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Chicago Motor Fuel Tax

Chicago Motor Fuel Tax

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Published by Ann Weiler
Chicago Motor Fuel Tax
Chicago Motor Fuel Tax

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Published by: Ann Weiler on Mar 14, 2013
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03/14/2013

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Rating Update:Moody's downgrades to A3 from Aa3 the rating on the City of Chicago's (IL) motor fuel tax debt; outlook is revised to negative
Global Credit Research - 13 Mar 2013
A3 rating with negative outlook applies to $181 million of outstanding rated motor fuel tax debt
CHICAGO (CITY OF) IL MOTOR FUEL TAXCities (including Towns, Villages and Townships)IL
Opinion
NEW YORK, March 13, 2013 --Moody's Investors Service has downgraded to A3 from Aa3 the rating on the City of Chicago's (IL) $181 million of outstanding rated motor fuel tax debt. The outlook has been revised to negative.SUMMARY RATING RATIONALEThe downgrade of the rating to A3 and the revision of the outlook to negative is based on the credit quality of theState of Illinois (general obligation rated A2/negative outlook) and the state's ability to reappropriate or otherwiselimit pledged revenues. Debt service on the motor fuel tax bonds of the City of Chicago (general obligation rated Aa3/negative outlook) is secured by a senior lien pledge of a portion of the city's allocation of state motor fuel taxrevenues. With legislative approval, the state has the authority to reduce pledged revenues by reducing motor fueltax rates, increasing appropriations for various state purposes from gross motor fuel tax revenues, or reducing theallocation of remaining motor fuel tax revenues to municipalities. The state's ability to alter pledged revenuespresents the risk of non-appropriation, and the rating is therefore notched from the state's general obligation rating.Illinois's general obligation credit profile is most recently discussed in our rating report dated January 25, 2013.The A3 rating also reflects the state's large and diverse economic base from which the pledged revenues aregenerated; still sound debt service coverage despite recent declines; an additional bonds test (ABT) that shouldpreclude overleveraging of pledged revenues; a flow of funds that provides for the monthly set aside of pledgedrevenues with the trustee (Amalgamated Bank); and the conservative structure of the city's motor fuel tax debt,which carries no exposure to the risks associated with variable rate debt or interest rate swaps. These positivecredit attributes are balanced against significant pressures, namely steady declines in gross motor fuel taxrevenues, which reflect the broader economic downturn, increased fuel prices, and increased use of fuel efficientvehicles, all of which have contributed to a decline in fuel consumption. Another credit challenge stems fromChicago's declining population relative to that of other incorporated Illinois municipalities; this trend factorsunfavorably into the statutory formula used to allocate motor fuel tax revenues to Chicago.STRENGTHS- Despite recent declines, debt service coverage remains adequate: 2011 and 2012 pledged revenues provided 3.4times and 3.2 times maximum annual debt service (MADS) coverage, respectively.- The general ordinance that governs the city's motor fuel tax debt establishes a monthly set aside of pledgedrevenues with the trustee, who receives funds directly from the state before passing on any excess to the city.- Legal provisions include an ABT of 2.0 times, which should preclude overleveraging of pledged revenues.- All outstanding motor fuel tax bonds are fixed rate and have no exposure to the risks associated with variable ratedebt or interest rate swap agreements.CHALLENGES- The State of Illinois controls pledged revenues by establishing motor fuel tax rates, appropriating for various statepurposes prior to allocating funds to other units of government, and controlling the formula by which theseremaining monies are allocated to Chicago and other municipalities. The state's ongoing budget pressuresenhance the risk that motor fuel tax revenues could be diverted for other state purposes.
 
- Pledged revenues have steadily declined in each of the past seven years due to decreased fuel consumption anddeclines in the City of Chicago's population, a trend which factors unfavorably into the allocation formula used todetermine the amount of pledged revenues.- Legal provisions do not require a debt service reserve (DSR) for the rated motor fuel tax bonds.- The city's outstanding motor fuel tax debt is slowly amortized: just 29% of the outstanding principal is scheduledto be repaid in ten years.DETAILED CREDIT DISCUSSIONLEGAL SECURITYDebt service on the City of Chicago's motor fuel tax bonds is secured by a senior lien pledge on 75% of thereceipts from the city's share of revenues derived from the state's motor fuel taxes. Per state statute, theremaining 25% must support pay-go capital projects and cannot be used for debt service. AMOUNT AND RECEIPT OF PLEDGED REVENUES ULTIMATELY SUBJECT TO STATE CONTROLPledged revenues that support debt service on the City of Chicago's motor fuel tax bonds are ultimately controlledby the State of Illinois. The Illinois General Assembly has the authority to amend and supplement the Motor Fuel TaxLaw and the Use of Motor Fuel Tax Funds Act, and the distribution of motor fuel tax revenues are subject to annualappropriation by the Illinois General Assembly. Despite the state's credit pressures, city management reports thatrevenues for debt service continue to be received on time and in full. We believe that the state is unlikely to takeany action that would materially reduce or delay revenues available for debt service, in part because the stateapproves each municipal issuance of debt secured by the state's motor fuel taxes and is therefore aware of themunicipal obligations. While remote, the risk of state impairment of pledged revenues exists and is a keycomponent in the current rating assignment.Illinois's Motor Fuel Tax Law imposes a 19 cent per gallon tax on gasoline and an additional 2.5 cent per gallon taxon diesel fuel. The state last changed these tax rates in 1990. Tax receipts are deposited each month into thestate's Motor Fuel Tax Fund, from which the state first makes "priority allocations" for various purposes defined instate statute. The amounts of several such allocations are pre-defined. For example, $420,000 per month is to betransferred to the State Boating Act Fund. Other allocations, such as support for administrative costs of the IllinoisDepartment of Revenue and supervisory costs of the Illinois Department of Transportation, are established by theIllinois General Assembly as needed and without limitation. The state can change the amounts of the priorityallocations at any time. For example, in 2008, the Motor Fuel Tax Law stated that $2.25 million was to betransferred from the Motor Fuel Tax Fund to the Grade Crossing Protection Fund each month. By 2012, thisamount increased to $3.5 million. We note that total annual amounts of the state's priority allocations (the net effectof changes in the amounts of the individual priority allocations) have been relatively contained, ranging between$178,000 and $226,000 during the past decade. Still, the state's ability to increase the amount of priority allocations- thereby reducing pledged revenues - is a key credit weakness that has become more pronounced as the state'sbudget pressures have intensified in recent years. After the state's priority allocations are made, the funds remaining in the state's Motor Fuel Tax Fund are allocatedto various units of state and local government according to formulas defined in state law. The state last altered thisformula in 2000. Currently, 45.6% of the remaining monies are allocated to various state purposes related to roadconstruction and 54.4% is allocated to local units of government. This local allocation is further divided so that49.1% is distributed to municipalities (including Chicago), 35% is distributed to counties, and 15.9% is distributedto road districts. Finally, the state apportions the 49.1% municipal allocation to cities based on the city's populationrelative to all incorporated Illinois municipalities. Per state law, 25% of each city's final allocation cannot be used for debt service and instead must be used for pay-go financing for non-arterial residential street improvements.Pledged revenues for debt service on Chicago's motor fuel tax debt consist of the remaining 75% of Chicago'sallocation.The City of Chicago's general bond ordinance establishes a flow of funds that provides for a monthly set aside of revenues for debt service with the trustee who maintains the Debt Service Account. The state distributes motor fuel tax revenues directly to the trustee each month. The trustee sets aside an amount equal to 1/5th of theupcoming interest payment and 1/11th of the upcoming principal payment, so that funds for each debt servicepayment are available in the Debt Service Account one month in advance. After the deducting the required monthlyamount, the trustee sends any remainder to the city to be used for street improvements and other purposes 
 
permitted in state statute. City officials report that the state has remitted the monthly allocations to the trustee ontime and in full. However, the state's budgetary challenges have led to delays in other forms of local governmentrevenues, including state shared income taxes, which Chicago officials report are typically delayed by one to twomonths. The city has pledged to remedy any deficiency in the Debt Service Account with funds on hand in thecity's Motor Fuel Tax Fund. However, the city is not required to maintain a minimum balance in this fund. Theordinance for the rated bonds allows the city the option of establishing a DSR but does not require one.STEADY DECLINE IN PLEDGED REVENUES REFLECTS REDUCED MOTOR FUEL CONSUMPTION ANDCHICAGO'S POPULATION LOSS RELATIVE TO OTHER ILLINOIS MUNICIPALITIESPledged motor fuel tax revenues have declined in recent years due to reductions in motor fuel consumption, whichhas reduced total state motor fuel tax revenues, and Chicago's population loss, which has reduced Chicago'sshare of total state motor fuel tax revenues. During the past decade, revenues from the state's motor fuel tax havesteadily declined. According to data provided by the Illinois Department of Transportation, the state's motor fueltaxes generated a total of $1.216 billion in revenues in 2012, which represented an 8% decline from 2002revenues. Annual statewide motor fuel tax collections have declined in each of the past five years at an averageannual rate of 2.5%. The tax is based on gallons consumed, rather than price, so declines in revenue reflectdeclines in consumption. Factors that account for decreased consumption include an increase in the use of fuelefficient vehicles, an increase in gas prices, and the overall economic downturn. Continued declines in fuelconsumption would likely weaken total motor fuel tax revenues available for debt service on Chicago's motor fueltax bonds and other statewide purposes.While fuel consumption trends are affecting gross motor fuel tax revenues, Chicago's population trends areaffecting net motor fuel tax revenues. Between the 2000 and 2010 census counts, the city's population fell from 2.9million residents to 2.7 million residents. Concurrently, the overall population of other incorporated Illinoismunicipalities has grown, particularly as people have moved from Chicago to the surrounding suburbs.Consequently, Chicago's population relative to that of other incorporated municipalities in the state has slowly butsteadily dropped over the past decade. In 2001, this percentage was 27.2%, but by 2012, the percentage was24.2%. This ratio is a key determinant of the state's allocation of motor fuel tax revenues to municipalities, so therate of decline in pledged revenues has exceeded the rate of decline in gross revenues. In 2012, pledged revenuesequaled $49.4 million, which represented a 20% decline from 2002 revenues. Annual pledged revenues havedeclined in each of the past seven years at an average annual rate of 3.7%. As pledged revenues have declined over the past decade, debt service coverage has dropped somewhat butremains adequate. Based on unaudited results, 2012 pledged revenues provided 3.2 times MADS coverage,compared with 2002 pledged revenues, which provided 3.9 times MADS coverage. (MADS is $15.6 million.) Debtservice coverage is not expected to significantly weaken in the future, in part because annual debt service isscheduled to slightly but steadily decline. However, should fuel consumption, population trends, and/or future stateactions materially weaken pledged revenues and debt service coverage, Chicago's motor fuel tax debt rating willlikely weaken.DEBT IS CONSERVATIVELY STRUCTURED BUT SLOWLY AMORTIZEDChicago's motor fuel tax debt is conservatively structured but slowly amortized. All outstanding motor fuel tax debtis fixed rate, and the security is not exposed to any derivatives or interest rate swap agreements. The security istherefore not subject to interest rate or liquidity risks that are associated with variable rate structures. Theordinance governing the rated bonds permits the issuance of variable rate debt and the execution of interest rateswaps, but city management reports no plans to enter into these structures. Going forward, overall debt service isscheduled to slightly decline each year, although principal payments significantly ascend in later years. Payout istherefore quite slow, with just 29% of the principal to be retired in ten years and 71% to be retired in 20 years. Thefinal maturity is scheduled for 2038. A sound ABT requires that pledged revenues in the most recently completed 12 month period provide at least 2.0times coverage of MADS on all existing and new debt. We believe this provision should prevent significantoverleveraging of pledged revenues. City management reports potential plans to issue additional debt through apossible federal Transportation Infrastructure Finance and Innovation Act (TIFIA) loan. The loan application ispending. If the loan is awarded, the city will issue an additional $96.5 million in debt to complete the final phase of the Wacker Drive reconstruction project in downtown Chicago. The new debt would enjoy a parity claim with theoutstanding motor fuel tax revenue debt. Additional revenues would also be pledged to the current and existingdebt. City management projects MADS coverage of 2.7 times on all existing and potential debt.

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