AVOIDING LOCAL G FINANCIAL CRISIS THE ROLE OF STATE OVERSIGHT · Government Research Since 1916 A publication of the Citizens Research Council of Michigan AVOIDING LOCAL GOVERNMENT

Government Research Since 1916

A publication of the Citizens Research Council of Michigan

AVOIDING LOCAL GOVERNMENT FINANCIAL CRISIS:THE ROLE OF STATE OVERSIGHT

July 2000

Report No. 329

ChairmanAmanda Van Dusen

Vice Chairman President TreasurerW. Frank Fountain Earl M. Ryan Jeffrey K. Willemain

BOARD OF DIRECTORSVernice Davis Anthony St. John Health SystemDale J. Apley, Jr. Kmart CorporationRalph W. Babb, Jr. Comerica IncorporatedJ. Edward Berry General Motors CorporationJohn W. Clark CMS EnergyPaul Clark National City Bank of Michigan/IllinoisGary L. Collins ArvinMeritor, Inc.Lee Dow MCN Energy Group, Inc.Randall W. Eberts W. E. Upjohn Institute

W. Frank Fountain DaimlerChrysler CorporationEugene A. Gargaro, Jr. Masco CorporationSusan L. Kelly Hudson’sHarold Krivan J. D. Power & AssociatesPatrick J. Ledwidge Dickinson Wright P.L.L.C.Timothy D. Leuliette Heartland Industrial PartnersDaniel T. LisAnn E. Raden ANR Pipeline CompanyIrving Rose Edward Rose & Sons

Howard FHoward FHoward FHoward FHoward F. Sims. Sims. Sims. Sims. Sims Sims-Varner & AssociatesS. Martin TaylorS. Martin TaylorS. Martin TaylorS. Martin TaylorS. Martin Taylor Detroit Edison CompanyJohn E. Utley, JrJohn E. Utley, JrJohn E. Utley, JrJohn E. Utley, JrJohn E. Utley, Jr.....Amanda VAmanda VAmanda VAmanda VAmanda Van Dusenan Dusenan Dusenan Dusenan Dusen Miller, Canfield, Paddock & Stone PLCRobert J. VRobert J. VRobert J. VRobert J. VRobert J. Vititoititoititoititoitito Citizens Banking CorporationGail L. WGail L. WGail L. WGail L. WGail L. Wardenardenardenardenarden Henry Ford Health SystemRichard C. WRichard C. WRichard C. WRichard C. WRichard C. Webbebbebbebbebb Michigan National BankJefJefJefJefJeffrfrfrfrfrey K. Wey K. Wey K. Wey K. Wey K. Willemainillemainillemainillemainillemain Deloitte & ToucheMartin B. ZimmerMartin B. ZimmerMartin B. ZimmerMartin B. ZimmerMartin B. Zimmermanmanmanmanman Ford Motor Company

ADVISORY DIRECTORSLouis Betanzos Robert F. Magill Will Scott Norman B. Weston

BOARD OF TRUSTEESChairman Vice Chairman

Daniel J. Kelly Robert M. Surdam

Terence E. Adderley Kelly Services, Inc.James A. AliberDennis R. Baltzley Ernst & Young LLPGeorge N. Bashara, Jr. Clark Hill P.L.C.Siegfried Buschmann The Budd CompanyDavid J. Campbell The Leadership GroupBeth Chappell The Chappell Group, Inc.Paul Clark National City Bank of Michian/IllinoisJeffrey A. Connelly ANR Pipeline CompanyKeith E. Crain Crain Communications Inc.George H. Cress Ann Arbor Area Community FoundationStephen R. D’Arcy PricewaterhouseCoopers LLPJames N. De Boer, Jr., Esq. Varnum, Riddering, Schmidt & Howlett LLPRichard DeVos Amway CorporationRobert J. Eaton DaimlerChrysler CorporationDouglas E. Ebert Michigan National BankDavid O. Egner Hudson-Webber FoundationJames V. Finkbeiner Harvey Randall Wickes FoundationCharles T. Fisher IIIDanny R. Gaydou Grand Rapids PressRalph J. Gerson Guardian Industries Corporation

Roderick D. Gillum General Motors CorporationAlfred R. Glancy III MCN Energy Group Inc.Alice Gustafson Hubert Distributors Inc.David Handleman Handleman CompanyWilliam S. Hann KeyBank, N.A.Earl I. Heenan, Jr. National Baltimore CompanyFrank M. Hennessey MascoTech IncorporatedTodd W. Herrick Tecumseh Products CompanyJohn J. Holton Yojna, Inc.Joseph L. Hudson, Jr. Hudson-Webber FoundationThomas H. Jeffs IIF. Martin Johnson JSJ CorporationDaniel J. Kelly Deloitte & ToucheDavid B. Kennedy Earhart FoundationTimothy D. Leuliette Heartland Industrial PartnersEdward C. Levy, Jr. Edw. C. Levy Co.John E. LobbiaHarry A. Lomason IIJohn S. Lore Sisters of St. Joseph Health SystemAlphonse S. Lucarelli Decision Consultants, Inc.Robert F. Magill Detroit Executive Service CorpsWilliam T. McCormick, Jr. CMS Energy CorporationPaul W. McCracken The University of Michigan

Heath J Meriwether Detroit Free PressEugene A. Miller Comerica IncorporatedJerome P. Montopoli Arthur Andersen LLPRichard D. O’Connor DOD EnterprisesDonald R. Parfet PARFCODean E. RichardsonLloyd A. Semple Dykema Gossett PLLCMark Silverman The Detroit NewsAnthony V. Sisto First Federal of MichiganPeter W. Stroh The Stroh Companies Inc.Robert M. SurdamS. Martin Taylor Detroit Edison CompanyAnthony R. Tersigni, Ed.D. St. John Health SystemJohn E. Utley, Jr.Amanda Van Dusen Miller, Canfield, Paddock & Stone PLCRobert J. Vitito Citizens Banking CorporationGail L. Warden Henry Ford Health SystemJames W. Webb Aon Risk ServicesRichard E. Whitmer Blue Cross & Blue Shield of MichiganJeffrey K. Willemain Deloitte & ToucheLarry D. Yost Meritor Automotive Inc.

Citizens Research Council of Michigan is a tax deductible 501(c)(3) organization

Citizens Research Council of Michiganhttp://www.crcmich.org/

38777 Six Mile Road * Suite 201A * Livonia, Michigan * 48152-2660 * (734) 542-8001 * Fax (734) 542-8004 * E-Mail [email protected] Michigan National Tower * Lansing, Michigan * 48933-1738 * (517) 485-9444 * Fax (517) 485-0423 * E-Mail [email protected]


July 2000

Report No. 329


Table of ContentsTable of ContentsTable of ContentsTable of ContentsTable of Contents

I. Introduction ......................................................................................................................................................... 1

II. Origins of Local Government Fiscal Distress ..................................................................................................... 2A. Erosion of Economic Base .............................................................................................................................. 2B. Artifact of Incorporations ............................................................................................................................... 3C. Management Restrictions ............................................................................................................................... 3D. Unforeseen Events .......................................................................................................................................... 3E. Mismanagement ............................................................................................................................................. 4

III. The Implications of Local Government Fiscal Distress .................................................................................... 5

IV. State Interest in Local Government Fiscal Health ............................................................................................. 7A. Assure a Minimal Level of Services ................................................................................................................. 7B. Protect Contractual Obligations ..................................................................................................................... 7C. Prevent Collateral Damage to Credit Rating ................................................................................................... 8D. Protect the Finances of Overlapping Local Units ............................................................................................ 8E. Assure Efficient Use of State Resources ........................................................................................................... 8F. Assure Success of Local Home Rule ................................................................................................................. 8

V. Nature of State Response .................................................................................................................................... 9A. Choosing the Appropriate Response ............................................................................................................... 9

1. Home Rule Considerations......................................................................................................................................... 92. Significant Constitutional Provisions .......................................................................................................................... 9

B. Range of Responses ....................................................................................................................................... 101. Non-Intervention ..................................................................................................................................................... 102. Intervention ............................................................................................................................................................. 113. Technical and Policy Intervention ............................................................................................................................. 16

D. Avoiding Fiscal Distress Through Monitoring .............................................................................................. 22C. Experience of Other States ............................................................................................................................ 27

1. General Oversight in Michigan ................................................................................................................................ 282. General Oversight in Selected States ......................................................................................................................... 29

VI. Recommendations .......................................................................................................................................... 36A. Emulate the North Carolina Local Government Commission ..................................................................... 36B. Assign Monitoring Reponsibility to the Bureau of Local Government ......................................................... 38C. Create an advisory body to monitor the actions of the Bureau of Local Government ................................... 38D. Develop an educational program for local government officials

and employees at a major Michigan university ............................................................................................. 39E. Provide oversight of local government finances ............................................................................................ 39F. The state should create a system of fiscal benchmarking .............................................................................. 41G. Adopt a “triage” strategy for keeping the number of units manageable ......................................................... 41H. The state should look for “big picture” opportunities to create tax savings ................................................... 41

ConclusionsConclusionsConclusionsConclusionsConclusions .............................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................................. 4242424242


I. Introduction

Over the years, Michigan has had a handful of localgovernmental units that, from time to time, have ex-

perienced serious fiscal distress. Consisting of 10 to 15 unitsout of about 2,800 local units (not including charter schools)of all types in Michigan, this handful has hardly constituteda crisis of local government finance. But the attention de-manded to address the problems of these units makes this asubject of state and local government relations worthy ofpolicy consideration.

Attempts to give this subject attention are complicated bythe need to find the right balance between the powers of thestate over local governments and the local discretion affordedlocal governments through their home rule powers. Localgovernments are created by, and derive their authority from,the state, creating an implied supervisory relationship be-tween the state and its subdivisions. That is, the state is, ina general way, interested in what its subdivisions do. Thisinterest derives from the state’s need to protect its own creditand the credit of its subdivisions, to assure the performanceof contractual obligations by local units, and to assure thecontinuation of necessary public services. These necessaryservices include providing for the health and safety of resi-dents not only in that community but in neighboring com-munities, property assessment and taxation, and conduct-ing and certifying elections.

Set against this interest is local home rule, which implieswide latitude for local governments to set their own courses.Various sections of Article VII of the 1963 Michigan Con-stitution specify the rights of citizens in cities, villages, andcounties to adopt charters that define their preferred formof local government. The state’s critical interest in the fi-nancial condition of local units of government must be bal-anced with the powers inherent in the concept of home rule.

Over the years, the state has developed a number of policiesto deal with local fiscal matters, including:

• Constitutional provisions for the removal or suspen-sion of local government officers;

• Authority for local units to file for bankruptcy underthe Federal Bankruptcy Act;

• The Fire and/or Police Department Pension and Re-

tirement Act, which provides for separate police andfire pension systems and funding;

• The Uniform Budgeting and Accounting Act, whichdefines budgeting and accounting standards;

• State revenue sharing, which provides state financialassistance to general-purpose local units;

• The Municipal Finance Act, which allows local unitsto borrow against future revenues;

• The Emergency Municipal Loan Act, which providesfor loans to units in fiscal emergencies;

• The Fiscal Stabilization Act of 1981, which allows lo-cal units of government to issue general obligation bondsto fund operating deficits;

• The Municipal Employees’ Retirement Act of 1984,which provides for a municipal employees’ retirementsystem to administer pension systems; and finally,

• The Local Government Fiscal Responsibility Act of1990, which serves as a means to intervene in the af-fairs of local units of government which incur a fiscalemergency.

While each of these policies was at least partially intendedto prevent or alleviate fiscal emergencies, these policies in-dividually or collectively, have not been effective in prevent-ing all fiscal problems. Several Michigan local units of gov-ernment have encountered fiscal distress in recent timesdespite these existing policies, including the cities of BentonHarbor, Detroit, Ecorse, River Rouge, and Highland Park,Royal Oak Township, the Kalkaska school district, andWayne County.

This paper considers the causes of local government fiscaldistress and the state interest in addressing those problems.It considers the range of state responses available and howcurrent Michigan laws fit into that range. It considers theproper state response relative to current Michigan laws andrelative to the experience of other states. Finally, it makes anumber of recommendations for how the state could redi-rect its efforts to positively affect the finances of Michiganlocal governments and strive to prevent the occurrence offiscal distress.

C i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a r c h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a n 11111

CRC REPORT

22222 C i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a rC i t i z e n s R e s e a r c h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a nc h C o u n c i l o f M i c h i g a n

II. Origins of Local Government Fiscal Distress

by the public or within the political system itself; or (3) acombination of expanded expenditures at a time when re-stricted resources can least support it. Managerial distressresults from inadequate, poor, or corrupt management prac-tices, whether those practices are a result of intentional orunintentional actions.

Local government fiscal distress can be categorized as ei-ther structural or managerial. Structural distress results

from an inequality of revenues and expenditures from: (1)failures in the supply of resources, e.g., slowing of economicgrowth; (2) higher than expected public expenditures,whether the demands for those expenditures are generated

A. Erosion of Economic Base

Erosion of the economic base can occur when there is a netloss of taxpaying property owners and tax generating activ-ity from an entity. High taxes, crime, poor school systems,and deteriorated infrastructure have dissuaded people andbusinesses from moving into some central cities. As a re-sult, several cities have experienced an eroded economic base,which translates into an eroded tax base – either in absoluteterms or relative to the growth rate of expenditures.

At its extreme, a ghost town is an example of a former com-munity whose economic base has eroded to the point thatthe economic basis for existence has become questionable.Less extreme are mining towns in the Upper Peninsula, com-munities built up around military bases, or manufacturingtowns from which the major employer has departed. Thecircumstances of these communities make self-sufficiency aproblem. With little prospect for long-term employment,many of the youth have left these communities for job op-portunities elsewhere. The role of the state and any long-term prospects for continuance as a municipality must beanalyzed differently for these communities than it shouldfor others that have suffered from poor decisions or a seriesof unforeseen circumstances.

Erosion of the economic base need not be, in and of itself, acause of fiscal distress. If expenditures are kept in balancewith declining revenues, the result is a smaller government;smaller in terms of the number and level of services offered,but smaller at a level that is supportable with incoming rev-enues.

The problem for many entities with eroding economic basesis that opportunities to reduce expenditures are not alwaysapparent. Urban sprawl leaves the entities with fewer people,but the geographic sizes of the communities are not reduced.

They may not have fewer properties to serve in terms ofgarbage pickup or police patrols. They do not have fewerroads and bridges to maintain.

Usually, those leaving the distressed community are thosewith the greatest financial resources. In some cases, not all,those remaining in the community are low-income residents,persons that have the greatest demand for government ser-vices due to higher crime rates, greater social service needs,and more health care needs. Thus, government officials inthe urban core are faced with fewer tax dollars from nega-tive or stagnant growth in the economic base and an un-changed or increased demand for government services.

Events such as the sudden loss of a major taxpayer can put aunit of government into fiscal distress. As an example, theChrysler Corporation ended operations in the City of High-land Park and moved to the City of Auburn Hills in 1995.With a Fortune 500 company headquarters in a city of threesquare miles, a large part of Highland Park’s revenues cen-tered on having the company in the city. Its departure meantlost revenues for the city. On the other hand, the departureof the company did not reduce the demand for services inother parts of the city. The same number of houses requiredgarbage collection. The police and fire departments had toprotect the same number of residents. The recreation de-partment had to provide parks and recreation opportuni-ties for the same number of people. Highland Park wasfaced with basically the same demand for services, with atax base almost one-third the size it was with Chrysler stillin the city. While Chrysler provided a $30 million contri-bution to the city to ease the transition, the long-term needto fund the same level of services without a major taxpayerremained unchanged.

33333C i t i z e n s R e s e a r c h C o u n c i l o f M i c h i g a n

AVOIDING LOCAL GOVERNMENT FINANCIAL CRISIS: THE ROLE OF STATE OVERSIGHT

B. Artifact of Incorporations

Michigan has had a few instances where a large proportionof a township was incorporated as a city or cities. The origi-nal 36 square miles of Royal Oak Township were dividedinto nine separate cities, with two isolated fragments ofunincorporated territory totaling less than one square mileconstituting what is now the Charter Township of RoyalOak. Similarly, the majority of Dearborn Township wasincluded as part of the City of Dearborn. Residents of theunincorporated territory attempted on two different occa-sions during the 1950s to annex to Dearborn, only to beturned down by city voters who did not want to spread

their relatively high tax base over a larger area. The remain-ing U-shaped territory that wrapped around the west endof Dearborn incorporated individually as the City ofDearborn Heights. In both examples, the most significantproperties in the tax base of the community were includedin the new city(s), and the remaining territory was left withlittle tax base to support the services expected of it. Whetherthe artifacts of incorporation become cities or remain town-ships, it is a challenge to support local government servicesfrom their tax revenues garnered from the local economicbase.

C. Management Restrictions

Even when local officials recognize that expenditures mustdecrease to meet revenues, they often are constrained by theearmarked taxes, organizational structure, charter require-ments, building maintenance restrictions, personnel admin-istration restrictions, and labor contract restrictions.

While it is common practice to levy a single millage forgeneral operating purposes, some local units have dedicatedmillages for public safety, roads, libraries, and other localgovernment functions. While this practice increases citizenunderstanding of the use of their tax dollars, it restricts theability of the elected officials to respond to budget demandsby shifting funding between functions.

The organizational structure of a local unit of governmentmight not delegate clear decision-making authority to asingle position for budgeting purposes. Everyone blamesanother for the responsibility of a fiscal crisis, with the re-sult that no one is accountable to make the difficult deci-sions.

Building maintenance problems have occurred when mu-nicipalities have simply over-extended themselves or failedto budget for building and infrastructure maintenance.Funds become earmarked for maintenance of ice rinks, li-braries, maintenance garages, and the like, even when theycan no longer afford to support those functions.

Personnel administration problems occur in dealing withunion and civil service restrictions, which may bind theability to move or eliminate personnel as financing war-rants.

Finally, charter requirements have dictated that specific func-tions be delivered, that “excess” pension earnings be returnedto current employees, and have otherwise confined thechoices available in making budget decisions.

Each of these restrictions leaves local government policymakers hamstrung to control finances without making politi-cally sensitive changes or offering charter amendments.

D. Unforeseen Events

Fiscal distress can be caused by unforeseen events that se-verely hamper available tax revenues or place unusually highdemands on expenditures. For instance, an unforeseen de-cision in a law suit not covered by the municipal insurermay hold a unit liable for payment of a large sum of moneythat would not be anticipated in an annual budget and wouldrestrict the ability of the unit to fund other activities.

In theory, events such as a natural disaster could not onlydecimate the property tax base, but also could create addi-

tional demands for government services until circumstancesare returned to normal. Realistically, the Federal EmergencyManagement Administration (FEMA) has taken such anactive role in recent times at providing financial assistancefollowing a natural disaster that local units of governmentare not left to bear the brunt of the financial burden in han-dling additional services. This does not take away from thefact that a natural disaster can decimate the properties in asmall community, wiping out the municipality’s tax base.

CRC REPORT


E. Mismanagement

Mismanagement involves action or inaction by city offi-cials that run contrary to good management practices. Mis-management can be borne of negligence, or by officials thatsimply don’t have the background or knowledge base to makethe best decisions. Such actions also can be the result ofintended decisions that improperly take chances with thetax dollars of the city residents. The experiences of NewYork City and Orange County illustrate the dangers thatcan be caused by allowing mismanagement to go unchecked.

New York City. In the mid-1970s, New York City experi-enced a fiscal crisis in which the banks refused to lend thecity any more money. The city had been accumulating vastquantities of floating debt that was financed by rolling overshort-term notes. As a result, the city found itself in a fiscalcrisis when the banks refused to lend the city any moremoney. It ultimately became necessary for the state govern-ment to become an active participant in solving the city’sfiscal problems.

Orange County, California. In 1979, the Orange County,

California treasurer championed state legislation that allowedcounty treasurers to invest with borrowed money, a tech-nique known as leveraging. The expectation for such in-vestments is that the interest rate charged for loans will belower than the earnings made on the money earned fromthe investments. The difference is profit.

In 1991, the treasurer began buying derivatives with thecounty’s cash assets. Derivatives are securities whose valuedepends on the underlying value of another asset, whichcould be another security, a reference rate, or an index. Inessence, the county treasurer was betting on the direction ofinterest rates. As long as they stayed low, the investmentsearned a healthy rate of return. When they increased, thecounty investments lost money. Indications of financialmismanagement appeared as early as 1993, when moneybegan to be diverted to other funds in violation of state law.Finally, on December 6, 1994, it was reported that Orangecounty lost $1.64 billion on investments when the bondmarket soured in late 1994.



III. The Implications of Local Government Fiscal Distress

purpose authorities, and community college districts are thesole provider of their public service. Should they fail, aneighboring unit would have to expand to assume servicedelivery to that geographical territory.

Local governments compete for residents and businesses andmany residents are able to vote with their feet, moving tocommunities where there are lower taxes, better services, orboth. But not all residents or businesses are able to use thisoption. There will always be some residents or businesseswho cannot, or will not, move away from a distressed com-munity. Actions must be taken to continue the provision oflocal government services to those persons.

The election of municipal officials remains the strongestweapon for residents to control the policies of their localunit of government if a pattern of mismanagement can bedetected. However, the vote can be an ineffective weaponin cases of fiscal distress in the short term. The election ofmunicipal officials takes place no more often than once ev-ery two years, more commonly once every four years. Ad-ditionally, it is common in cases of fiscal distress that theseverity of the fiscal problems is not made clear until itreaches crisis proportions. Choosing to elect different offi-cials would do little to change those circumstances.

Thus, a few local units of government may face fiscal dis-tress from time to time. Because essential services must beprovided, the state must determine a policy for preventingor alleviating these fiscal emergencies.

In the private sector, bankruptcy laws are in place to dealwith fiscally distressed entities. These laws allow debtors,

persons or businesses, to voluntarily or involuntarily be ad-judged and obtain relief by reorganization and readjustment.These laws provide the debtors a breathing spell from debtcollection efforts to allow the debtors and creditors to workout a repayment plan.1

Businesses are launched and fail in the private sector ac-cording to the laws of supply and demand and effectivemanagement. If a business fails, it is either due to a lack ofdemand for a good or service, or because a competitor canproduce that good or service, or a suitable alternative, at abetter price. Those most directly affected by a business fac-ing fiscal distress and going out of business are the employ-ees and investors in that business. Consumers that formerlypurchased goods or services from that business usually canfind alternatives to purchase that are identical or similar tothat produced by the failed business.

Unlike businesses, governments are defined geographically.Rarely is there an alternative source of local governmentservices that residents of a community can turn to shouldtheir local government fail and “go out of business.” Citiesand townships can, and have, transferred individual func-tions to the county, but the failure of local units of govern-ment would create voids where no entities exist to providelocal government services. Other types of local governmentsdo not have an overlapping governmental unit that couldserve as a suitable alternative service provider. Schools, single

CRC REPORT


Bankruptcy for Local Governments

be filed by creditors. Unlike other chapters of the federal Bank-ruptcy Code, the municipality cannot be forced to sell its as-sets to meet debts; the municipality is required only to list itscreditors. The court may not interfere with general opera-tions of the municipality. In fact, provisions were explicitlyincluded to recognize the power of states to control their mu-nicipalities. Chapter 9 of the Bankruptcy Code is an attemptto provide relief for municipalities without overstepping states’powers. The fundamental policy goal underlying municipalbankruptcy law is to provide a legal context for distressedmunicipalities to be able to address their financial problems ina manner which enables them to continue to provide essentialservices rather than to collapse into social and financial chaos.4

Under Chapter 9, an entity is eligible for relief if it• is a municipality, meaning a “political subdivision or

public agency or instrumentality of a state;”• is permitted by state law to be a debtor under Chapter 9;• is insolvent or unable to meet its debts as such debts

mature;• desires to effect a plan to adjust its debts; and• has met certain requirements with respect to pre-fil-

ing negotiations with creditors.

States have tended to intervene before municipalities have feltthe need to file for Chapter 9 relief for several reasons. Chiefamong these is the potential damage to future credit. A sec-ond reason may have been the difficulty of filing. Until theCode was amended in 1976 in response to the fiscal crisis inNew York City, the law required that 51 percent of all credi-tors (in dollar amount) accept a plan for adjusting themunicipality’s debts prior to filing for relief. For a large city toidentify and successfully negotiate with its major creditorswould have been nearly impossible. Current law requires onlythat a municipality attempt to negotiate in good faith with itscreditors.5

In the private sector, one response to fiscal distress is bank-ruptcy. The fundamental justification for such intervention isthe protection of the interests of all creditors. The interven-tion of law creates a binding procedure providing for an or-derly liquidation of the assets of an insolvent corporation thatmaximizes value and the equitable distribution of the proceedsin a manner that fairly protects the interests of all creditors.2

The underlying policy justification for Chapter 9 of the fed-eral Bankruptcy Code: Adjustment of Debts of a Municipal-ity is different than the justification for bankruptcy laws regu-lating corporations due to the fundamental differences betweencorporations and municipalities. While a corporation is orga-nized for the purpose of making a profit, a municipality is agovernmental unit organized to provide essential public ser-vices. While it is sometimes necessary, if not desirable, to liq-uidate an insolvent corporation, liquidation is not an optionfor municipalities. They must continue to operate to provideessential services to the public.3

Chapter 9 of the Bankruptcy Code is not a bankruptcy in theusual sense. It is most comparable to Chapter 11 of the Bank-ruptcy Code, which sets forth the bankruptcy law pertainingto the reorganization of corporations. The power to establishlaws on the subject of bankruptcy is one of the enumeratedpowers of the federal government under Article I, Section 8 ofthe U.S. Constitution, and is consequently the exclusive prov-ince of Congress. On the other hand, the Tenth Amendmentreserves to the states respectively, or to the people, all powersnot delegated to the federal government.

Any municipal bankruptcy laws that are mandatory in naturewere felt to threaten the independence of the states. As a re-sult, application for bankruptcy under Chapter 9 is a volun-tary step for adjusting the debts of insolvent municipalities.Application must be filed by the municipality itself. It cannot



IV. State Interest in Local Governments’ Fiscal Health

units. Public health and safety should not be jeopardized inthe name of home rule nor should the residents of othercommunities be expected to absorb the negative results ofpolicies pursued by a unit of government that finds itself infiscal distress.

With respect to local fiscal problems, the state has six rea-sons to be interested in the operations of a home rule unitof government. The state might take actions to:

1. Assure a minimal level of services;2. Protect contractual obligations;3. Prevent collateral damage to credit rating;4. Protect the finances of overlapping local units;5. Assure efficient use of state revenue sharing; and,6. Assure success of local home rule.

Michigan has a strong tradition of municipal home rulereinforced by numerous constitutional and statutory

provisions. Home rule is predicated on the notion that thestate will take a hands-off position relative to the structureand operation of that unit as long as certain fundamentalprocesses (conduct of elections, assessment of property, andcollection of property taxes) are carried out. The corollaryof this notion is that the consequences, bad as well as good,that flow from local decisions will accrue to the residents ofthat unit and that if problems result, the state will allow thelocal unit to find its own solutions.

On the other hand, the state has an interest in preventingfiscal problems of a local unit from terminating basic pub-lic services in that unit or from creating difficulties for other

A. Assure a Minimal Level of Services

A unit of local government that finds itself in fiscal distressmay attempt to meet the problem by reducing its level ofservices. This usually begins with reductions in the amountsof “non-essential” services. Depending on the situation, fi-nancial problems may simply force the unit to make deci-sions that it should have made previously. Many units havereduced maintenance, as a low visibility service that is oftennot seen as essential. At some point, however, reductions inexpenditures can begin to compromise the ability of theunit to provide basic services.

The state assumes a certain level of services from differenttypes of local government. Cities and townships are ex-pected to assess property for taxation and collect taxes forall overlapping units of government. They are expected toconduct and certify elections. Likewise, counties are con-sidered an extension of state government, providing manyhuman service functions funded by the state government.Although the county has assumed the role of provider oflocal services in many instances, its roots are in its role as anarm of state government. Many county functions, includ-ing maintaining property records, vital statistics, courts, andlaw enforcement, began as extensions of state government

at the local level. The state continues to have a particularinterest in the delivery of those county services that hadtheir origin as the local manifestation of state authority.

Should fiscal distress affect any of these functions, it indi-rectly would affect all taxpayers and residents of the state.Additionally, the state relies on local governments to pro-vide for the health and safety of its residents. If a munici-pality cannot finance the provision of public safety, sanita-tion, or other health and safety services, the state may berequired to act to assure that the citizens receive at leastbasic levels of these services.

Abandonment by those able to flee worsens the financialhealth of a distressed unit. Not everyone has the financialwherewithal to leave a financially distressed unit – “votewith their feet,” so those remaining must be provided localgovernment services. If not the failing unit, then absorp-tion by a neighboring unit remains an option. Allowingthe tax base to deteriorate lessens the potential attractive-ness of consolidation for any neighboring units, so it is inthe state’s interest to address fiscal distress before there is anincentive for everyone to leave.

B. Protect Contractual Obligations

It has long been recognized that if the carrying out of con-tractual obligations could not be relied upon, commercewould cease. Moreover, private enforcement of contractscan result in disorder. For this reason, a strong consensus

exists that enforcing contracts is on the short list of func-tions that government must perform. It would, therefore,be ironic if governments failed to honor their own contrac-tual obligations. Local units of government enter into nu-

CRC REPORT


ernment that is possible under home rule. To the extentthat some local units are unable to provide adequate gov-ernmental services independently, the state may be forcedto take actions designed to assure that those failures do notdiminish home rule in the remaining jurisdictions.

of the contractual obligations of a local unit, it may be inthe interest of the state to assure that those obligations arehonored.

merous contracts, including those with suppliers of goodsand services and with their own employees. Even thoughthe state may not have directly participated in the creation

C. Prevent Collateral Damage to Credit Rating

As creatures of the state, the financial performance of localunits of government reflects not only on those units, butalso on the state as a whole. Although failure to meet pay-rolls, pension payments, or debt service payments by a localgovernment does not necessarily mean that the state or otherlocal units of government thereby constitute a greater creditrisk, the financial community may not see it that way.Whether justified or not, financial failure by a local unit ofgovernment, especially if it is large, can result in difficultiesin marketing bonds and possibly higher borrowing costsfor other units, principally the state. With or without home

rule, local units of government continue to be perceived ascreatures of the state. By ignoring the financial problems ofone of its local units of government, the state may be per-ceived as unwilling to step in to assist any of its local gov-ernments. Bond markets may react to such a perceptionwith less favorable interest rates, which could result in highercosts to the state and its local units. Costs incurred by thestate in assuring that debt service payments are made maybe more than offset by the savings from protecting the statecredit rating.

D. Protect the Finances of Overlapping Local Units

Michigan local government is characterized by a large num-ber of units of local government with overlapping geographi-cal boundaries and often overlapping service responsibili-ties and taxing authority. Counties, local school districts,intermediate school districts, and community college dis-tricts and special authorities in some cases, overlap cities,villages, and townships. A resident of one of these types oflocal government also is a resident of each overlapping type

of local government. The financial health of any one unitwill affect the overlapping units. If the tax base of a citydeteriorates, the tax base of the county, the overlappingschool district, the community college district, and any otheroverlapping local governments may deteriorate also. Bychoosing not to deal with a single unit of government infiscal distress, the state could be allowing several overlap-ping units to deteriorate into fiscal distress.

E. Assure Efficient Use of State Resources

State government in Michigan has assumed a role as a fund-ing source for local government. Nearly 70 percent of state-raised revenues are paid to other units of government thatultimately deliver services. In being accountable for the taxesit collects, the state, therefore, has a strong interest in howlocal governments perform financially. Whether transfersare made in the form of unrestricted revenue sharing pay-ments, or restricted funding, local governments are spend-ing money raised from state tax sources. General purpose

units of government receive unrestricted state revenue shar-ing payments that can be spent for any legitimate local gov-ernment purpose. Restricted funding takes the form ofSchool Aid Fund payments to local school districts, Act 51payments of transportation funding to cities, villages, andcounties, or a number of other forms of state assistance pro-grams. The local tax dollars paid to a fiscally distressed unitare at stake, but so are the tax dollars of all state taxpayers.

Inasmuch as Michigan is committed to a policy of homerule, at least with respect to cities and villages, the deliveryof local services depends to a significant extent on the healthof that policy. Individual local units may, for any of severalreasons, not achieve the kind of fully functioning self-gov-

F. Assure Success of Local Home Rule



V. Nature of State Response

The state, therefore, can cite adequate justification for in-tervening in the affairs of local governments. The trick is todo so in a fashion that solves the problem that called forththe intervention without at the same time eroding or de-stroying the capacity for self-government in the affected lo-cal unit – or in others.

Current Michigan laws attempt to achieve several goals.They attempt to provide wide latitude to local units consis-tent with the strong home rule tradition enjoyed by localunits in the state. They attempt to treat all units equitably.They have avoided options such as bankruptcy or state bail-outs that unfairly penalize state taxpayers through extra taxesand do not encourage the changes needed to avoid futurefiscal distress. Providing enhanced taxing authority to dis-tressed communities has been used on occasion, but thishas proved to further erode the economic base, rather than

providing a long-term solution. The state has attempted toprovide a structure within which local units of governmentmust operate financially, it has provided broad financialoversight, and it has attempted to provide a structure forassisting local officials to address problems that have led tofiscal distress.

Despite its efforts, the state has not been able to devise asystem that prevents local governments from becoming fis-cally distressed. This section will analyze the theoreticalrange of responses available to a state government, assessthe current Michigan laws, and explore the experience ofother states in dealing with local government fiscal distress.The following section will make several recommendationssuggesting ways in which these laws could be more effec-tively utilized to provide the needed state oversight to avoidfuture local government fiscal distress.

A. Choosing the Appropriate Response

State policy regarding units in fiscal distress incorporates arange of responses. Thus, the state response can be com-mensurate with the circumstances placing the unit in fiscaldistress. A disaster or unforeseen loss of a significant part ofthe tax base does not warrant the same response as evidenceof mismanagement. Similarly, fiscal distress that results fromartifacts of incorporation are not equivalent to distress re-sulting from tax base erosion.

1. Home Rule Considerations

Michigan is one of 37 states with constitutions that providefor home rule for cities and villages and one of 23 stateconstitutions that give home rule powers to counties. Alongstanding, perhaps inherent, tension between state con-trol and local self-governance exists under these home ruleprovisions. The state constitutional and statutory provi-sions which have sought to reconcile this tension place bothlegal and practical limitations upon the extent to which stategovernment can effectively intervene in the affairs of localunits of government to resolve fiscal difficulties.

The competing views regarding state oversight on the onehand and local self-government on the other were expressedin Michigan by two opposing legal precedents, referred togenerally as Dillon’s Rule and the Cooley Doctrine. Theformer, set forth in Clinton v Cedar Rapids and the MissouriRiver Railroad, (24 Iowa 455, ___; 1868), held that

“[m]uncipal corporations owe their origin to, and derivetheir powers and rights wholly from, the legislature. Itbreathes into them the breath of life, without which theycannot exist. As it creates, so may it destroy. If it maydestroy, it may abridge and control.” In direct contrast toDillon’s Rule is the Cooley Doctrine, which stands for aninherent right to local governance. That doctrine, as enun-ciated by Michigan Supreme Court Justice Thomas M.Cooley in People v Hurlbut, (24 Mich 44, 95; 1871), heldthat “[l]ocal government is a matter of absolute right, andthe state cannot take it away.”

The delegates who drafted the Michigan Constitution ad-dressed the opposing views represented by Dillon’s Rule andthe Cooley Doctrine in a manner that gave complete ascen-dancy to neither. Under the constitutional provisions, coun-ties, cities, and villages (but not townships and school dis-tricts) are accorded broad home rule powers. However, theseprovisions are not self-executing; they require statutoryimplementation. The fact that such implementation requiresenactment of general law precludes the legislature from di-rectly adopting special legislation aimed at particular homerule local units of government.

2. Significant Constitutional Provisions

The Local Government Article of the Michigan Constitu-tion, Article VII, consists of 34 Sections, of which four are

CRC REPORT


The range of options at the disposal of state government foraddressing local government fiscal distress fall into five broadthemes:

1. a hands-off, nonintervention approach;2. intervention for the purpose of dissolving such lo-

cal units of government;3. intervention for the purpose of restoring such local

units of government to some degree of fiscal vital-ity; and

tions and ordinances relating to its municipal concerns,property and government, subject to the constitution andlaw. No enumeration of powers granted to cities andvillages in this constitution shall limit or restrict the gen-eral grant of authority conferred by this section.

Construction of Constitution and Law Concerning Coun-ties, Townships, Cities, Villages. Section 34 provides asfollows:

The provisions of this constitution and law concerningcounties, townships, cities and villages shall be liberallyconstrued in their favor. Powers granted to counties andtownships by this constitution and by law shall includethose fairly implied and not prohibited by this constitu-tion.

Current application of Michigan law puts state governmentin a position of not responding to local government finan-cial distress until it is a full-fledged emergency. To borrowfrom a cliché, this last-resort philosophy puts the state inthe position of not acting until the horse has left the barn.The local government officials, with guidance from stateofficials and/or a state appointed review team, are then putinto a position of trying to get the horse back into the barnwithout more damage occurring in the meantime.

This need not be the case. Even though local governmentsare afforded a high degree of autonomy under local homerule, state government has absolute legal rights to regulatelocal budgeting and finance:

State governments supervise the financial activities of theirmunicipalities. States determine where cities get theirmoney, how cities borrow money, how cities spendmoney, and how cities manage their financial affairs.States have the legal power to regulate municipal financeby virtue of their superior constitutional position….Because municipalities are legally “creatures of the state,”state governments regulate their taxing, borrowing,spending, and financial administration.6

directly relevant to local home rule.

County Charters. Section 2 provides as follows:

Any county may frame, adopt, amend or repeal a countycharter in a manner and with powers and limitations tobe provided by general law, which shall among otherthings provide for the election of a charter commission.The law may permit the organization of county govern-ment in form different from that set forth in this consti-tution and shall limit the rate of ad valorem propertytaxation for county purposes, and restrict the powers ofcharter counties to borrow money and contract debts.Each charter county is hereby granted power to levy othertaxes for county purposes subject to limitations and pro-hibitions set forth in this constitution or law. Subject tolaw, a county charter may authorize the county throughits regularly constituted authority to adopt resolutionsand ordinances relating to its concerns.

Cities and Villages; Incorporation, Taxes, Indebtedness.Section 21 provides as follows:

The legislature shall provide by general laws for the in-corporation of cities and villages. Such laws shall limittheir rate of ad valorem property taxation for municipalpurposes, and restrict the powers of cities and villages toborrow money and contract debts. Each city and villageis granted power to levy other taxes for public purposes,subject to limitations and prohibitions provided by thisconstitution or by law.

Charters, Resolutions, Ordinances; Enumeration of Pow-ers. Section 22 provides as follows:

Under general laws the electors of each city and villageshall have the power and authority to frame, adopt andamend its charter, and to amend an existing charter ofthe city or village heretofore granted or enacted by thelegislature for the government of the city or village. Eachsuch city and village shall have power to adopt resolu-

B. Range of Responses

4. intervention to give local officials the technical orpolicy skills necessary to alleviate fiscal distress andavoid future distress.

The fifth option, continuous monitoring of local govern-ment finances, attempts to keep governments from fallinginto financial distress, rather than addressing their needsafter they enter financial distress.



1. Non-Intervention

The state could choose to do nothing. As long as the causeof the fiscal distress was not a state policy, state interest inthe way the unit resolves its problems may be limited. How-ever, consideration of this policy must take into accountoutstanding obligations that might not be met, the healthand safety of citizens, how such a solution would affect otherlocal units of government, and the implications for futureresponses to fiscal crisis.

a. Home Rule Entails Responsibilities as Well as Rights

The rationale in support of non-intervention flows directlyfrom the concept of home rule. Notwithstanding the axiomthat local units of government are creatures of the state, thehome rule provisions of the state Constitution, implement-ing statutes, and case law make clear that home rule localunits of government are to enjoy broad latitude with re-spect to self governance, insofar as that latitude does notcontravene the Constitution or general laws of the state.

Home rule may be viewed not only as a set of rights thatlocal units of government enjoy, but also as a set of respon-sibilities that local units of government accept. While it isgenerally assumed that the state must “do something” whena unit of local government experiences financial difficulty,the basis for such an assumption is not readily apparent.Assuming that the state did nothing directly or indirectly tocontribute to the fiscal plight of the unit of local govern-ment, a persuasive argument could be made that the stateshould have no direct interest in, or involvement with, theway that financial difficulty is resolved. However, such anargument would be subject to two qualifications: (1) it wouldbe necessary to assure that contractual obligations are satis-fied; and (2) it might be that a policy of non-interventioncould apply only to smaller units.

i. Satisfaction of Contractual ObligationsFirst, some orderly, in all likelihood statutory, process wouldhave to exist to ensure that any contractual obligations offailing local units of government were satisfied. Such obli-gations would include pension benefits of former employ-ees and any outstanding full faith and credit bonded in-debtedness. The basis of this qualification is that while thestate might not have a direct interest in the continued exist-ence of any given unit of local government, it would havean interest in ensuring that contractual obligations not beimpaired.

ii. Might Apply Only to Smaller UnitsThe second qualification has to do with what might be re-ferred to as the “too big to fail” doctrine of the private sec-tor. For example, the Federal Reserve Board has long ad-hered to the position that a bank which confronts self-in-flicted financial collapse should be allowed to fail. How-ever, such a position has been tempered by the unspokenreality that it would be far easier to maintain if, for example,the Bank of Poughkeepsie rather than Chase Manhattan,was on the verge of insolvency. In the same vein, a non-intervention approach on the part of the state might workreasonably well with respect to the Village of Mineral Hills,or another similarly-sized unit of government, but not at allwith respect to cities the size of Detroit or Grand Rapids.

b. State Would Permit Unit to Solve its Own Problemsor Cease Operation

If a local unit experienced a number of financial crises, citi-zens presumably would vote to replace the officials that al-lowed those circumstances to arise or would vote with theirfeet by moving to communities where such circumstancesdo not arise. If the problems persisted, state and localpolicymakers eventually would have to decide whether thelocal governmental unit was sustainable as an independentunit of government. If not, the state could choose to inter-vene – either by facilitating a merger with another unit ofgovernment or by forcing the entity to revert to townshipstatus – or not to intervene, thus allowing the unit to file forbankruptcy.

2. Intervention

The first consideration in providing technical or policy as-sistance should be the origins of the fiscal problem. Thelevel of assistance or suggested solution should recognizethe conditions that resulted in fiscal distress and the actionsthe local unit has initiated on its own to address the fiscaldistress. Just as fiscal distress is not caused by one factor,the state should not take a one-size-fits-all approach to deal-ing with local government fiscal distress.

A second consideration in providing this assistance shouldbe the long-term prospect of viability for the local unit. Aswas mentioned above in the discussion of erosion of theeconomic base, the long-term viability of some local unitsof government has disappeared with the economic basearound which the community was established. Whether asa result of changing markets, military base closure, or closedmines, these bleak economic outlooks have led to the de-

CRC REPORT


Three Case Studies of State Responses to Local Government Fiscal Distress

Local units of government in Michigan have experienced fiscaldistress for a number of reasons, and the state has adopted variedresponses to those conditions. The following are descriptions ofthree local units of government, exploring how they became fis-

Benton Harbor

cally distressed, what actions were taken to address that fiscal dis-tress, and how those changes have affected the long-term fiscalcondition of the local unit.

Benton Harbor, a 4.1 square mile city with a 1990 population of12,818, provides an example of how direct financial interventionhas not solved the root problems causing fiscal distress. During theearly 1900s, Benton Harbor established a strong base of manufac-turing and metal fabricating plants. By 1920, the city was also astrong tourist destination and distribution center for fruit. In 1930,54 industries were employing 4,500 city and area residents prompt-ing a 20-year building boom, and by 1950, Benton Harbor was thearea’s leading center for manufacturing, retail, and wholesale trade.The population had reached an all time high of 18,769.

By 1960, Benton Harbor’s economic decline had begun. Com-mercial businesses began to leave for malls in outlying townships.Relocation activities emptied the city of many retail outlets. Re-development projects were quickly started to save some of the city’scommercial base, but by that time the city had lost its fruit marketand many retail outlets.

The employment base was hurt by an out migration of industry.Manufacturers began leaving in search of cheaper labor and materialcosts. Technological changes for the manufacturers allowed thosebusinesses to produce more while employing fewer, but more highlyskilled, workers. Lost job opportunities, combined with the severeeconomic cycles of the 1970s and 1980s resulted in a large net out-migration of jobs and population from the city.

Initial government efforts to make the city attractive once again,in the form of urban renewal, cleared many abandoned commer-cial and marginal residential areas to make room for redevelop-ment, but new businesses never came, leaving some of those sitesvacant today.

Benton Harbor became trapped in a downward spiral. The netout-migration of employers and residential housing left little de-mand for property in the city, causing severe tax base erosion. Thecity had fewer tax dollars to provide the same services it had alwaysprovided. At the same time, the city was in a position where anyprograms that might attract new businesses or people required higher

levels of services. The only seemingly viable option was to increaseproperty tax rates so the city could provide the same level of serviceto a dwindling population. Instead of stabilizing the city or its fi-nances, higher tax rates just made the situation worse.

It was in this economic setting that the state opted to go beyondthe legislation that was on the books. In 1986, the MichiganEnterprise Zone Authority designated the City of Benton Harbor,in its entirety, an enterprise zone.

As an economic development tool, the Enterprise Zone Act wentfar beyond other tools available at the time, which only providedfor the abatement or capture of local property taxes. Most signifi-cantly, it offered exemptions from state taxes, including the fol-lowing ten-year tax abatements:

1. Exemption from the Single Business Tax.2. Exemption from the Sales and Use Taxes for

purchases of tangible real and personal property.3. A 60 percent reduction in local property taxes.

The Enterprise Zone Act also provided for additional funding forlocal government services. The state allowed the city to captureschool operating millage paid by qualified firms for its own use.To compensate for this, the state School Aid Fund paid approxi-mately $2 million more than it would have under normal circum-stances.

The incentives in this act created a form of financial interventionthat was more direct than it seemed. In many ways, the state aidresulting from the Enterprise Zone Act became more significantthan it would have been if the state aid provided a bailout or an-other financial package. However, Benton Harbor remains one ofthe Michigan municipalities bordering on financial distress, with ataxable value per capita that is less than half that of the next lowestunit in the state. Direct aid to the city government, financial incen-tives to companies locating or expanding in the city, and hiringincentives all have failed to reverse the declining tax base.

EcorseEcorse provides an example of an outside party forcing severechanges in a municipality’s finances to bring expenditures in linewith revenues. A small city, with a 1990 population of 12,180,bordering the City of Detroit, Ecorse grew up around the auto-motive industry and the fate of the steel industry. On December

3, 1986, severe fiscal stress resulted in appointment of a financialreceiver to the City of Ecorse by a Wayne County circuit judge.

Ecorse had a history as a once-thriving community that sufferedfrom tax base erosion. A tax base that once supported good schools,



parks, youth sports teams, annual community events such as fire-works displays, became incapable of supporting these amenities.Rather than scaling back to a level of services that could be sup-ported by the declining tax base, the same level of services wascontinued by incurring deficits and mounting debt.

The City eventually began to collapse upon itself. With the booksin a shambles, the City was not sure what assets it held or whatliabilities were owed. In 1984, the City failed to pay its Police andFire Pension Plan contribution, utility bills, and other vendors.These costs were ultimately paid through the issuance of judg-ment bonds totaling $4 million. In 1986, the City had $6 mil-lion in debts with little short-term possibility of repayment. Inaddition, the City failed to operate under a deficit eliminationplan as required by its home rule charter and state law. In connec-tion with this requirement, the Wayne County Circuit Court ap-pointed a receiver to develop and implement a fund-balance defi-cit reduction program and do whatever else was necessary to im-prove the City’s overall financial condition.

With this backing, the receiver began making the severe changesnecessary to reduce the deficit and bring expenditures in line withrevenues. Settlements were negotiated to save the City money onnumerous lawsuits. Surplus buildings and land were sold, includ-ing the public library, and most of the park property. New comput-ers, phones, radios, and copy equipment were purchased to allowremaining staff to perform their duties more efficiently.

Wayne County

Wayne County, the state’s oldest and most urbanized county, pro-vides an example of how it is sometimes necessary to change theoperating structure to bring about desired financial reforms.

It had been recognized for several decades that reorganization ofWayne County was necessary, but it was not until the late 1970sthat the staggering problems of the county came to a head. Thecounty’s records were unauditable; a letter from the deputy statetreasurer to the board of auditors cited 22 significant variancesfrom generally accepted accounting practices which prevented thestate treasurer’s office from auditing county financial operations.The state auditor general asked a prominent CPA firm for sugges-tions and assistance, but the CPA firm declined, citing an insuffi-cient commitment by the county to make an audit engagementworthwhile.

In addition, county employee costs were extravagant. There weretoo many elected officials, too much cronyism, and too many semi-autonomous departments. Wayne County was facing ever morecritical problems, but no one was in charge. The role of the countycommission was too broad, encompassing both legislative andexecutive functions, and at the same time too narrow, rendering itpowerless to prevent excesses in operations headed by elected, oreven appointed, officials. The commission structure was recog-nized as causing some, and inhibiting resolution of other, fiscal

While the City did not declare bankruptcy, the financial receiver-ship took on many aspects of a bankruptcy. Assets were liqui-dated. Non-essential services were terminated. Every effort wasmade to treat all debtors and remaining employees equitably, sothat while they might not have gotten what they originally feltthey had coming, they did receive something.

Unnecessary services and appointed positions were eliminated,cutting the City payroll by more than half. The City Police andFire Pension Fund was frozen with all new employees placed inthe Michigan Municipal Employees Retirement System(MMERS). New contracts were negotiated with existing policeand fire employees.

The public works department was eliminated and a private firmwas contracted to provide the service previously provided by thatdepartment. Also privatized were operation of the boat launchingfacility, animal control services, ambulance billing, and city hallbuilding maintenance.

August 1, 1999, marked the final loan repayments to the state forthe borrowing. Since the receiver made the changes, the City hascontinued to operate with a leaner workforce. The City is payingits bills and remains solvent. Services such as the public libraryand some youth sports programs have been restored. It appearsthat the hard lessons have been learned and the City will continueto operate as a much leaner municipality than it once was.

and operating problems.

That structure required that the elected board of auditors preparethe proposed county budget and submit that proposal to the countyboard of commissioners. The board of auditors did not audit andhad no control over spending by county departments. The roadcommission budget was separately prepared and adopted by theroad commission itself. The county budget omitted most of theexpenditures of the drain commissioner, the road commission, andall grants. Court decisions rendered the budget meaningless:elected officials sued to obtain the resources they felt were neces-sary to meet their constitutional responsibilities.

In 1976, the Michigan Municipal Finance Commission issued anorder to Wayne County directing the county to balance its bud-get. In spite of that order, the county deficit continued to grow.In 1979, the Michigan Municipal Finance Commission made aWayne County sale of tax anticipation notes conditional on countysubmission of a plan to eliminate the deficit; county officials wereunable to produce such a plan. Later, in August 1979, WayneCounty’s request to issue $22 million of tax anticipation noteswas denied, and in October 1979, Wayne County was unable topay its employees, the first county since the great depression todefault on a payroll.

CRC REPORT


It was only after passage of Public Act 7 of 1980, which addressedmany of the objections raised by local and state officials againstthe original charter county enabling legislation, that a Wayne Countycharter commission was approved by the electors. In November1981, Wayne County voters adopted a charter “for the purpose ofproviding more efficient, responsive, and accountable government.”

The most important effect of the charter was the restructuring ofresponsibilities and separation of powers between the legislativeand executive branches. Empowered by these charter provisions,the new county executive reorganized all functions not under thedomain of independently elected officials under his control.

With a new organizational structure, the county was able to tackleits financial problems. A Ten-Point Fiscal Integrity Plan was draftedto turn around the county’s finances and deal with the 1982 bud-get deficit of $117 million. Nine of those ten points were achievedto varying degrees.

parture of those able to leave. The state should be equippedwith suitable responses to such conditions differently thanit might treat a unit suffering from corruption or misman-agement or a unit that has suffered the loss of a few taxpay-ers that has greater prospects of rebuilding its tax base.

a. Dissolve Local Unit of Government

The state may choose intervention for the express purposeof dissolving a local unit of government as an autonomousentity. The rationale in support of this approach is similarto that mentioned in regard to non-intervention, namelythat home rule consists not just of rights, but responsibili-ties. Indeed, the very notion of home rule presupposes someminimum ability on the part of the residents to govern them-selves. However, when a local unit of government revealsby its conduct over an extended period of time that it isincapable of responsible self government, the state wouldseem justified in concluding that home rule was not appro-priate for that particular unit.

i. Presupposes that Chronic Fiscal Problems ReflectDeeper ProblemsA recommendation for dissolution presupposes that some-thing about a unit precludes it from operating in a fiscallystable manner. The tax base may be insufficient to generateadequate revenues to provide minimal services. Dissolvingthe unit under such circumstances takes the decision out ofthe hands of the residents, placing it in the hands of statepolicy makers.

A home rule charter could have committed the government

to payments that create a structural deficit indefinitely intothe future, precluded actions that would allow a deficit situ-ation to be rectified, or maintained a governance structurethat does not support a strong decision-making structure.The people of the community should be given the oppor-tunity to rectify the situation themselves with a charteramendment or adoption of a new charter. However, failingsuch actions, consideration could be given to revoking thehome rule charter.

ii. Satisfaction of Contractual ObligationsAny options that would eliminate a unit of government mustconsider outstanding obligations. Arrangements must bemade to fund any outstanding indebtedness and pensionbenefits of former employees into the future. Options forensuring the future payments of these obligations could in-volve their assumption by the local unit of government thatbecomes the service provider to that community; a dedi-cated millage, with the tax levied only at that rate needed topay the obligations; or, these obligations could be assumedby the state. While state assumption of the obligations isnot equitable to taxpayers in the state outside that commu-nity, the obligations could be considered one-time costsnecessary to eliminate an ongoing problem.

iii. Merger/ConsolidationOne means of dissolving a local unit of government is toencourage consolidation with one or more of the surround-ing, stronger local units of government. This option wouldaddress the need to continue service delivery, and create alarger pool of potential residents from which to draw elected

The county’s deficit was eliminated over time. A clear under-standing of the county’s revenues and expenditures has developed,and the county has consistently maintained a balanced budget.Annual audits have improved to the point that the GovernmentFinance Officers Association of the United States and Canada(GFOA) awarded a Certificate of Achievement for Excellence inFinancial Reporting to the County for its 1998 comprehensiveannual financial report, recognizing conformance with the high-est standards for preparation of a state and local government fi-nancial report.

By addressing the problems presented by an organizational struc-ture that did not provide a clear level of responsibility or account-ability, state and county officials were able to create a structurewithin which fiscal distress could be confronted and future dis-tress avoided.



and non-elected officials. In many cases, it would creategreater economies of scale to reduce the unit cost of deliver-ing government services.

However, it is worth noting that mergers and consolida-tions do not take place regularly, even when economic con-ditions seem to indicate that all involved would benefit fromsuch actions. Mergers threaten the identity communitiesdevelop. Most recently, four Upper Peninsula municipali-ties – Mineral Hills, Caspian, Iron River, and Stambaugh –asked their residents to consider consolidation. Collectively,these municipalities suffered from declining population, lossof economic activity, slow growth in property tax base, highmillage rates, and duplication of services. While consolida-tion would not alleviate all of these problems, it would haveeliminated some of the duplication and strengthened theoverall tax base. Ultimately, in November of 1998, votersin Caspian voted against consolidation – approval was re-quired in each of the communities individually. Issues iden-tified as concerns leading to defeat included differences inmunicipal services, cross-subsidization of services amongthe geographic areas, and worries over creating a new mu-nicipal identity. While there were strong economic reasonsfor consolidation, ultimately the political reasons not to con-solidate were stronger. Later, at the November 1999 elec-tion, voters of Mineral Hills, Iron River, and Stambaughvoted to proceed with consolidation without the commu-nity of Caspian.7

With only one of the units considering merger in fiscal dis-tress, merger might be more attractive to residents of thedistressed community than it is for residents of the other.In most cases of fiscal distress, the area has been experienc-ing erosion of its economic base for some time. Flight fromthese problems has led the most able taxpayers, those withthe lowest levels of service demands, to move away. Thus,the healthier unit is faced with absorbing an area with littleeconomic base and fairly high service demands from theresidents and businesses that are left.

Under these conditions, the state must attempt to influencedecisions that would not otherwise take place. The optionsare either to force merger or create incentives that makemerger attractive. In 1982, the Kellogg Company concludedthat the financially depressed City of Battle Creek would bebetter served by merging with neighboring Battle CreekTownship. Kellogg was having trouble attracting executivepersonnel to a city that was experiencing urban flight andan eroding economic tax base. On the brink of a decisionon where to construct a new corporate headquarters, the

company looked to other metropolitan areas that had coa-lesced to achieve major growth – Toronto, Nashville, Jack-sonville, Minneapolis-St. Paul, Indianapolis, and Colum-bus. Kellogg told the city and neighboring township tomerge or it was going to find another place to locate itsheadquarters. The two units merged and Kellogg remainedan anchor for the community.

Ultimately, the state cannot force communities to merge, ashappened with the City of Battle Creek and Battle CreekTownship. Voters in both communities must vote for it tohappen. To this end, incentives could be formulated totake away some of the negatives of consolidation or tosweeten the pot. Policy makers must keep in mind the is-sues that determined the fate of the Upper Peninsula com-munities when formulating any incentives to promote con-solidation. It is not clear that any level of incentives thatrewarded the municipal government would have changedthe voting pattern of the residents of Caspian. It might bethe case that incentives would be more effective if they aretargeted to the individuals that reside in the communitiesconsidering consolidation.

iv. Elimination of All but Basic ServicesAlternatively, the state could dissolve the unit completely.City or village status would be completely ended. In doingso, the unit could revert to township status, with a lesserlevel of powers, responsibilities, and taxing authority. Theunit would be responsible for property assessment, tax col-lection, elections, and some minimal level of services. Sincesome services would be eliminated, employees could be laidoff. Property not used to provide the reduced level of ser-vices could be sold.

If at some point down the road, the community decidedthat township status was not adequate to meet their govern-mental needs, the community could go through the processof drafting a charter, gaining approval of the attorney gen-eral and the governor, and adopting a new charter througha vote of the people. Such a charter should be flagged com-ing through the offices of the attorney general and the gov-ernor to denote any provisions in the previous charter thatcontributed to fiscal distress, if any, and the state actionsthat were necessary as a result. Home rule could remain anoption to the residents of this community, but not at theexpense of more state assistance and oversight.

CRC REPORT


b. Financial Intervention

Financial intervention might include direct intervention intothe financial affairs of a local unit, increased or decreasedstate aid, or the use of state aid on the unit’s behalf.

i. Direct InterventionThis option would allow the state to intervene directly intothe revenue raising and spending affairs of the local unit. Iflocal government officials cannot manage their finances ontheir own, the state could do it on their behalf. In otherstates, direct intervention has involved the ability to increaselocal tax rates and make spending decisions on the unitsbehalf.

However, any state efforts to raise local taxes sufficient tomeet needs must consider the Headlee Amendment restric-tions on local taxation. At the November 1978 general elec-tion, voters ratified a state constitutional amendment thatlimited state and local government revenues and requiredvoter approval of new taxes. The “Headlee Amendment,”added Sections 25 through 33 to Article IX of the stateConstitution and amended Section 6 of Article IX. Section31 of Article IX provides in part as follows:

Local units of government are hereby prohibited fromlevying any tax not authorized by law or charter whenthis section is ratified or from increasing the rate of anexisting tax above that rate authorized by law or charterwhen this section is ratified, without the approval of amajority of the qualified electors of that unit of LocalGovernment voting thereon.

If a local unit of government at its statutory or charter limitgot into a financial crisis, the only option available withouta vote of the people would be to cut expenditures. Thisapproach effectively defines the powers of the emergencyfinancial manager currently provided for under the LocalGovernment Fiscal Responsibility Act.

ii. Increase or Decrease State AidA second level of financial intervention would be to adjustthe amount of money distributed to the local unit from thestate. The state could attempt to solve the financial prob-lems of a financially distressed unit by providing more moneyto make revenues equal to expenditures. This approachwould offer a carrot – in the form of more money – forsome level of changes, assuming the financial problem could,in fact, be solved by making those changes, but it wouldreward irresponsible behavior and risk having the unit inthe same condition a few years down the road.

The state also could use a stick. Money that otherwise wouldbe paid to the local unit in state aid could be withheld un-less changes are made. This approach likely would onlyserve to make the financial situation a little worse. If thelocal unit budgets for a certain level of state aid, providingless aid would only give that unit fewer resources with whichto meet obligations when it did not have enough to beginwith.

iii. Use State Aid on the Unit’s BehalfA third level of financial intervention has the state assumesome control, but minimizes the level of intrusion into lo-cal home rule. State-shared revenues could be used to meetobligations on a municipality’s behalf. School districts re-ceive about 70 percent of their funding from state revenuesources. Every city, village, and township in the state re-ceives unrestricted state revenue sharing based on popula-tion and a complicated formula that accounts for variationin taxable value, type of government, and tax capacity. Staterevenues also are shared for restricted purposes, such as high-way construction and maintenance and the courts. If a lo-cal unit began experiencing pension problems, unpaid em-ployee paydays, revenue shortfalls, or if other situations arosewhere others stood to suffer because of the financial deal-ings of a single unit, the state could direct that unit’s shareof state aid to those purposes.

3. Technical and Policy Intervention

Intervention that provides technical assistance and policydirection to local units of government falls between non-intervention and full intervention. While the state govern-ment does not make financial decisions for the local unit ofgovernment – such as dictating tax rates or budgetarychoices, or managing the books – this type of interventionallows the state to assist in restoring the unit to financialhealth and keeping it out of financial distress. In 1976, theCommittee for Economic Development argued that this isthe proper role for state governments to avoid treading onlocal autonomy:

… the state governments should play a central role inproviding leadership, incentives, and technical assistancefor improving the productivity of their local governmentsand further should work toward removing state-imposedimpediments to productivity, which in many states arenumerous. This does not imply a diminution of localprerogatives; on the contrary, it suggests a need for stateto update their traditional responsibility for providingfoundations of local government that will permit citiesand counties to manage their affairs more efficiently.8



To a great extent, Michigan has adopted this approach withenactment of the laws that currently provide for state over-sight of local government finances. That the process pro-vided by Public Act 72 of 1990, the Local Government Fis-cal Responsibility Act, was intended to be an intermediatestep between non-intervention on the one hand and inter-vention for the sake of dissolving local units of governmenton the other, is suggested by Section 2 of the Act whichprovides in part that

The legislature hereby determines that the public healthand welfare of the citizens of this state would be adverselyaffected by the insolvency of local units of government,including certain school districts, and that the survivalof local units of government is vitally necessary to theinterests of the people of this state to provide necessarygovernmental services. The legislature further determinesthat it is vitally necessary to protect the credit of the stateand its political subdivisions and that it is a valid publicpurpose for the state to take action and to assist a unit oflocal government in a fiscal emergency situation to rem-edy this emergency situation by requiring the prudentfiscal management...

a. Current Michigan Law

The Constitution and statutes provide the state governmentwith authority to monitor and supervise the financial af-fairs of local governments. Most of the statutory authorityto perform this supervision rests with the state treasurer.The statutes attempt to provide a framework within whichlocal governments must operate, and to provide tools fordealing with fiscal distress should it occur.

i. Misconduct or Willful Neglect of DutiesIt is the duty of state officials to monitor the actions of localgovernment officials and hold them accountable for neglectof duty or misfeasance in the conduct of their duty. Section10 of Article V of the state constitution states:

The governor shall have the power and it shall be hisduty to inquire into the condition and administration ofany public office and the acts of any public officer, elec-tive or appointive. He may remove or suspend fromoffice for gross neglect of duty or for corrupt conduct inoffice, or for any other misfeasance or malfeasancetherein, any elective or appointive state officer, exceptlegislative or judicial, and shall report the reasons forsuch removal or suspension to the legislature.

Chapter 15 of the Michigan Election Law provides the gov-ernor with authority to remove local officials who are guilty

of official misconduct or willful neglect of duty.9 This op-

tion has not been invoked in the most recent cases involv-ing the state and a local unit.

ii. Uniform Budgeting and Accounting ActThe Uniform Budgeting and Accounting Act10 requires lo-cal units to maintain uniform charts of accounts and en-ables the state treasurer to provide assistance to establish ormaintain the uniform chart of accounts for those local unitswhich require assistance. If the local unit fails to establishand maintain a uniform chart of accounts, the law empow-ers the state treasurer to perform the necessary services toadequately establish or maintain the uniform chart of ac-counts. Local units are required to make and file with thestate treasurer an annual financial report containing sum-maries of all revenues and expenditures, indebtedness, andfund balances.

All local units of more than 2,000 people, except the Cityof Detroit, must have an annual audit of their financialrecords, accounts, and procedures. The audit is requiredfor local units of less than 2,000 population at least onceevery two years. The law specifies that if the City of Detroitestablishes internal auditing procedures for all public mon-ies and submits a copy of the annual internal audit, then anindependent audit is required at least once every five years.One copy of every audit and the audit report must be filedwith the state treasurer. The state treasurer may examinethose audits and conduct investigations and report viola-tions of statutes to the attorney general, who may pursuecriminal or civil actions if any audit or investigation dis-closes statutory violations on the part of any officer, em-ployee, or board of any local unit.

The Uniform Budgeting and Accounting Act also requiresthat budgets must be balanced and that deviations from theappropriations act may not be made without amending theappropriations act. Local governments may not authorizeor participate in the expenditure of funds except as autho-rized by a general appropriations act. If it appears that ac-tual revenues will be less than anticipated, the chief admin-istrative or fiscal officer must present to the legislative bodyrecommendations that, if adopted, would prevent expendi-tures from exceeding revenues. Officials and employees ofa unit are prohibited from creating debt or incurring obli-gations on behalf of the unit unless permitted by law, andfrom incurring expenditures in an account in excess of ap-propriations.

CRC REPORT


iii. Uniform System of Accounting ActThe Uniform System of Accounting Act11 provides for theformulation and establishment of a uniform system of ac-counting and reporting in state government and county of-fices. Counties are required to make annual financial re-ports in the prescribed form, one copy to be filed with thestate treasurer and one copy with the governor. The statetreasurer is directed to examine county financial reports atleast once each year or as often as the public good requiresand county officials are required to produce records andtruthfully answer questions. The treasurer must make a re-port of the examination, and if criminal malfeasance, mis-feasance, nonfeasance, or gross neglect of duty is discov-ered, must file a copy with the attorney general who mustinstitute, or direct the county prosecuting attorney to insti-tute, criminal proceedings and civil action for recovery. Thegovernor is authorized to remove county officers for failureto comply with the act.

iv. State Revenue Sharing Act of 1971The State Revenue Sharing Act12 provides authority to thestate to withhold revenue sharing payments if a local unitfails to provide an adequate financial report or audit. TheState Revenue Sharing Act also requires local units that ex-perience a deficit to formulate and file financial recoveryplans with the Department of Treasury within 90 days afterthe beginning of their next fiscal year. The state Depart-ment of Treasury may help to develop the plan, and mustevaluate the plan and certify that it ensures correction ofthe deficit. After certification by Treasury, the local unit“shall institute the plan.” An amount equal to 25 percentof state revenue sharing payments may be withheld fromany unit until requirements of the subsection are met.

v. Municipal Finance ActThe Municipal Finance Act13 permits local units to issuetax anticipation notes. If the loans anticipate tax collec-tions for the next succeeding year and the borrowing is forthe payment of operating expenses, the money can be usedonly for expenses

• “which could not reasonably have been foreseen andadequately provided for in the tax levy for the thencurrent fiscal year;

• for the payment of an expense in the then currentfiscal year which cannot be funded because of a delayin or failure of receipt of budgeted revenue; or

• for the payment of budgeted expenses in the thencurrent fiscal year that precede budgeted revenues.”

If a local unit defaults on an outstanding obligation, thestate treasurer may investigate the municipality’s fiscal af-fairs, may assist the municipality in developing a financingplan, and may withhold state revenue sharing payments anduse those payments to satisfy unpaid or subsequently dueamounts. If the governing body of the municipality refusesto implement a financing plan that the state Department ofTreasury has found to be fair and equitable, “the depart-ment shall be vested with all powers of the municipality, itsgoverning body, and its officers that are necessary to imple-ment the plan.” The state treasurer may institute court ac-tion to force implementation of the plan, and, when a planhas been put into effect, may require any periodic reportsthat the department considers necessary, may approve orreject the municipality’s general appropriation act or bud-get and any amendments thereto before adoption. Themunicipality is required to make any modifications in thebudget recommended by the state treasury department.

vi. Emergency Municipal Loan ActThe Emergency Municipal Loan Act14 establishes the localemergency financial assistance loan board in the departmentof treasury, consisting of the state treasurer, director of com-merce, and director of management and budget. The boardis empowered to make and renegotiate loans to municipali-ties, and to examine the books and records of municipali-ties that apply for or receive a loan to ascertain whether themunicipality is complying with the requirements of theboard, state law, and local charter, ordinances, and resolu-tions. The board may require sworn statements from offic-ers or employees of a municipality and may require a state-ment of financial condition. The local emergency financialassistance board may issue orders to a recipient municipal-ity and may enforce compliance with its orders, the termsof a loan, state law, or local charter, ordinance, or resolu-tion. In order to be eligible for an emergency loan, a unitmust

• have a current year deficit;

• have applied to the municipal finance divisionwithin six months for approval to issue tax antici-pation notes (TANS) or revenue anticipation notes(RANs);

• have an income tax revenue growth rate of 90 per-cent or less from year to year, local tax base growthrate of 75 percent or less of the state rate, or havestate equalized value (SEV) less than in the preced-ing year; and

• submit a long-range plan outlining actions to be



taken to balance expenditures with revenues.

In receiving loans, local units of government commit them-selves to certain requirements. Units which receive loans

• must employ a full-time professional administrator;

• submit semiannual evaluations of actual perfor-mance compared to the long-range plan;

• submit quarterly statements of actual revenues re-ceived in the last quarter and in the current fiscalyear to date, total estimated current year revenues,actual expenditures and encumbrances in the lastquarter and the current year to date, estimated rev-enues and expenditures for the current year andthrough the end of the last quarter, and a balancesheet indicating whether total estimated expendi-tures for the current fiscal year and for the last quar-ter have exceeded the total estimated revenues forthe current fiscal year and the last quarter, respec-tively;

• submit the general appropriations act and amend-ments, budget changes before adoption, and pro-posed budget; and

• certify use of the uniform chart of accounts.

The Emergency Municipal Loan Act states that a local unitmay receive an emergency loan of up to $1 million in anyone year, and in five years of any ten year period. Interest isdue annually one year after the loan is made; principal isdue in not less than ten equal annual installments begin-ning ten years after the loan is issued. If the unit is delin-quent in repaying interest or principal, the state treasurermay withhold the delinquent amount from state revenuesharing payments.

vii. Fiscal Stabilization Act of 1981The Fiscal Stabilization Act15 allows a local unit to issuegeneral obligation bonds to fund an operating deficit. Threeconditions must be met in order for a local unit to obtainthe necessary approval from the state administrative board.

1. The unit must have an accumulated operating defi-cit in the preceding year or a projected current yeardeficit.

2. The amount of the deficit must exceed the amountavailable from the emergency municipal loan fund.

3. The amount of the deficit must be more than canbe raised by issuing tax anticipation notes.

The unit must also provide a statement outlining how it

intends to avoid future deficits. The sale is limited to thelesser of three percent of state equalized value (SEV) or $125million, and a maximum term of ten years. If voter ap-proval is obtained, the debt service may be met by an un-limited tax; if voters reject or are not offered the opportu-nity to vote, repayment must be accomplished within gen-eral tax limits.

viii. PensionsLocal units are obliged to pay retirants the full amountsowed, and to set aside in pension accounts amounts that areearned by active employees in each fiscal year. Retirants areprotected by Section 24 of Article IX, of the state Constitu-tion, which states:

The accrued financial benefits of each pension plan andretirement system of the state and its political subdivi-sions shall be a contractual obligation thereof which shallnot be diminished or impaired thereby. Financial ben-efits arising on account of service rendered in each fiscalyear shall be funded during that year and such fundingshall not be used for financing accrued liabilities.

One very common indicator of fiscal distress, and one thatoften precipitates financial crisis, is the failure to fund localpension systems on an actuarially sound basis. Becauseunfunded accrued liabilities are not part of a local unit’sdeficit, underfunding pension costs can postpone the ne-cessity of dealing with the local units financial problems.Local units experiencing fiscal distress are tempted to “bor-row” from their pension funds with the expectation thatthey will spread that cost over the longer term. Unfortu-nately, persistent underfunding compounds operating prob-lems as required pension contributions grow ever larger.

Should there be insufficient assets in the pension fund topay retired workers, those retirees’ payments must be madedirectly from current accounts. Either retirants or activeemployees, usually through the pension board, may seekprotection through the courts. In Michigan, courts haveon occasion used the device of judgment bonds and judg-ment levies to allow local units to increase property taxesbeyond normal limits to meet pension obligations.

ix. Municipal Employees’ Retirement Act of 1984The Municipal Employees’ Retirement Act16 provides for amunicipal employees’ retirement system to which any Michi-gan municipality may elect, either by a majority vote of itsgoverning body or an affirmative vote of its electorate, tobelong. The system is administered by a board composed

CRC REPORT


of the state treasurer or his/her designee, three officers ofparticipating municipalities, and three municipal employ-ees who are members of the system; the board appoints anactuary and a medical director. The state treasurer is trea-surer of the system, the attorney general is legal advisor, andthe director of the bureau of retirement systems, in the De-partment of Management and Budget, is executive secre-tary. Local units may select from a range of benefit pro-grams. Participating municipalities are required to annu-ally contribute an amount certified by the board, and maybe charged interest and penalties for late payments. “Con-tribution requirements shall be actuarially determined us-ing experience assumptions and level percent of payroll ac-tuarial cost methods adopted by the retirement board.”Membership in the state system guarantees that the pensionsystem will be professionally managed, that assumptions andbenefits are reasonable, and that funding is current.

x. Fire and/or Police Department Pension and Retirement ActThe Fire and/or Police Department Pension and RetirementAct17 provides for the establishment and administration oflocal pension systems for uniformed police and fire person-nel. The statute defines the authority of the retirement boardas well as pension benefits, options, and member contribu-tions. The municipality is required to appropriate “anamount sufficient to maintain actuarially determined re-serves covering pensions payable or which might be payableon account of service performed and to be performed byactive members, and pensions being paid retired membersand beneficiaries.” Annual appropriations must be suffi-cient to pay all pensions due and payable that year, and maynot be less than ten percent of member payroll unless a lesserpercentage contribution is actuarially determined. Theamount required for annual pension contributions underthe act is outside tax limitations imposed by charter limita-tions or state law, subject to Section 25 of Article IX of thestate Constitution.

b. Local Government Fiscal Responsibility Act

The Local Government Fiscal Responsibility Act18 providesa statutory mechanism for state intervention into the affairsof local units of government for the purpose of resolvingfiscal distress.

i. Origins of the ActsThe Legislature had for some time debated the merits ofhaving a statute that would define expected state actionswhen a unit became fiscally distressed. It was not until a

Wayne County circuit judge appointed a financial receiverto the City of Ecorse that this matter received some resolu-tion. Apparently concluding that judicial fiat was not thepreferred method for addressing local fiscal distress, theLegislature adopted Public Act 101 of 1988, the Local Gov-ernment Fiscal Responsibility Act. Act 101 provided a statu-tory mechanism for state intervention into the affairs of lo-cal units of government, other than school districts, for thepurpose of resolving fiscal emergencies. Subsequently, theLegislature adopted Public Act 72 of 1990, which incorpo-rated the provisions of the predecessor act and extendedthem, with some modifications, to school districts.

ii. Embodied in the Current ProcessThe Local Government Fiscal Responsibility Act enumer-ates 14 conditions, the existence of one or more of whichwithin a unit of local government triggers a preliminary re-view by the state treasurer:(a) The governing body or the chief administrative officer

of a local government requests a preliminary reviewunder this article [of the act]. The request shall be inwriting and shall identify the existing financial condi-tion that makes the request necessary.

(b) The state treasurer receives a written request from acreditor with an undisputed claim that is unpaid sixmonths after its due date against the local governmentthat exceeds the greater of $10,000 or one percent ofthe annual general fund budget of the local government,provided that the creditor notifies the local governmentin writing at least 30 days before his or her request tothe state treasurer of the intention to invoke this provi-sion.

(c) The state treasurer receives a petition containing spe-cific allegations of local government financial distresssigned by a number of registered electors residing withinthe jurisdiction of the local government equal to notless than ten percent of the total vote cast for all candi-dates for governor within the jurisdiction of the localgovernment at the last preceding election at which agovernor was elected. Petitions shall not be filed underthis subdivision within 60 days before any election ofthe local government.

(d) The state treasurer receives written notification fromthe trustee, actuary, or at least ten percent of the benefi-ciaries of a local government pension fund alleging thata local government has not timely deposited its mini-mum obligation payment to the local government pen-sion fund as required by law.

(e) The state treasurer receives written notification that



employees of the local government have not been paidand it has been at least seven days after the scheduleddate of payment.

(f ) The state treasurer receives written notification from atrustee, paying agent, or bondholder of a default in abond payment or violation of one or more bond cov-enants.

(g) The state treasurer receives a resolution from either thesenate or the house of representatives requesting a pre-liminary review under this section.

(h) The local government has violated the conditions of anorder issued pursuant to, or of a requirement of, PublicAct 202 of 1943, the Municipal Finance Act, or anyother law governing the issuance of bonds or notes.

(i) The local government has violated the conditions of anorder issued in the effectuation of the purposes of theEmergency Municipal Loan Act by the local emergencyfinancial assistance loan board created by Public Act243 of 1980.

(j) The local government has violated the requirements ofsections 17 to 20 of Public Act 2 of 1968, the UniformBudgeting and Accounting Act, and the state treasurerhas forwarded a report of this violation to the attorneygeneral.

(k) The local government has failed to comply with sec-tion 21 of Public Act 140 of 1971, the State RevenueSharing Act of 1971, for filing or instituting a deficitrecovery plan.

(l) The local government fails to provide an annual finan-cial report or audit that conforms with the minimumprocedures and standards of the state treasurer and isrequired under Public Act 2 of 1968, the Uniform Bud-geting and Accounting Act.

(m) The local government is delinquent in the distributionof tax revenues, as required by law, that it has collectedfor another taxing jurisdiction, and that taxing juris-diction requests a preliminary review.

(n) A court has ordered an additional tax levy without theprior approval of the governing body of the local gov-ernment.

In an instance when the state treasurer reports to the gover-nor that there exists within the unit of local governmentone or more of the preceding conditions indicative of a se-rious financial problem, the governor is required to appointa review team to conduct a more extensive review of thefinancial condition of the unit of local government. Thestatute provides that a review team is to consist of the statetreasurer, the state auditor general, a nominee of the Senate

majority leader, a nominee of the speaker of the House ofRepresentatives, and, other state officials or individuals withrelevant professional experience.

Upon completion of its review, a review team must trans-mit to the governor a report specifying whether the follow-ing conditions indicative of a serious financial problem ex-ist, has occurred, or would be likely to occur if remedialaction were not taken:(a) A default in the payment of principal or interest upon

bonded obligations or notes for which no or insuffi-cient funds are on hand and segregated in a special trustfund.

(b) Failure for a period of 30 days or more beyond the duedate to transfer one or more of the following to theappropriate agency:(i) Taxes withheld on income of employees;(ii) Taxes collected by the government as agent for an-

other government unit, school district, or otherentity or taxing authority;

(iii) Any contribution required by a pension, retirement,or benefit plan.

(c) Failure for a period of 30 days or more to pay wagesand salaries or other compensation owed to employeesor retirees.

(d) The total amount of accounts payable for the currentfiscal year, as determined by the state treasurer’s uni-form chart of accounts, is in excess of ten percent of thetotal expenditures of the local government in that fiscalyear.

(e) Failure to eliminate an existing deficit in any fund ofthe local government within a two-year period preced-ing the end of the local government’s fiscal year duringwhich the review team report is received.

(f ) Projection of a deficit in the general fund of the localgovernment, for the current fiscal year in excess of tenpercent of the budgeted revenues for the general fund.

The review team, in its report to the governor, is required toreach one of the following conclusions:(a) That a serious financial problem does not exist within

the unit of local government;(b) That a serious financial problem does exist within the

unit of local government, but that the review team andthe unit of local government have entered into a con-sent agreement containing a plan to resolve the finan-cial problem; or

(c) That a financial emergency exists within the unit oflocal government because no satisfactory plan could be

CRC REPORT


entered into to resolve the serious financial problem.

It should be noted that the sections requiring the governor,and then a review team, determine the existence of a seriousfinancial problem tend to be cumbersome. Equally cum-bersome is the requirement that the governor, upon receiptof the report by the review team, make a conclusion of seri-ous financial condition. Given the statutory requirementthat appointment of a review team be preceded either bythe governing body of a unit of local government request-ing assistance in meeting the ordinary needs of government,or by the state treasurer determining the existence of one ormore statutory conditions indicative of a serious financialproblem, it is implausible that a review team subsequentlywould conclude that no serious financial emergency existed.It is equally implausible that a governor, after having re-ceived the written report of a review team, would concludethat no serious financial problem existed.

In an instance in which the governor determines the exist-ence of a financial emergency within a unit of local govern-ment, or where the governor is informed by the state trea-surer or a review team that a unit of local government whichhad entered into a consent agreement is not abiding by thatagreement, the governor is required to assign responsibilityfor managing the financial emergency to the local emer-gency assistance loan board, which, in turn, is required toappoint an emergency financial manager.

iii. Utilization of the ActsThe provisions of Public Act 101 of 1988 were invoked ontwo occasions: involving the City of River Rouge and theTownship of Royal Oak. In both instances, local officialsnegotiated consent agreements with review teams to avoidappointment of an emergency financial manager. In thecase of River Rouge, the review team recommended theappointment of an emergency financial manager after theconsent agreement was violated, but no action was takenregarding that recommendation. It is unclear to what ex-tent the consent agreement signed with Royal Oak Town-ship has been observed by the township. Actions initiatedunder Act 101 continued by operation of law under Act 72.

The provisions of Act 72 have been invoked on two occa-sions to date, with respect to the Kalkaska School Districtin the winter of 1993 and the City of Highland Park in thespring of 1996. The Kalkaska School District’s financialproblems were eventually addressed by the changes in schoolfunding brought about under Proposal A of 1994. LikeRiver Rouge and Royal Oak Township, the City of High-land Park and the review team entered into a consent agree-ment in August of 1996, under the terms of which the re-view team would continue to monitor the financial condi-tion of the city until requirements specified in the consentagreement were satisfied. As of this writing, the City ofHamtramck is in the early stages of the Act 72 process, afterthe mayor of that city requested a preliminary review.

C. Avoiding Fiscal Distress Through Monitoring

State supervision has three components: (a) the establish-ment of standards of service and the goals to be achieved;(b) the guidance and instruction needed to assist local offi-cials to comply with the standards; and (c) the authority tomonitor local units and to improve their work if necessary.Michigan has established the standards and goals in statelaw. For most units, guidance and instruction are limitedto state laws that set out uniform budgeting and accountingstandards and define reporting requirements for units wish-ing to borrow or incur debt. For a small number of units,guidance and instruction has come through the Local Gov-ernment Fiscal Responsibility Act, through which a reviewteam provides oversight and instructs local officials on tech-niques for sound financial management to avoid future prob-lems. State efforts to inspect local units have not gone be-yond requirements that local units file financial statementswith the state at the end of each fiscal year. Little is donewith these financial statements.

A proactive approach to monitoring and early interventioncould expand the current state role without crossing intostate control. A state oversight approach based on monitor-ing and early intervention could use the tools developed forproviding technical and policy intervention to continuouslytrack local government finances. Such a role would notimply state control, where financial responsibility rests pri-marily with the state and the local units are mere agents.The aim would be to provide the guidance to keep localgovernments financially healthy and to identify potentialproblems before they become serious. By identifying indi-cators of potential future fiscal distress, the state could as-sist local government officials in making positive changesto avoid imposing the Local Government Fiscal Responsi-bility Act process or some other means of financial inter-vention at a later date. State supervision recognizes that theprimary responsibility lies with the localities and that thestate is responsible for aiding and improving local adminis-



tration, but not for the detailed acts of that administration.

Two issues complicate any state efforts to oversee local gov-ernment finances: (1) the number of local units of govern-ment, and; (2) the measures to monitor as indicators of fu-ture fiscal distress.

1. Number of Units.

Michigan has 1,859 general-purpose units of governmentand 555 local school districts that are covered by the LocalGovernment Fiscal Responsibility Act. Additionally, 57intermediate school districts, 28 community college districts,and over 250 special districts and authorities require somelevel of state oversight. Overseeing the finances of all ofthese units would require much higher levels of staffing thanare currently assigned to such tasks.

A “triage” strategy would reduce the number of units re-quiring active state oversight as a beginning point. As willbe explored below, the North Carolina Local GovernmentCommission uses this methodology with some success.Other states also work under this same premise in develop-ing lists of units under “fiscal watch” or some level of higherstate oversight.

A “triage” strategy would reduce the number of units re-quiring active state oversight. A triage strategy for handlingthis number of local units would begin with an assumptionthat units do very well in managing their finances. Underthis method, the forms of local government are clusteredinto three groups.

1. Units that are assumed to be financially healthy basedon past experience, barring any misdeeds or catastrophicacts. This group should receive minimal attention. Theyshould not be ignored, but staff will not have sufficienttime or resources to analyze their finances closely.

2. Units that have consistently experienced fiscal distress.This group should receive the lion’s share of the atten-tion in the state oversight efforts.

3. The remaining units should receive a fair amount ofattention, but unlike the second group, oversight ef-forts will begin with the assumption that they are healthyand will remain healthy.

As will be explored below, the North Carolina Local Gov-ernment Commission uses this methodology with somesuccess. Other states also work under this same premise indeveloping lists of units under “fiscal watch” or some level

of higher state oversight.

2. Indicators of Fiscal Distress.

The state already possesses some means to identify local unitswhich are experiencing fiscal distress. Local units must adoptbalanced budgets and file audit reports, file deficit recoveryplans that must be approved and certified by the state trea-surer, and implement those plans. Local units must obtainapproval from the Department of Treasury to sell tax antici-pation notes (TANs) or revenue anticipation notes (RANs),from the Local Emergency Financial Assistance Loan Boardfor emergency loans, and from the State AdministrativeBoard to issue deficit-funding bonds.

The problem for the state is how to make these tools workto achieve a more proactive level of oversight, in order toidentify units before it is necessary to take some of theseemergency actions. It is difficult with an issue such as localgovernment finance to establish a uniform definition forfiscal distress. Local units of government vary by tax base,service delivery, and demographic measures such as popula-tion. Uniformity differences are compounded by such ana-lytical problems as:

• Very few standards against which local governmentfinances can be measured with confidence;

• Fiscal difficulties emerge gradually and incremen-tally, making potential difficulties less obvious;

• A lack of “useable” and “understandable” dissemi-nation vehicles and formats to assess financial con-dition.

Some states use a system of fiscal benchmarking to track thefinancial condition of a number of local units.Benchmarking is, to put it simply, a system of comparing anumber of units, (1) relative to themselves at another pointin time, (2) to each other at that same point in time, and (3)to a standard measure that is considered critical, to identifystrengths and weaknesses in their operations. Benchmarkingis a widely accepted means of information gathering andanalysis.

Fiscal benchmarking can address the lack of uniformity andthe analytical difficulties of local governments. Ideally, fis-cal benchmarking would create ratios from informationabout revenues, expenditures, operating policies, debt struc-ture, the liability structure, condition of the capital plant,demographic data, and management and data-reportingpractices.

CRC REPORT


a The Level of Solvency to be MeasuredThe range of time, and thus the type of solvency abenchmarking system would hope to insure, must be de-cided before any indicators can be measured to determinerelative fiscal health. Financial condition, the “solvency” ofthe governmental unit, can mean a number of things, basedon the range of time used as a reference. For instance, theInternational City/County Management Association’s Evalu-ating Financial Condition: A Handbook for Local Govern-ment describes these varying levels of solvency:

• Cash solvency refers to governments’ ability to gener-ate enough cash over 30 to 60 days to pay its bills.

• Budgetary solvency refers to governments’ ability togenerate enough revenues over its normal budget-ary period to meet its expenditures and not incurdeficits.

• Long-run solvency refers to governments’ ability inthe long run to pay all the costs of doing business,including expenditures that normally appear in eachannual budget and those that appear in the years inwhich they must be paid.

• Service-level solvency refers to governments’ abilityto provide services at the level and quality that arerequired for the health, safety, and welfare of thecommunity and that its citizens desire.

The range of time used as a reference is a significant factorthat separates measuring the financial health of private en-tities from the financial health of public entities. Privateenterprise can be measured in a number of ways revolvingaround the ability of the enterprise to turn a profit, but forthe most part, investors in private enterprise are concernedabout the long-term financial health of the enterprise, andthe return on their investments over the long-run. Perform-ing each task in the production of a final good as efficientlyas possible is desirable, if not attainable.

Measuring the fiscal health of public entities is not as straightforward as it is for private entities. The nature of publicentities precludes the measurement of financial health basedon their ability to turn a profit. Financial health must bemeasured on their ability to raise sufficient revenues to fundthe services provided. Additionally, short-term cash andbudgetary solvency tend to be more significant in measur-ing the fiscal health of public bodies. Finally, in govern-ment, fund accounting has been regarded as more impor-tant than program cost accounting and the measurement oflong-term financial health, although this will change with

the new Governmental Accounting Standards Board guide-lines (See Effects of GASB Guidelines Changes).19

b. Data to be CollectedThe possibilities for ratios that could be compiled to pro-vide a snapshot of the financial status of a unit of govern-ment at a point in time are extensive. A unique systemcould be created, or one of a number of models available forreplication could be adopted. Standard and Poor’s has de-veloped “Public Finance Criteria.” The International City/County Management Association (ICMA) has developed“Financial Trends Monitoring System” (FTMS). The Gov-ernmental Finance Officers Association has developed a“Financial Indicators Database.”

Following the methodology laid out by ICMA’s FinancialTrends Monitoring System, ratios that could be included ina system of fiscal benchmarking might include environ-mental, organizational, and financial factors.

Environmental factors would include measures of• community needs and resources, such as changes in

population or property value, and• intergovernmental constraints, such as tax rates rela-

tive to charter or statutory tax rate limitations.

Organizational factors would include measures of• management practices and conformance with legisla-

tive policies, such as use of generally accepted ac-counting principles and the timely filing of requiredreports.

Financial factors would include measures of• revenues, such as revenues per capita, measures of

expenditures, such as fixed costs as a percent of netoperating expenditures,

• operating policies, such as fund balances or liquidityas a percent of net operating revenues,

• debt structure, such as current liabilities as a percentof net operating revenues,

• unfunded liabilities, such as unfunded pension li-abilities or accumulated employee leave, and

• capital plant, such as the maintenance effort or thecapital outlay as a percent of net operating expen-ditures.

Appendix 1 – Potential Ratios for Fiscal Benchmarkingbox, lists possible ratios and indicates what type of infor-mation might be gleaned from each.



Effects of GASB Guidelines Changes

If it is to comply with generally accepted accounting principles,every governmental unit will have to incorporate new guidelinespromulgated by the Governmental Accounting Standards Board(GASB) for preparing financial statements over a period of threeyears, beginning in 2002. Information required under currentfinancial reporting guidelines is too disaggregated to provide a “bigpicture” overview of government finances, has a narrow short-term focus, and is incomplete, lacking information about capitalassets. The changes were promulgated to provide more, easier tounderstand, information to financial report users about their gov-ernment. This information will describe how costs are being shiftedfrom current to future generations, if a government’s financialcondition has improved or deteriorated, and how much is beingspent on infrastructure costs.

Better Tools to Judge Financial HealthAnnual financial statements will be more accessible and containcomprehensive information that can be used to assess the long-term, total financial condition of a government under this newformat.

The Old. Using current fund-based government financial state-ments it is difficult to understand the “big picture” because fundaccounting for general activities – like police protection – focuseson short-term resources such as cash and investments and short-term liabilities. To track these services, governments employ modi-fied accrual accounting, which reports only the revenues receivedand the cost attributable to services provided in the current year.While this method permits government officials to demonstratehow well they are managing public funds in the short-term, itdoes not allow users to understand a government’s total financialcondition in the long-term.

By contrast, governments use full accrual accounting – which rec-ognizes transactions and events as revenues or expenses when theyoccur, regardless of hte timing of related cash flows – for business-type activities (such as airports) that charge a fee for services andfiduciary activities (such as a pension fund) in which governmentsact as agents for outside parties. This is the accounting methodused in the private sector.

Additionally, current financial statements fail to provide informa-tion about the cost of constructing and maintaining infrastructureassets, such as roads, bridges, buildings, and sewers. Private sectorfirms and nonprofit organizations, in sharp contrast, already in-clude capital assets, and the cost of using them over time, in theirfinancial statements.

The New. The new guidelines will address many of these short-comings. Annual financial statements will be more accessible and

contain comprehensive information that can be used to assess agovernment’s long-term, total financial condition. Governmentswill continue to provide information for major funds, but theywill also provide government-wide statements that are preparedusing full accrual accounting.

The government-wide statements will consider government froman economic perspective, which views government as a single eco-nomic unit, not just a collection of separate funds. It will use asingle basis of accounting – full accrual – so that all revenues andall expenses in a fiscal year are reported. That includes all measur-able assets and liabilities, both short-term and long-term, finan-cial and capital, whether they support governmental activities orfee-for service activities. For the first time, financial statementswill report information about all capital assets, including infra-structure assets.

Financial managers will have their first opportunity to provideinformed insights about their government’s finances. Intended tobe an objective, easily readable analysis of a government’s overallfinancial condition, such an analysis should allow users to readilydetermine whether a government’s finances have improved or de-teriorated since the previous year. In doing so, it will be incum-bent upon the financial managers to discuss the reasons for sig-nificant changes from the previous year.

More Units May Appear Near Fiscal CrisisWhile the adoption of these new guidelines will provide a betterlong-term perspective on the financial outlook, it is likely thatmany units judged to be in strong financial condition using thecurrent reporting methods will suddenly appear to be approach-ing financial distress. The primary cause for this change will bethe introduction of infrastructure asset reporting. Governmentsmust calculate the historical or original cost of existing major in-frastructure assets that were constructed, purchased, or renovatedsince the first fiscal year ending after June 30, 1980. At a mini-mum, the government can assess the historical cost of their infra-structure over a 25-year period and then allocate those costs overthe useful lives of the assets by reporting annual depreciation ex-penses. Governments that can provide documentation that theyare maintaining and preserving their infrastructure at an estab-lished condition level may report their maintenance and preserva-tion expenses in lieu of depreciation. While depreciation of assetshas been common practice in private sector accounting, govern-ment accounting has never before included infrastructure depre-ciation. With infrastructure introduced on one side of the ledger,but nothing to offset that value on the other side of the ledger, theoverall financial status of governmental units is likely to change,even though they are doing nothing different.

CRC REPORT


It is vitally important for these ratios to be meaningful. Bygrouping local governmental units according to populationand the type of government, they facilitate comparisons ofunits with roughly the same service provisions, demand lev-els, and operating costs. Because there will never be twounits of government that are identical in their organization,the resources available to them, or the services demanded ofthem, the aim is to overcome these differences for purposesof comparison.

c. Identifying Problems with the DataThe ratios should be organized into reports and made avail-able for public consumption. Besides the state oversight ef-forts, such information would be useful to elected and fi-nancial officials in the local units, citizens concerned withtheir government’s finances, and state officials in understand-ing local government fiscal trends. By using a database formore than just internal state purposes, those comparingthemselves against other units will be able to identify thosefalling far from the norm and point out any problems withthe data.

One of the constituencies most likely to use such a databasewould be the finance and budget officials in each unit. Theability to benchmark themselves against other units of simi-lar size and service demands can be a tool of considerablevalue to these officials. Being closest to the data, they alsowould be among the first to recognize any problems withthe data. Thus, the very units that are measured in a data-base would be the ones auditing and cleaning up the data.

Auditing also becomes a function of use. When the statecomes to a unit because a ratio or indicator identifies a po-tential problem, two possibilities present themselves:

1. that a problem exists that can be addressed withthe proper attention; or

2. that the unit is not out of line, but there is a prob-lem with the way the data is aggregated or reported.

In the case of the second possibility, addressing a reportingproblem once should alleviate the problem for the follow-ing years.

Washington and Montana consulted with local governmentofficials in developing their benchmarking systems. Insteadof a top-down system where state officials told the localgovernments what was to be reported, the state became fa-cilitators for a bottom-up system. The system ultimatelywas designed to meet both state and local management needsand thereby became fairly sophisticated. The end result was

a stronger system that was useful to a wider range of poten-tial users than would have been the case if the states unilat-erally developed their own systems.

d. Pros and Cons of Fiscal Benchmarking

Fiscal benchmarking can strengthen the state oversight role,but state officials should understand the pluses and minusesof benchmarking before they adopt it.

i. External Benefits of Fiscal BenchmarkingFor the citizens, a database of this sort becomes a tool formonitoring the finances of their unit of government. Simpleto understand, meaningful ratios could increase citizen in-volvement in local government.

Identification of best practices in neighboring communi-ties and of costs that are out of line with the costs othercommunities are paying for particular functions allows lo-cal units of government to identify potential cost savings.Ultimately those savings can be returned to taxpayers inreduced tax rates and/or enhanced service delivery.

Investor confidence is raised by knowing the state is takingan active interest in the financial practices of its local unitsof government. Rating agencies report upgrading the bondratings for North Carolina local units of government be-yond the ratings they would otherwise receive because theLocal Government Commission actively oversees their fi-nancial practices and investigates the overall environmentin which repayment will take place before bonds are evenoffered for sale. The end result of this improved investorconfidence is reduced cost of municipal borrowing. In-creased confidence translates into upgraded bond ratings,which, in turn, translates into lower interest rates. Lowerinterest rates mean less money has to be paid for interestcosts and more money is available to pay the principal onborrowing.

ii. Advantages of BenchmarkingInstitutional Knowledge. A benefit of having an on-goingsystem of state monitoring is that state officials develop aknowledge base by working with the local governments.They learn what kind of accounting gimmicks might beemployed to mask problems. They develop trust in certainratios or measures of fiscal health. They learn what localunits are doing well and can relay that knowledge to otherunits in similar circumstances that might benefit from theexperience. Similarly, benchmarking allows local govern-ment officials to analyze their own finances relative to other



units of similar characteristics. If another unit is substan-tially outperforming other units in one or more ratios, thelocal government officials can contact that unit directly tobenefit from their innovation.

Collegial v. Adversarial Relationship. A strong state rolein local government oversight provides an opportunity forstate and local government officials to develop a workingrelationship during strong financial times. One of the weak-nesses of the Act 72 process is the adversarial relationshipsthat have tended to develop between the state and the localgovernment officials. Rather than creating a system of col-legiality, the atmosphere has resulted in local governmentofficials attempting to do whatever it takes to get the stateout of their business. Relative to the conditions prior tostate intervention, when dissension among the local offi-cials could sometimes prevent substantial and meaningfulchanges, state intervention has tended to cause the local of-ficials to coalesce to end this intervention. While creating acommon enemy might prove useful in settling disputes, inmost cases of fiscal distress the real problems of the local

governmental unit are not dealt with in these efforts.

iii. Problems of BenchmarkingFalse Readings. A danger in relying too strongly on a sys-tem of benchmarking is that false readings are not only fre-quent, but troublesome. For instance, interfund borrow-ing might mask a brewing crisis that could come to a headin even greater magnitude a few years down the road if re-sources are not sufficient to repay the borrowing while main-taining other obligations. Use of one-time, non-recurringfunds might keep a unit’s finances from appearing negativeas they might otherwise appear. The appearance of a deficitwould not necessarily relay information on whether the causewas a onetime occurrence or a structural problem.

That said, if ratios are developed to benchmark local gov-ernment finances, for officials to judge their own perfor-mance and for the state to use as one of several tools, thissystem can be a powerful first step in identifying which unitswarrant greater scrutiny.

D. Experience of Other States

Three major events stand out as key dates in shaping stateoversight of local government finance and responses to lo-cal government fiscal distress. (1) A major transformationin the ways in which state governments and their local unitsof government interacted with one another occurred in thelate 19th and early 20th centuries. Before this era, statestypically exercised great control over their local units of gov-ernment: writing their charters, dictating taxation and ex-penditure levels, and controlling the structure within whichlocal governments interacted with each other. This periodresulted in an opening of government to the people withhome rule laws that allowed local units of government tocreate their own charters. At the same time the cities weregaining home rule powers, states were increasing the inten-sity of monitoring local government finances. Because ofthe technical restraints and the lack of budgeting sophisti-cation of the time, these were ex post facto efforts at analyz-ing prior year finances of local governments, typically ef-forts were directed at ensuring accounts were balanced andsupervising assessments.

The systems established by states to monitor the finances oflocal government during this era laid the groundwork formany of the subsequent supervision and monitoring lawsthat followed. It was during this period that state govern-

ments, with revenues still flowing from property taxes, cre-ated boards of equalization, with the powers to change theaggregate valuation of counties so as to equalize the appor-tionment of state taxes. States also emphasized account-ability, a common tenet of Progressive Era reforms, throughsuch measures as reporting requirements and standardiza-tion of accounts. Less attention was paid to the aggregatelevels of spending or the accounting and budgeting systemsemployed. As bad as some of the municipal accountingand budgeting systems were, they were often better thanthose of the states within which the cities were located.

(2) The second major event, the Great Depression, affectedthe mix of state and local taxation and service responsibili-ties and left many local units of government in fiscal dis-tress with only federal bankruptcy laws to handle the crises.States reacted to those developments in a number of ways,some of which are reflected in Michigan law. Some stateschanged their focus from controlling local budgets as a wayof controlling property taxes to across-the-board tax andspending limitations. Michigan adopted the 15/50-mill taxlimitation in 1932. Some states relieved the property taxburden by increasing state aid. Michigan began a system ofsharing revenues raised by the new liquor tax and beer andwine taxes with local governments that grew into the cur-

CRC REPORT


rent state revenue sharing program. Also at this time, anumber of states gave their local governments permissionto raise revenues from non-property taxes. A centralizationof state supervision and control over local finances also re-sulted from the Great Depression. This was true for Michi-gan, but many states went far beyond the levels of central-ization implemented in Michigan.

(3) The third major event was the New York City fiscal cri-sis. While this crisis affected only New York City and theState of New York directly, it served as a wake-up call forevery other state. If it could happen in a city, such as NewYork, that receives a great deal of attention and budget scru-tiny, surely it could happen in smaller cities and towns withless budget scrutiny. States began to notice, as a result ofthis crisis in one of the nation’s major cities, that improve-ments in accounting and integration of the accounting, bud-geting, and reporting systems could provide an early warn-ing system to the state governments to prevent fiscal emer-gencies.20

Although all states were influenced by these three events,state oversight of local government finances varies widelyfrom state to state. As of 1977, the last time a study com-piled practices of the states, 37 states had a statutory basisfor monitoring or supervising local government budgets.Local government budgets are collected in 34 of the 37 states,and many of those states had power to change a budget if itwas found to be out of compliance with state laws. Uni-form budget standards or guidelines for preparation of lo-cal budget documents were devised in 24 states. Eight states(and the county governments in Ohio) approve all or partof the local budgets before the local government can ex-pend any money. Indiana, Massachusetts, Nevada, NewHampshire, New Mexico, Ohio, and West Virginia all re-quire approval of the budget or certification of tax ratesbefore funds can be expended or revenues raised for thatfiscal year. Colorado and Missouri require local govern-ments to file their budgets before they can expend money.Louisiana, Michigan, North Carolina, and Tennessee all canassume detailed control of local government budgets undersome circumstances.21

A major theme running through these periods, one that stillrings true in analyzing state oversight systems, is the differ-ence between legislative mandates and administrative su-pervision. Legislative mandates – as implemented throughsuch tools as state mandates for local spending on specificfunctions, approval requirements for debt issuance, and taxlimitations – are equated with state government’s efforts to

determine local policies and usurp local priorities. Admin-istrative supervision – as implemented through such toolsas balanced budget requirements, uniform budget and ac-counting standards, and standardization of accounts – isequated with state government’s efforts to set up generalrules for local units of government to follow and the deter-mination of state governments to enforce those rules. Whilemost states have administrative supervision, Indiana, Mas-sachusetts, New Jersey, New Mexico, North Carolina, Ohio,and Washington are among the states that have fairly strongstate oversight powers that include some level of legislativemandates, including some level of centralized control overlocal budgets.22

The following is a brief description of the state oversightprocess in select states. North Carolina’s Local GovernmentCommission (LGC) is the model for other states in the over-sight of local government finances. As a result of the proac-tive monitoring performed by the LGC – strong fiscal anddebt management and superior disclosure – local units ofgovernment receive above-average debt ratings for local gen-eral obligation and revenue bond issue. North Carolinataxpayers ultimately benefit from this oversight with sav-ings that result from lower interest rates. At the end of the1998 Fiscal Year, the Local Government Commission hadplayed a part in the sale of over $1.09 billion in competitivetax-exempt general obligation bond sales for local govern-ment, with rates averaging 47 basis points under the na-tional Bond Buyer’s Index. The result was savings in excessof $48.9 million over the life of these bonds.

A number of states have extensive programs for overseeinglocal government finance and responding to local govern-ment fiscal distress. While they do not go as far as NorthCarolina, these states offer interesting comparisons to thecurrent statutes in Michigan.

1. General Oversight in Michigan

The Bureau of Local Government in the Michigan Depart-ment of Treasury is charged with local government finan-cial monitoring for most of the laws effecting the financesof local government (described above in the Technical andPolicy Intervention section). The responsibilities of theBureau of Local Government are currently divided as fol-lows:

• Assessor Certification Division is responsible for exam-ining and certifying the abilities of local governmentassessors and equalization officers.



• Local Audit and Finance Division has three sections,local audits, municipal finance, and special audits.

Local Audit Section is responsible for conductingaudits for counties, is the repository for audits ofother local governmental units, and performs au-dits on expenditure of Public Act 51 transporta-tion funds for county road commissions, cities, andvillages.

Municipal Finance Section is responsible for approv-ing all bonds and notes consistent with Public Act202, the Municipal Finance Act.

Special Audit Section is responsible for performingaudits when there are allegations of fraud or mis-deeds.

• City Income Tax Division is responsible for adminis-tering the city income tax for the City of Albion.

• Local Property Services Division is responsible for ad-ministering the Homestead tax exemption program andthe tax reversion process.

• Property Tax Division acts as staff to the State Tax Com-mission, is responsible for assessing utility property, andoversees property tax exemption programs (such as thePublic Act 198 industrial tax abatements).

The State Tax Commission is responsible for oversightof the property tax, including assessment and equaliza-tion, and hears appeals from aggrieved taxpayers or lo-cal units of government.

While the structure is in place to provide financial over-sight, Michigan’s Bureau of Local Government has notadopted an active policy of oversight. The most active fi-nancial oversight is provided for administration of the prop-erty tax system. Local units of government are required tofile audits, but these receive minimal review – checking thatthey are prepared in accordance with generally accepted ac-counting principles and that the funds are not in deficit.Local units receive a greater amount of financial review ifthey wish to borrow. In order to receive the necessary ap-proval from the Department of Treasury to issue any bondsor notes, local units must complete a form detailing thecurrent financial and debt status of the unit. The Bureaudoes not actively oversee local government finances, and hason occasion learned of potential fiscal distress from citizenor media questions.

2. General Oversight in Selected States

Reporting Requirements. Reporting requirements gener-ally vary among states only in the frequency of requiredreports. While not all states require financial reports fromtheir local units of government, those that do generally re-quire only an annual year-end financial report. Some statesrequire that a budget be submitted before the beginning ofthe fiscal year. North Carolina law requires that local gov-ernments submit semiannual statements of finance, as wellas audited financial statements on an annual basis. Addi-tionally, the Commission has the authority to require addi-tional reports should circumstances warrant. While thepowers of the Local Government Commission to exercisefinancial control over local government matters is substan-tial, it is the ongoing financial surveillance that preventsfiscal stress from becoming a crisis for local governments.23

Oversight generally includes accounting and auditing. Statesare interested that Generally Accepted Accounting Princi-pals (GAAP) are being adhered to for the budgetary andauditing processes. The general oversight role allows thestate overseers to comment on the financial accuracy andlegal compliance of the reports.

Debt Reporting Requirements. Some states also requirelocal governments to report to the state on debt issuance.Every planned debt issue – including general obligationbonds and notes, utility/enterprise revenue bonds, and publichospital bonds – must undergo a fiscal review by NorthCarolina’s Local Government Commission staff. Generalobligation and revenue bond issuers are required to submitlengthy applications for bond issue approval, including sum-mary financial and debt information, projected tax ratesrequired, and forecast enterprise operations if the bonds areto be paid from enterprise earnings. Most bond documentsmust be close to being finalized before submission and ap-proval by the Commission. The state Commission has theauthority to disapprove or revise bond issue plans.

Although the local government debt issuers may hire theirown financial advisers, North Carolina’s LGC takes an ac-tive role in the negotiation process for hiring these advisers.The state also is actively involved in the actual sale andmarketing of securities. The LGC has the authority to man-date tax levies for debt and budgetary requirements, shouldlocal officials not take such actions on their own.24

CRC REPORT


Staff. Staff levels are cited as one of the strengths of NorthCarolina’s Local Government Commission. With a staff of35, 16 of whom are dedicated to the continuous fiscal sur-veillance of local units, North Carolina laws for fiscal over-sight and responding to fiscal distress are generally writtento empower this body rather than dictating when actionsmust occur. The staff is composed primarily of individualswith masters degrees in business administration and accoun-tants, almost all of whom have Certified Public Accountantcredentials. Continuity, specialization in fiscal oversight,and experience from dealing with multiple units has pro-vided the Commission with the expertise needed to recog-nize potential fiscal distress and make informed decisionson dealing with those situations.25

Technical Assistance. Many states provide technical assis-tance to local government officials in budgeting, account-ing practices, auditing, preparation of bond plans, and withmost other financial matters for which some assistance canbe offered. In North Carolina for instance, on-site assis-tance is offered for accounting systems and proper internalcontrols, cash and investment management, budget prepa-ration, risk management, capital planning, and changes inlaw and regulations. Training is extended not only to localgovernment employees, but to auditors, consultants, andanyone else who might benefit. The commission is a con-tractual party to all auditing contracts.

A positive side benefit resulting from these types of assis-tance programs is a collegial, congenial relationship thatdevelops between staff of the state oversight bodies and thelocal government officials and employees. The state doesnot come into the local governments only when fiscal dis-tress is imminent, but when times are good as well. Shouldfinances become stressed, the staff of the state oversight bodyis not looked upon as strangers unfamiliar with local cir-cumstances, but familiar faces that the local governmentofficials and employees have worked with on other matters.

Consulting Services. A number of states have begun toextend technical assistance to include consulting services.In New Jersey, a state with no property tax limitations, theLocal Government Budget Review program was institutedas an effort to bring about property tax relief. It combinesthe expertise of professionals from the Departments of Trea-sury, Community Affairs, and Education with team leaderswho are experienced local government managers to providelocal governments with a management review and consult-ing service.

To find those “cost drivers” in local government, the teamsreview all aspects of local government operations, lookingfor ways to improve efficiency and reduce costs. The teamsalso document those state regulations or legislative man-dates that place an unnecessary burden on local governments,and suggest which ones should be modified or eliminated.Finally, the teams note where local governments are utiliz-ing “best practices” – innovative ideas that deserve recogni-tion and that other municipalities may want to emulate.

The Local Government Budget Review Program reviews thefinances of a number of individual municipalities, schooldistricts, and authorities each year. Every aspect of the localgovernmental unit’s finances are reviewed, including not onlythe service functions, but the basic administrative opera-tions of each unit as well. Based on the expertise of the staffand using benchmarks identified from reviewing other lo-cal governmental units, these reviews are able to identifyprogram changes, operational inefficiencies, and other ar-eas that could lead to potential cost savings. The final re-port for each local unit is an in depth audit that benefitsfrom having other units for operations and costs compari-sons. This intensive review and dialogue between local of-ficials and the review team is designed to produce signifi-cant insight into what factors are driving the costs of localgovernments, and provide the necessary tools to bring mean-ingful property tax relief to the State.

The Minnesota Office of State Auditor serves as a resourcefor cities and counties to obtain, review, and compare fi-nancial data to find more efficient and economical ways tospend public funds. The office works with local govern-ment officials to provide answers to legal and financial com-pliance questions and to find ways to implement cost-effec-tive internal controls. One result of these efforts has beenthe development of a unique software program. The SmallCity and Towns Accounting System was designed to im-prove the accounting and reporting of financial data fromlocal governments.

Benchmarking. With the availability of desktop comput-ers, states are developing computerized databases on finan-cial performance of the local governments. States do notrely on the databases for official purposes. Rather, they areused for inter-unit and class comparisons of financial per-formance measurements. The reports are useful to lawmak-ers in understanding the fiscal trends of the local govern-ments within the state, to local government officials for com-paring their performance with their peers, and to citizens as



a tool for understanding how the finances of their unitscompare with the finances of other units.

The Ohio Office of Auditor of State has received nationalacclaim for its benchmarking studies. The GovernmentFinance Officers Association of the United States andCanada presented the Ohio Office of Auditor of State witha 1998 Award for Excellence in Government Finance forthe ongoing series of summary reports detailing benchmarkinformation on local government finances.

These benchmark studies, the State Ratio Analysis Series,employ key ratios to obtain a more comprehensive pictureof fiscal situations among the Ohio local units of govern-ment. These basic indicators illustrate financial practicesamong governments, and consequently are valuable as fi-nancial planning aids. Moreover, they may provide an earlywarning to entities drifting toward financial crisis. NorthCarolina and Minnesota also use such databases.

In the late 1960s and early 1970s, Washington introducedthe budgeting, accounting, and reporting system (BARS).This new program required a level of local government in-formation that the state did not have. In the state auditor’sefforts to institute the BARS program as an aid to statepolicymaking, local input was incorporated into the devel-opment of the system. Rather than unilaterally deciding togather only information that could be anticipated to assistthe state, the system ultimately was designed to meet bothstate and local management needs and thereby became fairlysophisticated.

Other states have followed this example of incorporatinglocal concerns into any state reporting requirements. WhenMontana developed a budgeting, accounting, and report-ing system similar to Washington’s, it was more in responseto local demands than from state initiative. The aim was toassist cities and counties in creating day-to-day financialreports to assist local government managers in financial de-cision making.26

i. State Action TriggersThe decision for the state oversight body to begin actionsbeyond that of general oversight comes about in four basicways, including (1) requests by municipal officials, (2) leg-islatively defined criteria that trigger state actions, (3) pro-viding the latitude to staff to initiate action, and (4) re-sponding to legislative decisions.

Requests by Municipal Officials. Requests by the elected

local government officials for assistance is a common mecha-nism triggering state intervention. As an intermediary stepbefore bankruptcy, allowing the elected officials to come tothe state allows them to take actions to control their finan-cial circumstances. Upon being approached by a local gov-ernment official and reviewing the finances of that unit, thestate and city must negotiate an intergovernmental agree-ment before the state can intervene in the affairs of the city.Michigan’s Local Government Fiscal Responsibility Act con-tains provisions for the state to intervene if requested by amunicipal official.

Legislatively Defined Triggers. A number of state legisla-tures have enacted laws that define criteria that must be metbefore any state intervention can be initiated by the state.Triggers are generally dependent on whether:

1. Debts are -- bonded debt, rentals,being repaid money owed other

governmental units2. Past and present -- employee payroll, taxes on

employees are employee income, pensionbeing paid obligations

3. There is a -- in the general fund,deficit in all accounts

4. There are -- deficits in consecutive years,recurring short-term borrowing infinancial consecutive years, borrowingproblems against future revenues

Figure 1 identifies indicators of fiscal distress that are com-monly used by selected states. The states represented eachhave a statutory system defining fiscal distress and suggest-ing when it is proper for the state to intervene in the localgovernment financial affairs. While many of these triggersmay be applied by the Local Government Commission,North Carolina does not have a statute defining local gov-ernment fiscal distress or suggesting when state interven-tion is necessary. These matters are left to the Local Gov-ernment Commission to decide based on past experiencewith each unit and their analyses of how the units are deal-ing with their financial problems.

Legislative Decision. Massachusetts and Connecticut bothhave financial control boards currently in place as a resultof special legislation that was a reaction to particular citiesfinancial troubles. The Massachusetts law places the Cityof Chelsea in receivership. Connecticut’s law involves theJewett City Borough. In both cases, a receiver is appointedby the governor. The receiver of Jewett has comprehensive

CRC REPORT


fiscal powers and authority to supervise all personnel andoperations. The receiver has power to establish rates fortaxes, fees, and charges if the governing body does not act

or the power to levy added taxes during the fiscal year ifnecessary to meet obligations. The receiver of Chelsea isvested with the powers of the city mayor.

FloridaMichigan New Jersey Ohio Penna

Default or failure to make payment of principal orinterest upon bonded obligations, notes, or rentals due

Failure to repay short-term loans within the same fiscalyear they are due

Failure to transfer taxes withheld on income ofemployees

Failure to transfer contributions required by a pension,retirement, or benefit plan

Failure to pay wages and salaries or other compensa-tion owed to employees or retirees

Spending in excess of revenues

X

X

X

X

Failure to transfer taxes collected for another govern-ment unit

X

X

X

X

X

X

X X X

X X

X

X

X XTotal accounts payable is in excess of 10% of the totalexpenditures of the local government in that fiscal year

For 3 yearsor more

Failure to eliminate an existing deficit in any fund X

Maintained a deficit 2 successiveyears

exceeding 4%of the total tax

levy for twoconsecutive

years

1% or more ineach of 3

previous fiscalyears

X

X

X

Projection of a deficit in the general fund for thecurrent fiscal year

Noncompliance of the local government retirementsystem with actuarial conditions stipulated by law

Decreased a quantified level of municipal services fromthe preceeding fiscal year due to tax limitations

Filed a debt readjustment plan under the federalbankruptcy code

In excess of10% of totalspending

Figure 1

Indicators of Fiscal Distress Commonly Used by Selected States



ii. Powers of Control BoardsMost states have powers similar to Michigan’s review teamsin the Act 72 process, which allow a control board to adviselocal government officials and set targets for the creation ofa recovery strategy. The control boards in some states havelimited authority to control finances, requiring state approvalto make spending decisions or the ability to set tax rates.Other states, such as North Carolina, have the power toassume full financial control over a local government’s fi-nances. Finally, some states, including Michigan, bypassthe control board approach and appoint a receiver to over-see local government finances.

Advisory. Michigan, like most other states, has providedfor the review teams to provide a predominantly advisoryrole. The Local Government Fiscal Responsibility Act pro-vides for an emergency financial manager with fairly exten-sive powers to control revenue and spending decisions.However, in three circumstances where a review team wasappointed to work with local governments in creating a re-covery strategy, the process never proceeded to the point ofhiring an emergency financial manager. Advice of the re-view teams ultimately led to consent agreements in whichlocal government officials agreed to make changes neces-sary to bring about financial reform.

The Pennsylvania Constitution prohibits the legislaturefrom enacting any law regulating the affairs of a municipal-ity, or delegating to any commission the power to intervenein municipal functions. The Financially Distressed Mu-nicipalities Act of 1987 provides a mechanism for the stateto work with local units of government, but the actions ofthe state are not binding on those municipalities. The mu-nicipality may decide to adopt or reject any plans offered bya Department of Community Affairs’ coordinator. If theplan is rejected, the municipality must prepare an alterna-tive plan acceptable to the Department, or risk having thestate withhold loans, grants, and entitlements. If the plan isadopted, the coordinator is responsible for implementation.

Recognizing the role of home rule, the Florida financialemergency statute does not attempt to remove responsibili-ties from the municipal government in a financial emer-gency. Instead, the statute attempts to put the state in aposition to insure that local governments take the appropri-ate steps to eliminate the financial emergency. Upon beingapproached by a local unit of government and reviewingthat unit’s finances, it is necessary for the state and city tonegotiate an intergovernmental agreement allowing the state

to intervene in the affairs of the city. Most recently, the roleof the control board working with Miami officials was toprovide oversight. However, their powers reached far enoughthat the City had to have board approval for any major pur-chases.27

New Jersey has had mixed experience with working withlocal units of government in financial distress. In the late1980s, a system was instituted to attempt to keep local unitsfrom getting into financial trouble. State auditors beganworking with local governments to identify spending prob-lems. Increased state aid was used as the incentive to workwith the state. This program ran for four years, at whichtime the state ended the auditing practice, but continuedstate aid.

That system was replaced by the Local Government BudgetReview program, which authorizes the state to work withlocal governmental units and monitor their financial healthin an effort to bring about property tax relief. This pro-gram had the same intent as the state audits under the pre-vious program, but the voluntary nature of the previousprogram limited its effectiveness. Under this new program,the state has more power to force changes as suggested bythe auditors.

Full Financial Control. If the advisory role of the state inNew Jersey fails, the state assumes full financial supervi-sion. Local finance boards are appointed by the governor,with advice and consent from the legislature. All spendingand revenue raising responsibilities fall under control of thelocal finance boards. This normally lasts for one year, al-though it could last longer as circumstances dictate.

The powers granted to the state under such circumstancesallow it to bring revenues in line with expenditures. Theydo not allow the state to make substantive changes in how acity operates. The state can set tax rates and adjust spend-ing levels. However, if structural problems can be identi-fied, it is ultimately up to the municipal officials to addressthose problems. Thus, there have been instances where thestate has had to assume financial control on multiple occa-sions during a number of years, because state assumption offinancial control only addressed problems in the short term.

North Carolina has the most extensive powers to monitorand intervene in the financial affairs of a local unit of gov-ernment of any state. The Local Government Commissionis empowered to perform adequate and frequent financialreviews, it has a broad set of control powers that allow it to

CRC REPORT


intercede in the financial affairs of local government, and ithas been allowed do what was needed to maintain the fi-nancial health of its local units of government. The LGChas the authority to remove any officer or employee, and toimpound the books and records and assume full control ofall its financial affairs if, in the opinion of the LGC, theunit is in jeopardy of default, financial policies and prac-tices of the unit are not improved, or a unit fails to complywith directives of the LGC.

In addition, the law requires the LGC to notify issuers daysin advance of all scheduled installments of interest and prin-cipal of that issuer’s public debt. If a local government failsor refuses to levy taxes sufficient to meet debt installments,the commission’s order to levy taxes have the same legal forceand effect as if the taxes had been levied by the offendinggoverning board.

While this law allows the state to intervene in the home rulepowers of local governments, local governments are givenevery opportunity to levy the necessary taxes on its own.Wall Street has a great deal of confidence that any bonds,debts, or obligations will be paid. North Carolina’s LocalGovernment Commission effectively serves as a “creditfirewall,” performing frequent financial, debt, economic,and management reviews of all local governments that, inmany ways mirror the reviews performed by the bond rat-ing agencies. North Carolina taxpayers benefit from thestrong oversight provided by the state as well. The confi-dence of being repaid translates to above-average ratings andlower interest rates, which result in lower taxes to financebond sales.

In addition, the law requires the LGC to notify issuers daysin advance of all scheduled installments of interest and prin-cipal of that issuer’s public debt. If a local government failsor refuses to levy taxes sufficient to meet debt installments,the commission’s order to levy taxes have the same legal forceand effect as if the taxes had been levied by the offendinggoverning board.

While this law allows the state to intervene in the home rulepowers of local governments, local governments are givenevery opportunity to levy the necessary taxes on its own.Wall Street has a great deal of confidence that any bonds,debts, or obligations will be paid. The Local GovernmentCommission effectively serves as a “credit firewall,” perform-ing frequent financial, debt, economic, and managementreviews of all local governments that, in many ways mirror

the reviews performed by the bond rating agencies. NorthCarolina taxpayers benefit from the strong oversight pro-vided by the state as well. The confidence of being repaidtranslates to above-average ratings and lower interest rates,which result in lower taxes to finance bond sales.

State Receivership. While Michigan has experience with acourt appointed receiver for the City of Ecorse, it is notclear under what authority the judge was acting in appoint-ing a receiver. The Local Government Fiscal ResponsibilityAct of 1989 was a reaction to the actions of the judge andcreated a process to prevent the appointment of receivers inthe future.

Connecticut, Maine, Massachusetts, and Nevada haveadopted fiscal distress legislation that places a local govern-ment in receivership. The powers of the receivers in Con-necticut and Massachusetts are granted under special legis-lation responding to the inability of two units of govern-ment to address their fiscal problems.

In Nevada, the law does not provide for a board of controlor any other similar distress agent. If the State Tax Com-mission determines that a municipality is in severe fiscaldistress, it must order the State Tax Department to “…takeover the management of the local government….”

Increasing Powers Over Time. The several Michigan lawsrelevant to financial oversight provide the Department ofTreasury with authority to conduct oversight at varying lev-els, ranging from requiring audits and charts of accounts towithholding state revenue sharing if a unit is delinquent inrepaying loans. Michigan’s Local Government Fiscal Re-sponsibility Act provides a wide level of discretion for a re-view team in its oversight of local government finances. Areview team may choose to negotiate a consent agreement,allowing the unit to solve its own problems to the extentthat it can, or it may recommend the appointment of aemergency financial manager, if it judges that the unit willnot be able or willing to make the changes necessary to dealwith the fiscal crisis.

Ohio has two different levels of state intervention: fiscalwatch and fiscal emergency. If a unit is placed in fiscal watch,state advice is offered, but the unit is allowed to develop arecovery strategy without oversight from the Financial Plan-ning and Supervision Commission. The Auditor of Statemay provide technical and support services, the cost forwhich is borne by the state.



The state assumes extensive powers over local units of gov-ernment in Ohio that digress from fiscal watch into fiscalemergency. Such an occurrence causes a Financial Plan-ning and Supervision Commission to be created. This com-mission must approve a financial recovery plan containingactions to eliminate the fiscal emergency conditions, bal-ance the budget, avoid future deficits, and market long-termobligations. The plan must be submitted to the commis-sion within 120 days of its first meeting, at which time, thecommission can either accept or reject the plan, listing rea-sons if rejected. The commission is also responsible for re-taining a financial supervisor, which can be either a CPAfirm with fiscal emergency experience or the Auditor of State.The commission, or the supervisor when authorized by thecommission, has the authority to

• Review all revenue and expenditure estimates to de-termine whether they result in a balanced budget;

• Require the government by ordinance or resolu-tion to establish monthly levels of expenditures andencumbrances consistent with the financial plan;to approve and monitor these levels;

• Approve the amount and purpose of any debt issues;

• Make and enter into all contracts and agreementsnecessary to performance of its duties, and

• Make recommendations for cost reductions or rev-enue increases to carry out the financial plan.

iii. ClosureA recurring issue for each of the review teams that havebeen assembled to work with local governments throughthe Local Government Fiscal Responsibility Act has beenwhen to end the active level of oversight provided under theact. In each instance, a consent agreement was negotiatedwith the local government officials for changes to addressthe financial problems. The River Rouge consent agree-ment was violated and the review team recommended theappointment of an emergency financial manager for thatcity. This occurrence raised the issue of how long activestate oversight should continue under the act. Accordingly,when a review team was convened to work with the City ofHighland Park, the duration of the review team was leftopen ended. It was agreed that the review team would not

be eliminated until all of the following had occurred:a. The City’s financial statements reported that, on

the basis of generally accepted accounting prin-ciples, no fund was in a deficit condition.

b. The City had received a qualified or unqualifiedopinion from independent certified public accoun-tants for that fiscal year.

c. The City had cured the internal control deficien-cies as detailed in the independent certified publicaccountants management letter of June 30, 1995,and any subsequent management letters.

d. No action had been taken or condition was in placethat would initiate or allow the initiation of a pre-liminary review under Section 12(l) of Act 72, Pub-lic Acts of 1990.

The consent agreement with Highland Park remained ineffect until the end of the 1999 fiscal year.

As an ongoing effort to oversee local government finances,North Carolina’s Local Government Commission neverstops. Oversight efforts can remain just as strong severalyears after a fiscal crisis as they were immediately after thecrisis.

Likewise, Ohio illustrates how multiple levels of oversightcan provide strong oversight long after the occurrence of afiscal crisis. Ohio statutes provide a clear point at whichlocal units of government change back to fiscal watch froma fiscal emergency. The Financial Planning and Supervi-sion Commission is dissolved when

• An effective financial accounting and reporting systemis being implemented, with expected completion withintwo years;

• All fiscal emergency conditions have been or are in theprocess of being eliminated, and no new emergencyconditions have occurred;

• The financial recovery plan objectives are being met;

The entity has a five-year financial forecast that the Auditorof State determines “nonadverse.”

CRC REPORT


VI. Recommendations

While this spirit of distrust has permeated nearly every as-pect of state/local relations, it is never worse than when aunit of local government gets into fiscal distress and an Act72 review team is assembled to address that unit’s finances.Rather than working together to make the budget solvent,local government officials have tended to adopt an “us ver-sus them” mentality that is more confrontational than col-legial. This animosity during Act 72 processes has beenmade further confrontational by racial accusations, sincemany of the local units that have gotten into fiscal distresshave had a large minority population. This confrontationalrelationship, which make it difficult to get anything con-structive accomplished, needs to change.

The following recommendations attempt to address someof these issues by creating a system of oversight and by es-tablishing an educational system for local government offi-cials and employees. The main goal is to promote a colle-gial working relationship between the state and local gov-ernment officials. The primary means of accomplishingthat goal is to achieve a greater level of familiarity. Morefrequent contact by state officials will go far toward accom-plishing this goal. It is accomplished by making the state aresource to which local officials can turn to for answers toquestions, rather than only hearing from these officials whenthere are problems and state officials are pointing accusa-tory fingers.

Another goal of these recommendations is to position thestate so that it can address fiscal problems before they reachcrisis proportions. By increasing staff and giving them thetools to regularly assess local government finances, the statecan share best practices of the fiscally healthy units, identifypotential problems early enough to make meaningfulchanges, and attempt to prevent local government financesfrom deteriorating to the point of fiscal distress. Further, ifa unit’s finances do deteriorate into a distressed condition,having this working relationship and regular monitoringshould allow shortening of the Act 72 process to more im-mediately address the problems resulting in fiscal distress.If Michigan has experiences similar to other states, the neteffect of such efforts should be a saving to taxpayers.

A. Emulate the North Carolina Local GovernmentCommission.Bond rating agencies and others agree that North Carolinais one of the leading states in state supervision of local gov-

It seems clear from the range of options available that hav-ing a state response to fit the circumstances is the intent

of current Michigan policy, either intentionally or uninten-tionally. Erosion of the tax base has been a leading cause offiscal distress among the Michigan local units. Accordingly,the state has used tools such as the Municipal Finance Act,the Emergency Municipal Loan Act, and the Local Govern-ment Fiscal Responsibility Act. Similarly, the state hasseemed to recognize structural problems. The fiscal distressexperienced by Wayne County in the early 1980s led statepolicymakers to amend the Home Rule Counties Act tomake home rule a more viable option for Wayne County.Most of these policies are structured so that local govern-ment officials can work their way out of their own prob-lems, with sanctions available to state officials should thelocal officials fail to carry out the actions to which theycommit themselves. In a worse case scenario, constitutionalprovisions are available for removal of government officersin cases of misconduct. This should not change.

It also seems clear that implementation of the current arrayof state oversight tools is of questionable effectiveness for anumber of reasons. Staffing of the Local Audit and FinanceDivision of the Michigan Department of Treasury Bureauof Local Government has been cut to such levels as to ren-der the three staff members remaining incapable of perform-ing meaningful financial reviews. With a bare bones opera-tion, the Division is left in a response mode. The Divisionoften is left to learn about local government financial prob-lems in individual local units from the media or concernedcitizens.

Also clear is the view that the implementation of currentlaws does nothing to alleviate the animosity between stateand local government officials that is so prevalent in Michi-gan. A spirit of distrust of the other level of governmenthas been allowed to ferment to the point that it permeatesnearly every aspect of state/local government relations inMichigan. Local government officials fear state governmentofficials are not fully providing the obliged level of funding,they are imposing unfunded mandates on local governments,and they are intervening into affairs that should properly bedecided by local government decision makers. State gov-ernment officials’ distrust of local government officials tendsto stem from accusations of wasteful spending of the re-sources provided by the state and a perceived lesser level ofsophistication in dealing with governmental matters.



Figure 2

Changes in State/Local Relations in North Carolina and Michigan by Issue

Issue North Carolina28 Michigan

Property Tax Legislative actions reduced property tax revenuesby 43 percent from 1931 to 1934.

A 1932 constitutional amendment createdproperty tax limitation. Property tax revenuesreduced 41 percent from 1931 to 1934.

Sales Tax A 3% sales tax was enacted to pay for the state’sincreased responsibilities.

A 3% sales tax was enacted as part of a packageto pay for the state’s increased responsibilities.

Public Schools The state assumed responsibility for school oper-ating expenses throughout the state, with localgovernments retaining authority for building andmaintaining school buildings. In 1996-97, thestate was responsible for 67 percent of total schooloperating revenues.28

State dedication of sales tax through a 1946 con-stitutional amendment formalized what had beenvoluntary state grants to schools. Proposal A of1994 changed funding so that the state currentlycollects 68 percent of school operating revenues.29

Highway Funding All local taxes for roads repealed as a result ofDepression, with State Highway Commissionassuming the responsibility for highways outsidemunicipal boundaries.

The McNitt Act of 1931 ended townships’ rolein maintaining roads by merging township roadsinto county road systems. State assistance wentfrom 12 percent of total highway expenditures in1930 to 97 percent in 1939. The Horton Act of1931 was a precursor to Public Act 51 of 1951for distribution of state highway-user taxes to lo-cal governments for highway care.

State Supervision of LocalGovernment Finances

Local Government Commission created to reviewall proposed bond and note issues by local gov-ernments and supervise local accounting and fis-cal practices.

Supervision has been limited to oversight of prop-erty tax, Municipal Finance Act, and efforts toprovide a uniform budgeting and accountingframework.

ernment finances. By performing frequent and thoroughreviews of each unit’s finances, the financial oversight per-formed by the Local Government Commission has beensuccessful at keeping units from getting into fiscal distress.Furthermore, the activities of the Local Government Com-mission help to keep local government tax rates low and savetaxpayers money. Ratings on North Carolina local govern-ment bonds are upgraded primarily because of the confidencebond raters have in the Local Government Commission.

Programs that work well in one state sometimes cannot eas-ily be transferred to another state. That does not appear tobe the case with Michigan relative to North Carolina’s Lo-cal Government Commission. Many similarities exist be-tween North Carolina and Michigan in the allocation andfinancing of government functions. Most of these are a

result of how these two states reacted to the circumstancesof the Great Depression. In each state, local governmentswere especially hard hit by erosion of their economic bases– more local governments defaulted in North Carolina thanin any other state during the early 1930s.30 Figure 2 illus-trates some of the similarities in the allocation of responsi-bility and financing between the two states.

The primary difference between these two states in the as-signment of responsibility for delivery and funding of gov-ernment services is that North Carolina transferred directlyto state control several functions, whereas Michigan left themas a local responsibility but provided state revenues to fundtheir delivery. In Michigan, nearly 70 percent of all state-raised revenues are paid to other governmental units thatultimately deliver services. State tax dollars go to local gov-

CRC REPORT


ernments for school aid, unrestricted state revenue sharing,transportation, community colleges, and the courts. Sev-eral local units of government in Michigan receive morefrom state aid then they do from their own local tax sources.It can be argued that such an arrangement increases the jus-tification for a strong state oversight above what it shouldbe if the state were overseeing only local expenditure of lo-cal tax revenues. It is incumbent upon the state to ensurean economic and efficient use of state aid, not only in howthe dollars are distributed to the local units through statu-tory formulas, but also in the actual expenditure of dollarsby the local units.

Increased state supervision of local government financesmight be viewed as an infringement on local home rule, butthe alternative of state intervention in the affairs of a finan-cially failing local unit almost certainly has greater negativelong term consequences for the concept of home rule inMichigan. With several Michigan laws already on the booksproviding the state power to oversee local government fi-nances, increased state supervision is likely to be incremen-tal. Moreover, fewer than one-third of the 1,800 generalpurpose local units of government even have home rulepowers in Michigan. Besides the Charter County of Wayne,cities and villages are the only units with home rule author-ity. The other 82 counties, all 1,241 townships, and allschool districts, community college districts, and special au-thorities or districts operate under state laws that determinetheir governmental structure, function, and revenue raisingauthority.

North Carolina municipalities are afforded only slightly lesshome rule power than that enjoyed by Michigan munici-palities, yet the state government in North Carolina pro-vides one of the strongest levels of financial supervision.Almost 20 years ago, the U.S. Advisory Commission onIntergovernmental Relations (ACIR) studied the degree oflocal discretion state constitutions and state laws afford lo-cal governments.31 Michigan cities ranked as the third high-est degree of local discretion; North Carolina cities rankedfifth. North Carolina counties ranked third among all ofthe states in their degree of local discretion. While Michi-gan ranked fairly low (28th), state law affords Michigan coun-ties local discretion through the Charter County Act thatremains largely unused. Local governments in North Caro-lina have relatively great discretion in governmental struc-ture, function, and personnel, but have somewhat less free-dom in financial matters.

Many of the state/local government relations issues are com-

mon to both North Carolina and Michigan. In a recentNorth Carolina legislative session, a bill was introduced torestrict cities’ and counties’ authority to regulate billboards,guns, and land use. That legislation stalled in the Senate.Legislation was passed that dictated requirements for localschool systems. Many of these same issues have been thecause of some recent controversy in Michigan, as recent leg-islation perceived as intervening in the affairs of local gov-ernment has led local government officials to propose a con-stitutional amendment that would attempt to protect againstsuch infringements on home rule powers.

B. Assign Monitoring Responsibility to the Bureau of LocalGovernment.Responsibility for monitoring the finances of local govern-ment should rest with the Local Audit and Finance Divi-sion within the Bureau of Local Government in the Michi-gan Department of Treasury. Strengthening the role of theBureau will involve many of the same tasks that are cur-rently performed, but at a level that more proactively inves-tigates signs of fiscal distress. The Bureau should have im-mediate information on local government finances, tax rates,debt, and pension status. Other units that directly relate tolocal government finance, such as the Local GovernmentClaims Review Board, the State Tax Commission, and theOffice of Revenue and Tax Analysis staff responsible foradministering state revenue sharing, all should maintain astrong working relationship with that division. The Bu-reau also should participate in additional tasks associatedwith investigating and monitoring local government fi-nances. The ensuing recommendations identify those tasks.

C. Create an advisory body to monitor the actions ofthe Bureau of Local Government.Increasing the oversight role of the Bureau will mean the exer-cise of greater discretion in dealing with local governments. Asan administrative body without policymaking authority, it isimportant the Bureau have sufficient discretion to carryoutthe tasks assigned to it. An advisory body to monitor the ac-tions of the Bureau of Local Government would ensure that itkeeps to its charge, and is evenhanded in its dealings with localgovernment, helping to increase the confidence of local unitsin its actions. Not only would having an advisory body pro-vide the authority to carry out its responsibilities, but it couldprovide some insight into the oversight activities of the Bureauand the operating actions of the local units. An advisory boardfor the Bureau of Local Government oversight body could becomposed of:

• The state treasurer;



• The director of the Department of Managementand Budget;

• The legislative auditor general;

• One appointee of the majority leader of the senate;

• One appointee of the speaker of the house;

• Five appointees of the governor, to represent (1)cities and villages, (2) townships, (3) counties, (4)school districts, (5) special authorities and districts.

In North Carolina, oversight of the Local GovernmentCommission is carried out by a board composed of the sec-retary of treasury, the secretary of state, the secretary of rev-enue, the state auditor, three appointees of the governor, anappointee of the president pro tem of the senate, and anappointee of the speaker of the house.

D. Develop an educational program for local govern-ment officials and employees at a major Michiganuniversity.It is not enough to tell local government officials and em-ployees what is expected of them, education must be madeavailable so as to leave no ambiguity in how to performfinancial tasks. This should be accomplished by developinga full-time educational program, with a wide range of ex-pertise in all matters of local government.

The North Carolina Local Government Commission doesnot operate in a vacuum. The Institute of Government(http://ioginfo.iog.unc.edu/) was established at the Univer-sity of North Carolina at Chapel Hill in 1931 to provideexpert opinion on difficult issues and to help local and stateofficials to hone the skills needed to conduct public busi-ness. The Institute of Government is a university-basedlocal government training, consulting, and research organi-zation. Moody’s has commended the Institute’s “rigorousand highly respected certification programs,” calling it “auniversity for public officials.” Similar institutes in Geor-gia and New York have modeled themselves after the Uni-versity of North Carolina program, which attracts continu-ing national and international interest.

Institute faculty teach primarily in two settings: (1) theMaster of Public Administration program, and (2) continu-ing education programs for North Carolina’s public offi-cials. For public officials, the Institute’s annual offering ofmore than 200 classes, seminars, schools, and specializedconferences cover topics such as:

• Legal requirements and obligations of public-of-

fice holders;

• State-of-the-art management techniques for depart-ments and agencies;

• Ensuring fiscal soundness and preparing useful fi-nancial reports;

• Effective land-use planning tools and techniques;

• Review of current law in specialized fields rangingfrom conservation and environment to taxation,annexation, and gun control;

• Making informed policy decisions.

In a given year, the Institute will host city and county man-agers, county commissioners, city mayors, registers of deeds,public defenders, state judges, social services employees, cityand county attorneys, planners, recreation directors andbudget officers, among many other types of officials andcommunity leaders.

Any of several Michigan public universities could create anacademic program, or alter an existing program, to educatelocal government officials. Unlike North Carolina, wherelocal government programs have been concentrated at theUniversity of North Carolina - Chapel Hill campus, Michi-gan local government programs have taken root at a num-ber of public universities. Michigan State University hasthe Department of Agricultural Economics, Wayne StateUniversity has the Center for Urban Studies, Eastern Michi-gan University has the Institute for Community and Re-gional Development, and the University of Michigan hasthe Gerald R. Ford School of Public Policy, which used tobe The Institute for Public Policy Studies. While each ofthese programs has made a name for itself in different areasof specialty, none have developed the wide variety of offer-ing as has the University of North Carolina’s Institute ofGovernment.

E. Provide oversight of local government finances.State oversight efforts should extend to the economic andmanagement policies, fiscal management practices, and debtmanagement practices of local units, making the state awareof such indicators of fiscal distress as: tax rates, debt levels,and pension obligations. The state should work with localunits continuously to create familiarity with local govern-ment practices, and to create a comfort level for local offi-cials in contacting the state for assistance.

Monitor economic and management policies. In part,doing more to monitor the economic and management prac-

CRC REPORT


tices of local governments simply means doing a better jobof enforcing the laws that are already on the books: theUniform Budgeting and Accounting Act and the UniformSystem of Accounting Act. Beyond enforcing those laws,the Bureau should ensure that local units are

• Using accounting practices that conform with gen-erally accepted accounting principles;

• Submitting balanced budgets annually;

• Levying taxes sufficient for debt and budgetary re-quirements; and

• Investing governmental operating and capital fundsprudently.

Working more closely with local government finance offi-cials will make Local Audit and Finance Division staff moreaware of budget devices that might mask fiscal distress. Stateoversight efforts should investigate the use of unrealisticeconomic assumptions for the projection of future revenues;the use of one-time revenues for budget balancing purposes;the use of inter-fund transfers; and inadequately fundedpension obligations. Other management practices that haveled to fiscal problems, such as the use of short-term bor-rowing to fund current operations, should raise red flagsleading to further investigation. Oversight efforts shouldallow the Bureau to work with the State Tax Commissionto identify authorized tax rates for each type of unit of gov-ernment, and be prepared to identify tax levies that do nothave statutory or constitutional authority. As is the case inNorth Carolina, the Bureau should also be authorized toset auditing standards, perhaps going so far as accreditationof municipal auditors.

The Local Government Commission in North Carolina isa party to all auditing contracts. While local units are freeto contract with a firm of their own choosing, by makingthe state a contractual party, it is clear that the auditor isanswerable to the state as well as the local government offi-cials responsible for the contract. The Local GovernmentCommission reviews auditors’ management letters dealingwith internal controls and potential weaknesses in financialmanagement systems. Upon their review, the Commissioncorresponds with the unit to advise of a “clean” review oroutlining improvements to operations recommended by theLocal Government Commission or the auditors in theirmanagement letters, or both.

Monitor fiscal management practices. The strength ofNorth Carolina’s oversight efforts stem from the significant

powers of the Local Government Commission. However,the absence of North Carolina local governmental units infiscal distress relates directly to the frequent and thoroughreviews of each local unit of government’s finances performedby the Local Government Commission. Local governmentsare required to submit statements of finances semi-annuallyand audited financial statements annually. The Local Gov-ernment Commission analyzes these statements for severalkey factors associated with fiscal distress:

• General Fund deficit/surplus position

• Revenue and expenditure trends

• Performance compared to budget projections

• Inter-fund transfers

• Fund balance as a percentage of spending

• Balance sheet liquidity

• Tax collection rates

• Enterprise fund operations and ratios

• Enterprise fund cash flow and operating activities.

The factors of analysis used in North Carolina could beadopted for use in Michigan, or different measures couldbe developed (See Appendix 1 – Potential Ratios for FiscalBenchmarking).

The process to trigger the Local Government Fiscal Respon-sibility Act could be shortened to acknowledge that the stateis providing active fiscal oversight. That act currently re-quires that one of the triggers initiate the process, that thegovernor’s office find evidence of fiscal distress, and thenthat a review team report back to the governor the existenceof fiscal distress. If the state were providing active over-sight, that process could be shortened so that a single find-ing of fiscal distress would trigger creation of a review teamor the appointment of an emergency financial manager. InNorth Carolina, the state can assume control of a local gov-ernment if a unit is in jeopardy of default, if financial poli-cies and practices are not improved, or if a unit fails to com-ply with directives of the Local Government Commission.

Monitor debt management practices. Public Act 202 of 1943,the Municipal Finance Act, requires the state to review theapplications for the issuance of bonds and notes by all localunits of government. The Municipal Finance Section in theLocal Audit and Finance Division currently requires a cursoryreview of applications for the issuance of bonds and notes formost units. This review generally checks to see that the formsare filled out properly, makes sure no accounts are in a defi-



cit position, and checks that the issuance of debt would notexceed the unit’s debt limitation. Units with questionablecredit are required to file longer applications that are givenmore scrutiny. With limited resources available, this dichoto-mous approach should be continued, with some modification.

The applications should be modified to request summaryfinancial and debt information, projected tax rates requiredto fund the debt, and forecast enterprise operations if thedebts are to be paid from enterprise earnings. Just as theLocal Government Commission reviews debt applicationsof all units of government in North Carolina, the Munici-pal Finance Section should consider

• Is the bond issue necessary?

• Is the proposed amount adequate?

• Are the applicants’ debt management policies andprocedures acceptable?

• Will any tax rate increases needed to repay any debtbe excessive?

• Can the proposed bonds be marketed at reason-able interest rates?

The review should also consider how a proposed indebted-ness would interact with the indebtedness of overlappingunits of government, by asking if the tax base relied upon tofund repayment of debt incurred by overlapping units canbear the combined burden.

F. The state should create a system of fiscalbenchmarking.By creating ratios of government finance and organizinggovernmental units into groups with other governmentalunits of comparable size and purpose, the state can monitoreach unit’s fiscal health unobtrusively. Ratios allow the stateto oversee nearly two thousand governmental units in anefficient manner. Because the measures can be plotted in agrid, the finances of units that are unusually high or low areeasily identified. By making the database available to localgovernment officials, those officials can use the results toidentify their own problems, strengths, or weaknesses andmake changes accordingly.

Development of a database should follow the example ofWashington and Montana. By consulting with local gov-ernment officials in developing the database, measures thatare of use to local government officials were included thatwould not have been included if the state were developing

the database unilaterally. By reaching out in this manner,the state was able to turn development into a bottom-upprocess, resulting in the development of databases that areof use to both the state and to local government officials.

Because there are inherent problems with any system of us-ing ratios to identify fiscal problems, actions of the state oranother unit of government should not be triggered by thebenchmarks. Rather, fiscal benchmarking should be a toolto assist the state in oversight of such a large number ofunits.

G. Adopt a “triage” strategy for keeping the number ofunits manageable.Creation of three groups would allow staff to concentratetheir efforts on the oversight on the governmental units thathave become dangerously close to fiscal distress. The firstgroup of property rich well run units needs little oversight.The second group are those units that have no history offinancial problems. They will receive minimal oversight.The third group consists of units that have experiencedtrouble from time to time. They will receive the lion’s shareof the attention.

H. The state should look for “big picture” opportuni-ties to create tax savings.Beyond oversight of the financial affairs of each individuallocal unit of government, the Bureau of Local Governmentshould be able to identify opportunities for efficienciesamong governmental units. In some cases, savings mightresult from the identification of two or more units that areproviding identical services. The Bureau might be well suitedto bringing those units together to pursue intergovernmen-tal cooperation in the provision of those services. It alsomight be able to identify instances where consolidation oflocal units of government would make sense. A more in-tensive role in state oversight might allow the Bureau toidentify units that will have difficulty surviving with theresources available to them. Consolidation with a neigh-boring unit would broaden the resources available and cre-ate economies that result in savings. The Bureau and a uni-versity center will be in a position to study what laws workand to make suggestions to the legislature on ways in whichthose laws might be improved. As a collector and user offinancial data on all local units of government, the Bureauof Local Government will be put in a strong position tostudy the overall environment local governments operatewithin and suggest changes to improve that environment.

CRC REPORT


VII. Conclusion

Local government fiscal distress can result from severalorigins, including:

• Erosion of the economic base leaving the local unitwith insufficient resources to fund the needed ordesired level of government services;

• The territory remaining after incorporation hav-ing insufficient economic base ;

• Management restrictions that hamper sound bud-geting policies or require a level of services that can-not be met from current revenue sources;

• Unforeseen events such as a natural disaster or alawsuit that adversely affect the tax base or create anecessary unbudgeted expenditure; or,

• Mismanagement in the form of corruption, em-bezzlement, or any other form of malfeasance.

Opportunities present themselves for cities to transfer indi-vidual functions to other levels of government, but becausegovernments are defined geographically, no alternative gov-ernments are available to which businesses or residents canturn when a unit fiscally distressed. A fiscally distressedunit must be returned to fiscal health or become part ofanother fiscally healthy unit that can assume delivery of thosegovernment services.

For that and other reasons, the state has a strong interest inmaintaining the fiscal health of its local governments. Thestate must assure a minimal level of local government ser-vices to protect the health and safety of its residents. Be-cause enforcing contractual obligations is on the short listof functions that government must perform, it would beironic if the state would allow one of its local units to de-fault on an obligation. Beyond those reasons that affectprivate entities in their interaction with government, thestate must also maintain local government fiscal health tokeep its own house in order. The state must act to preventcollateral damage to its credit rating. It must protect thefinancial health of the local units that overlap the geographicarea of the distressed unit. As some 70 percent of Michiganstate tax collections are passed on to another unit of govern-ment to fund service delivery, the state must act to assureefficient use of its resources. Finally, in the case of cities andvillages, the state must assure the success of local home rule.

The state must then decide how its interest in maintainingthe fiscal health of its local governments should be expressedin public policy. While a range of options are considered, itis recommended that the most efficient, effective, and equi-table approach to state oversight of local government financesis to take a more proactive involvement in the regular finan-cial operations of the local units.

The state should study and emulate the example the state ofNorth Carolina has set in its oversight of local governmentfinances. While developing a level of local home rule on apar with Michigan, North Carolina has developed one ofthe strongest, most effective local government financial over-sight systems in the nation. Like North Carolina, Michigan’slocal government financial oversight should include themanagement and budgetary policies, the financial manage-ment practices, and the debt management practices of thelocal units. Also like North Carolina, Michigan should es-tablish a school for local government officials to learn anddraw from at one of its three major universities. A proac-tive involvement in local government financial oversightcould allow the state to identify problems before they reachcrisis proportions and create tax savings by avoiding expen-ditures to repair a unit to financial health, by allowing unitsto benchmark their finances against comparable units, andby sharing innovative ideas with other local units.

The state has developed a number of laws over the yearsthat allow the state Department of Treasury to respond tofiscal distress with a policy appropriate for the cause of thedistress. By more proactively monitoring local governmentfinances, the state could be better able to determine the causesof distress. By working with the local units over time, thestate should be able to develop indicators of future distressthat allow it to take actions to avert a financial crisis.

Most of the laws are already in place to allow the state to bemore proactively involved in oversight of local governmentfinances. It will merely require that the state make a stron-ger commitment to use the powers it has. By adopting acooperative approach to monitoring local financial condi-tions, fiscal crises could be avoided with minimal loss ofhome rule.



End Notes

1 “Analysis of Chapter IX of the Federal Bankruptcy Code and Related State Laws,” Office of Community Development, April, 1982.2 David L. Dubrow, “Chapter 9 of the Bankruptcy Code: A Viable Option for Municipalities in Fiscal Crisis?” The Urban Lawyer, Summer 1992,

Vol. 24, No. 3, pp. 539-588.3 Dubrow, p. 546.4 Dubrow, p. 546.5 “Analysis of Chapter IX of the Federal Bankruptcy Code and Related State Laws,” Office of Community Development, April, 1982.6 S.A. MacManus, “State Government: The Overseer of Municipal Finance,” in The Municipal Money Chase: The Politics of Local Government

Finance, ed. A.M. Sbragia, (Boulder, Colorado, Westview Press, 1983).7 Dr. Lynn Harvey, New City of West Iron Derailed November 3, 1998, Department of Agricultural Economics, Michigan State University.

Presentation to Michigan Municipal League’s “Focus Group on Charter Government”, November 19, 1998, Ann Arbor, Michigan.8

Committee for Economic Development, Improving Productivity in State and Local Government: A Statement on National Policy, (New York,Committee for Economic Development, 1976).

9 Public Act 116 of 1954, as amended.10 Public Act 2 of 1968, as amended.11 Public Act 71 of 1919, as amended.12 Public Act 140 of 1971, as amended.13 Public Act 202 of 1943, as amended.14 Public Act 243 of 1980, as amended15 Public Act 80 of 1981.16 Public Act 428 of 1984, as amended.17 Public Act 345 of 1937, as amended.18 Public Act 72 of 1990 incorporated the provisions of Public Act 101 of 1988 and extended them, with some modifications, to school districts.19 International City/County Management Association, Evaluating Financial Condition: A Handbook for Local Government, 1994.

20 Irene S. Rubin, Class, Tax, and Power: Municipal Budgeting in the United States, (Chatham, N.J., Chatham House Publishers, Inc., 1998).21 J.E. Petersen, L.A. Cole, and M.L. Petrillo, Watching and Counting: A Survey of State Assistance to and Supervision of Local Debt and Financial

Administration, National Council of State Legislatures and Municipal Finance Officers Association, 1977.22 J.A. Fairlie, “State Supervision of Local Finance,” in Proceedings of the American Political Science Association, Chicago, 1904, as cited in

Rubin, Class, Tax, and Power: Municipal Budgeting in the United States, pp. 184 and 207.23 North Carolina Department of Treasury, Local Government Commission website and State of North Carolina Local Government Commission:

Credit Enhancement Program Review, Fitch ICBA, March 29, 1999 (available on the Fitch ICBA website).24 North Carolina Department of Treasury, Local Government Commission website and State of North Carolina Local Government Commission:

Credit Enhancement Program Review, Fitch ICBA, March 29, 1999 (available on the Fitch ICBA website).25 Interview with Robert High, North Carolina Department of Treasury, Local Government Commission.26 Rubin, pp. 221-223.27 Khi V. Thai, “Local Government Financial Emergency: The Case of Miami, Florida,” Government Finance Review, June 1997, pp. 23-25.28 Art Eisenstadt, “Who’s in Charge? How the Federal, State, and Local Governments Allocate Responsibilities,” North Carolina Insight,

published by the North Carolina Center for Public Policy Research, Vol. 16, No. 3, May 1996, p. 28. 29 National Education Association, Estimates of School Spending, 1997, (http://www.nea.org/publiced/edstats/estim97.pdf ). 30 Eisenstadt, pp. 28-30. 31 U.S. Advisory Commission on Intergovernmental Relations, Measuring Local Discretionary Authority, M-131, (Washington D.C.; November

1981). 32 See International City/County Management Association, Evaluating Financial Condition: A Handbook for Local Government (ICMA, Washing-

ton, D.C., 1994) for greater detail on most of these suggested ratios. The structure is useful for organizing the different ratios and indicatorsinto grouping of similar characteristics. Other ratios and indicators have been added beyond that recommended by ICMA.

CRC REPORT


Appendix 1 - Potential Ratios for Fiscal Benchmarking32

The ratios and indicators that can be used to analyze the financialcondition of local units of government can be grouped into threebroad categoriesA. Environmental Factors – external influences that can (1) cre-ate demands (i.e., population increases); (2) provide resources (i.e.,the ability of local units of government to adapt to changing work-ing conditions);B. Organizational Factors – reflects the accurate, timely release offinancial information that is required of local units;C. Financial Factors – measures of revenues, expenditures, debt,liabilities, and capital stock. These are the result of environmentaland organizational influences, and it is here that untreated prob-lems ultimately make themselves felt.

While it is not desirable to use all of the measures discussed, awide range of measures is offered to illustrate the options.

A. Environmental Factors

These factors reflect the ability of governmental units to collectrevenues, the demands placed on those units for governmentalservices, and the freedom of their locally elected officials to re-spond to changing circumstances.

Community Needs and ResourcesLocal government finances are affected as much by what happensoutside their control as by the policy decisions that fall withintheir control. The people that live within their jurisdiction, changesto the tax base, and the economic conditions all stand to affectlocal government finances, but local governments have little ifany control over these items. (Government programs and policiesattempting to address many of these issues tend to have limitedsuccess.)

• Population change – rapid decreases in population can indicate aproblem that is causing people to leave. Rapid increases canindicate a potential unmet service demand. Most likely to affectintergovernmental revenue distributed on a per capita basis.

• Age distribution – An aging population and an increase in thenumber of senior citizens can hurt both the revenue and ex-penditure profiles of a local government. Conversely, a growthin the number of young families and school age children couldcreate demands for other types of government services.

• Personal income per capita – one measure of a community’sability to pay taxes: the higher the per capita income, themore tax a community can generate. Higher income alsoindicates a lower dependency on government services such astransportation, health, recreation, and welfare.

• Change in personal income relative to the state average – de-

clining personal income can reflect disinvestment.

• Number of poverty households – an increase in the proportionof poverty households or public assistance recipients can sig-nal a future increase in the level and unit cost of some ser-vices, because low-income households have relatively higherneeds and a relative lack of personal wealth.

• Percent of housing built before a given date – an aging housingstock can reflect a lack of investment in a community andpoint to larger problems.

• Property value per capita – property values are significant inabsolute terms and relative to past values. Like income percapita, property value per capita reflects a community’s abil-ity to generate tax revenues.

• Property value change – the effect of declining property valueon governmental revenues depends on the government’s reli-ance on property taxes. A decline in property value will mostprobably not be a cause but a symptom of other, underlyingproblems.

• Tax collection by overlapping local governments – while the taxrate of a single unit might be relatively low, the overall taxburden imposed on residents will affect the ability of a unitto respond to increasing needs with increased tax rates.

• Residential development as a percent of total development – thenet cost of serving residential development is generally higherthan the net cost of serving commercial or industrial devel-opment, because residential development usually creates moreexpenditure demands than revenue receipts.

• Unemployment rate/Number of jobs in the community – directlyrelated to changes in personal income and act as an influenceon the community’s ability to support its business sector.

Intergovernmental ConstraintsStates play a major role in how local governments operate finan-cially. Tax limitations, operating restrictions, expenditure man-dates, and debt limitations all affect the flexibility local officialshave to respond to changing financial circumstances.

• Percent of expenditures due to mandates – expenditures requiredby a higher level of government limit the freedom local offi-cials have to adjust spending in response to economic changes.

• Tax restrictions – how close is the governmental unit to itscharter or statutory tax rate limitation?

• Incorporation laws – does state law or municipal charter limitrevenue options, require certain expenditures, or otherwiseconfine the freedom of local officials have to adjust spendingin response to economic changes?



B. Organizational Factors

These factors reflect the accurate, timely release of financial infor-mation that is required of local units.

Management Practices/Legislative PoliciesWhile states cannot manage local government finances for thelocal units, they can require certain procedures be followed andcertain systems be incorporated in reporting financial data. Thequality of financial reporting reflects the professionalism of thestaff preparing the statements and the confidence that the condi-tions reported are accurate.

• Use of GAAP for financial statements – use of generally ac-cepted accounting principles ensures comparability of datafrom year to year and comparability with other local govern-ments.

• Use of GAAP for budgeting – as for financial statements, useof generally accepted accounting principles ensures a struc-ture that is uniform across years and across local units of gov-ernment.

• Use of CAFR format – the comprehensive annual financial re-port format reports all revenues and expenditures for each fund.

• Unqualified audit opinion – failure to include all appropriateentities or omissions of data will result in a qualified opinion.

• Failure to file audit with Department of Treasury – the primarymeans for overseeing local government finances for state over-sight bodies is for those local governments to file their auditin a timely manner.

• CAFR released within six months of end of fiscal year – as is thecase for audits, filing the comprehensive annual financial re-ports in a timely manner will avail the state of the informa-tion necessary to assess financial condition in a timely man-ner and take appropriate actions if necessary.

C. Financial Factors

These ratios measure the revenues and expenditures of local gov-ernments in a manner that allows comparisons among units andfor multiple years.

RevenuesRevenues determine the capacity of a local government to provideservices. These ratios measure growth, flexibility, elasticity, de-pendability, diversity, and administration.

• Revenues per capita – shows changes in revenues relative to changesin population size. If per capita revenues are decreasing, thegovernment may be unable to maintain existing service levelsunless it finds new revenue sources or ways to save money.

• Revenues as a percent of personal income – like revenues percapita, this measure reflects the ability of a community to payfor a level of services.

• Revenues as a percent of property valuation – also used for mea-suring the ability of a community to fund services.

• Restricted revenues as a percent of net operating revenues – re-stricted revenues are legally earmarked for specific uses, as maybe required by state law, bond covenant, or grant requirements.As the percentage of restricted revenues increases, a local gov-ernment loses its ability to respond to changing conditions andto its citizens’ needs and demands. Increases in restricted rev-enues may also indicate over dependence on external revenuesand signal future inability to maintain service levels.

• Intergovernmental revenue as a percent of own source revenue –reflects a level of dependence on budget and policy decisionsmade at another level of government. The reduction of in-tergovernmental funds leaves the municipal government withthe dilemma of cutting programs or funding them from gen-eral fund revenues.

• Elastic revenues as a percent of net operating revenues – the yields ofelastic revenues are highly responsive to changes in the economicbasis and inflation. A balance between elastic and inelastic rev-enues mitigates the effects of economic growth or decline.

• One-time revenues as a percent of net operating revenues – one-time revenues are those that cannot reasonably be expectedto continue, such as a grant or money from the sale of anasset. Continual use of one-time revenues to balance thebudget can indicate that the revenue base is not strong enoughto support current service levels. It can also mean that thegovernment is incurring operating deficits and would havelittle room to maneuver if there were a downturn in revenues.

• Uncollected property taxes as a percent of net property tax levy –increases over time may indicate overall decline in the localgovernment’s economic health.

• User charge coverage as a percent of expenditures for related ser-vices – can fees and charges cover the entire cost of providinga service? As coverage declines, the burden on other revenuesto support the services increases.

• Revenue shortfalls as a percent of net operating revenues – exam-ines the differences between revenues estimates and revenuesactually received during the fiscal year. Major discrepanciesthat continue year after year can indicate a declining economy,inefficient collection procedures, deliberate overstating inorder to fit everything into the budget, or inaccurate estimat-ing techniques. Discrepancies may also indicate that highrevenue estimates are being made to accommodate politicalpressures.

CRC REPORT


ExpendituresExpenditures are a rough measure of a local government’s serviceoutput. The aim of these ratios is to measure whether the localgovernments (1) are living within their revenues, and (2) have thenecessary flexibility to adjust service levels to changing conditions.

• Expenditures per capita – increasing per capita expenditurescan indicate that the cost of providing services is outstrippingthe community’s ability to pay, especially if spending is in-creasing faster than the residents’ collective personal income.

• Employees per capita – because personnel costs are a majorportion of a local government’s operating budget, an increasein employees per capita might indicate that expenditures arerising faster than revenues, that the government is becomingmore labor intensive, or that personnel productivity is de-clining.

• Expenditures as a percent of property tax revenue – measure of aunit’s ability to fund services from own source revenues, sincethe property tax is the primary tax source for most Michiganlocal governments.

• Fixed costs as a percent of net operating expenditures – the higherthe level of fixed expenditures, the less freedom local officialshave to adjust spending in response to economic change. Fixedcosts become especially important during periods of finan-cial retrenchment, since mandatory expenditures are usuallyunaffected by a reduction in service levels.

• Fringe benefits as a percent of salaries and wages – because thefunding and recording of fringe benefits is a complex pro-cess, these costs can escalate unnoticed, straining thegovernment’s finances.

• Current cash balances as a percent of operating expenditures –measures a unit’s cash and revenue solvency relative to its levelof operating expenditures. Current fund balance ratios lessthan 10 percent means the government has low cash solvency;10 to 25 percent – adequate cash solvency; 25 to 50 percent– substantial cash solvency; and greater than 50 percent, it issaid to have high cash solvency.

• Percent of expenditures for police and social services – could becaused by budget decisions or increases in the proportion ofelderly and youth in the population of the unit, thus placinggreater demand on the provision of these services; middleincome residents being replaced by less affluent groups whichrequire public assistance; or the closure of major employers,thus creating additional unemployment.

Operating PoliciesThis refers to a local government’s ability to (1) balance its budgeton a current basis, (2) maintain reserves for emergencies, and (3)have sufficient liquidity to pay its bills on time.

• Operating deficits as a percent of net operating revenues – maynot mean that the budget will be out of balance, because

reserves from prior years can be used to cover the difference.It does mean, however, that during the current year, the gov-ernment is spending more than it is receiving. A one-timeoccurrence might not be cause for concern, but frequent andincreasing deficits can indicate that current revenues are notsupporting current expenditures and that serious problemsmay lie ahead.

• Enterprise losses – because enterprise fund programs are ex-pected to function as if they were commercially operated pri-vate entities, rather than governmental “not for profit” enti-ties, such losses may point to a bigger problem. As is the casefor operating deficits, a one-time occurrence might not because for concern, but frequent and increasing losses mightindicate a need to consider the rate structure and operatingexpenditures.

• Fund balances as a percent of net operating revenues – the sizeof a local government’s fund balances can affect its ability towithstand financial emergencies and its ability to accumulatefunds for capital purchases without having to borrow. There-fore, changes in fund balances are not necessarily a sign ofoperating deficits, but they may mean that the governmentwill be unable to meet a future need.

• Liquidity as a percent of net operating revenues – cash position,which includes cash on hand and in the bank, as will as otherassets that can be easily converted to cash, determines agovernment’s ability to pay its short-term obligations. Lowor declining liquidity can indicate that a government has over-extended itself in the long run. A cash shortage may be thefirst sign.

Debt StructureA number of states have focused attention on debt issuance as anearly indicator of much broader problems. Requiring state ap-proval for debt issuance in other states provides the states a meansof ensuring that the local units are maintaining a balanced budgetduring the period when they were repaying the debt.

• Current liabilities as a percent of net operating revenues – the sumof all liabilities due at the end of the fiscal year, including short-term debt, current portion of long-term debt, all accounts pay-able, accrued liabilities, and other current liabilities.

• Increased cost for short-term loans – whether borrowing fromoutside lenders or in anticipation of future tax revenues, in-creased costs for short-term borrowing reflects an inability tofund current expenditures with current revenues. Borrowingin anticipation of current year tax collections provides localunits with a useful tool in managing cash flow. Borrowing inanticipation of the tax levy of the following year, however, ifused improperly can encourage deficit spending, allow roll-ing over and accumulating deficits from one year to the next,and can permit the evasion temporarily at least of constitu-tional, statutory, and charter provisions limiting the rate of



taxation.

• Long-term debt as a percent of assessed valuation – net directdebt is direct debt (bonded debt for which the local govern-ment has pledged it full faith and credit) minus self-support-ing debt (bonded debt that the local government has pledgedto repay from a source separate from its general tax revenues).An increase in net direct bonded long-term debt as a percent-age of assessed valuation can mean that the government’s abil-ity to repay is diminishing, assuming that the governmentdepends on the property tax to pay its debts.

• Net direct debt service as a percent of net operating revenues –increasing debt service reduces expenditure flexibility by add-ing to the government’s obligations. Debt service can be amajor part of a government’s fixed costs, and its increase mayindicate excessive debt and fiscal strain.

• Long-term debt per capita — reflects the amount of long-termdebt in terms relative to the size of the unit.

• Long-term debt as a percent of personal income — reflects theamount of long-term debt in terms relative to the ability oftaxpayers in the unit to repay the debt.

• Long-term overlapping bonded debt as a percent of assessed valu-ation – the net direct bonded debt of another jurisdictionthat is issued against a tax base within part or all of the bound-aries of the community. This measure is an indicator of theability of the community’s tax base to repay the debt obliga-tions issued by all of its governmental and quasi-governmen-tal jurisdictions.

• Credit rating – reflects the opinions of outside raters of finan-cial health.

Unfunded LiabilitiesAn unfunded liability is one that has been incurred during the cur-rent or prior year, that does not have to be paid until a future year,and for which reserves have not been set aside. If such obligationsare permitted to grow over a long period of time, they can have asubstantial effect on a local government’s financial condition.

• Unfunded pension liabilities as a percent of assessed valuation –pension plans can be funded in two ways: either when ben-efits need to be paid (“pay as you go”), or as benefits are ac-crued, in which case the money is invested in a reserve untilthe time when benefits will have to be paid. Under pressure

of balancing the annual budget, some governments choosethe pay-as-you-go approach. Either approach can work on ashort-term basis. Deferral, however, can create a problem infuture years that is more serious than the problem beingavoided in the current year—if the dollars are not available inthe future years to meet the pension obligation.

• Pension fund assets as a percent of annual pension benefits paid– a decline in the ratio of plan assets to benefits can indicateserious problems in the management of the pension plan.The annual amount of pension receipts as a percentage ofannual benefits paid focuses more specifically on a pensionplan’s ability to meet its current cash requirements.

• Accumulated employee leave – although leave benefits initiallyrepresent only the opportunity cost of not having work per-formed, these benefits become a real cost when employeesare actually paid for their accumulated leave, either duringtheir employment or at termination or retirement.

Condition of Capital PlantIf assets are not properly maintained or are allowed to becomeobsolete, the results are often (1) decreasing usefulness of the as-sets, (2) increasing cost of maintaining and replacing them, and(3) decreasing attractiveness of the community as a place to live ordo business.

• Maintenance effort – deferring maintenance of capital assetscan create significant unfunded liability. A declining ratiobetween maintenance expenditures and size of asset stock maybe a sign that the government’s assets are deteriorating, whichin the long run will push up maintenance costs.

• Capital outlay – the ratio of capital outlay to net operatingexpenditures is a rough indicator of whether the stock of equip-ment is being adequately replaced. If this ratio declines inthe short run, it may mean that the government’s needs aretemporarily satisfied, since most equipment lasts more thanone year. A decline persisting over three or more years canindicate that capital outlay needs are being deferred, whichcan result in the use of inefficient or obsolete equipment.

• Depreciation expense as a percent of depreciable fixed assets – ifdepreciation costs are declining as a proportion of fixed assetcosts, the assets on hand are probably being used beyond theirestimated useful life. This can result in inefficiencies and highercosts.

ABOUT THE CITIZENS RESEARCH COUNCIL

OF MICHIGAN

The Citizens Research Council of Michigan is a private, not-for-profit public affairs research organizaiton founded in 1916to provde unbiased, nonpartisan analysis of issues concerning state and local government organization and finance in Michi-gan. CRC is supported by the voluntary contributions of business, industry, foundations, and individual citizens.

The goal of the Citizens Research Council is to secure good government for the citizens of Michigan -- government that isrepresentative of and responsible and accountable to the public; effective in carrying ouut its responsibilities and providingservices; and efficient in the use of its resources.

Recent Publications

CRC publications are available online or by contacting CRC at (734) 542-8001 or (517) 485-9444.

CRC Memoranda1048 The Durant Decision, January 19981049 SMART Millage Renewal, June 19981050 A Supermajority Requirement for Wayne County Tax Increases, July 19981051 Statewide Ballot Issues, September 19981052 Changes to the Property Tax Delinquency and Reversion Process in Michigan, January 2000

CRC Notes99-01 Proposed Changes in Michigan’s Personal Property Tax Tables, July 199999-02 Michigan Tax Revenues Relative to the U.S. Average, November 1999

CRC Reports324 Michigan Renaissance Zones in the Economic Development Context, November 1998325 Delinquent Property Taxes as an Impediment to Development in Michigan, April 1999326 A Bird’s Eye View of Michigan Local Government at the End of the Twentieth Century, August 1999327 Outline of the Michigan Tax System (Twentieth Edition), October 1999328 The 2000 Census and State and Local Finance in Michigan, March 2000

CRC World Wide Web Documents98-01 Michigan Highway Finance and Governance: A One-Year Report Card, May 199898-02 Separate Tax Limitations for Wayne County, May 199898-03 Revenue Sharing: A Description and Analysis of Alternative Proposals, September 199800-01 E-commerce and the Michigan Use Tax, June 2000

MiscellaneousRobert E. Pickup: A Remembrance, March 1998Provisions of the Kids First! Yes! Ballot Proposal, June 2000

NON PROFIT ORG.U.S. POSTAGE

PAIDDETROIT, MI

PERMIT NO. 210

Citizens Research Council of Michigan38777 Six Mile Road, Suite 201ALivonia, Michigan 48152-2660