtained under the Kentucky Open Records Act, Lexington is facing a $45M shortfall this coming fiscal year, and the amount of new debt taken on to cover this shortfall will need to be a “serious conversation.” One of the many reasons why it needs to be a serious conversation is that the Kentucky Constitution limits total principal amount of GO debt to 10% of the value of taxable property in the county, or $3.66 billion in Fayette County’s case. That means our debt limit is $366M. Self-supporting, obligations, revenue bonds, special assessment debt and non-tax supported debt are exempt from this limit, so, according to the 2022 ACFR, “the total amount of debt subject to the legal limitation is $311.86 million.”

That means that as of the beginning of FY23, LFUCG only has $54M left that we can legally borrow before hitting our statutory debt ceiling.

Hmm, so if we soon won’t be able to bond our way out anymore, and ARPA money will dry up in a couple years, how are we going to fill that $45M (and growing) gap in the coming years? Folks, I think there’s a good chance we will once again see a headline reading, “City facing cuts without tax hike, increased revenue,” in the near future.

Nothing’s set in stone, and it could surely change, but without public awareness of our fiscal situation and pressure on our elected officials to do the responsible thing, we will absolutely find ourselves back where we were before our big COVID-cash windfall.

When the day finally comes where we have no other choice but to raise taxes, whether it’s this year or a few years down the road, expect a well-coordinated rollout of the increase, with the Herald-Leaders and CivicLex’s of the world reporting that our elected officials had no other choice, and are bravely doing the responsible thing to stabilize the city’s finances. When the final vote comes in, expect Council to pat themselves on the back and maybe even issue a self-congratulatory statement. It’s the Lexington Way.

Performance of the year

Lex Have Pride organized a demonstration at Thursday’s Council meeting. They presented a petition and a list of demands to Council to protect Lexington’s LGBTQ community. Council released a statement in response.

Did anyone else think Council’s statement was kinda weak? There was an outpouring of emotion from the LGBTQ community, with some folks even coming in from other counties to give the Lexington-Fayette Urban County Council their public testimony on the anti-trans and anti-drag bills that are working their way through the State Legislature in Frankfort. One CM, Fred Brown, even walked out during the meeting’s drag performance and did not return for public comment.

After all that, the statement ultimately released by Council simply rehashed prior accomplishments and didn’t do anything to address the demands of the group who organized the event, which are as follows:

1. PUBLICLY CONDEM ANTI-LGBTQ LEGISLATION, AND STAND UP FOR TRANS KIDS
2. DO NOT DISCRIMINATE AGAINST TRANSGENDER INDIVIDUALS IN HEALTH CARE
3. FUND AND DEVELOP RESPONSES TO LGBTQ YOUTH HOUSING INSECURITY
4. EXPAND MINORITY BUSINESS CRITERIA FOR VENDORS TO INCLUDE LGBTQ-RUN BUSINESSES AND PERMIT PERMANENT RESIDENTS TO BENEFIT
5. AUTOMATIC REPORTING OF DEMOGRAPHIC DATA ACROSS ALL BOARDS & COMMISSIONS FOR MINORITY GROUPS

This is the full, unabridged statement Council released in response:

“We, the undersigned members of Lexington’s Urban County Council, affirm the value of the LGBTQ+ community.

We recognize that the Commonwealth of Kentucky has a rich history of queer and gender non-conforming people breaking barriers and building community. Lexington has been on the forefront of many hard-won battles for LGBTQ+ Kentuckians: we were the first to pass a comprehensive Fairness Ordinance that specified gender identity/expression as a protected class; we have elected and re-elected a number of openly LGBTQ+ officials; we require all recipients of city contracts to abide by our non-discrimination policies; and we recently banned LGBTQ+ conversion therapy for minors in Fayette County.

These milestones reflect a history of the resistance and persistence of Lexington’s LGBTQ+ neighbors and allies. As local representatives, we want to assure LGBTQ+ peoples, particularly our youth, that we see you, we hear you, and we affirm you – just as you are.

Lexington will continue to be a welcoming and affirming community; our diversity is our strength.”

In case you missed it, they didn’t even address Demand #1, which was to simply “publicly condemn anti-LGBTQ legislation and stand up for trans kids.” Seriously? That was too much of a commitment for them? The entire statement came across, to me, at least, as tone deaf, hollow and self-congratulatory.

Oh, and by the way, two CMs, Whitney Baxter and Fred Brown (the one who walked out of the drag performance that was held during Thursday’s meeting,) didn’t even sign that statement. To be fair, I think Fred Brown actually voted against the city’s original fairness ordinance back in ’99, so it would be a little weird for him to sign a statement congratulating himself for passing it 🤷‍♂️

Call me crazy, but reading that statement made me feel like Council was serving rainbow swirl ice cream the day before they announce we’re switching to beans and rice soon. But hey, what do I know, I’m just a Civilian Dan.