States Urge an End to Cap on Issuing Tax-Free Bonds

States across the country are urging Congress to eliminate caps on the amount of tax-free bonds they can issue, saying they hamper economic growth and force worthy projects to be shelved.

California, Texas and many other states say bond limits are derailing plans to boost spending on programs ranging from housing to sewage plants and student loans.

“Washington tells states to pick up the tab for projects but then hamstrings their ability to pay for them,” said Barry Zucker, chief executive of municipal bond firm J. B. Hanauer & Co.

With a limit on the amount of tax-free bonds states can sell, states are forced to sell taxable bonds--generating more income for the federal government.

But taxable bonds, which account for just 2% of the $130-billion-a-year municipal bond market, are very tough to sell and are much more expensive. That makes the taxable bonds an unattractive alternative in times when budgets are tight.

In Texas, which has the third-highest state tax-free bond cap at $850 million, Bond Review Board Director Tom Pollard said many projects that could easily be repaid languish when they reach federal tax-free bond ceiling.

“Texas has many legitimate projects that go unfunded. Many are oversubscribed because they’ve hit the cap,” he said.

Since 1986, the federal government has forbidden states from selling more than either $50 per state resident or $150 million, whichever is more, in tax-free public purpose revenue bonds. These bonds fund multifamily housing, solid waste disposal and other state projects.

Washington initially put the clamps on states to curb what it called excessive spending on “dubious” efforts such as shopping malls or other projects it believed should be privately funded.

But that was in the high-flying 1980s, when the U.S. economy was strong and private financing was much easier to obtain than it is now.

Municipal bond analysts say the spending caps are now dragging state spending down when it is needed most to pull them out of recession.

“As we try to come out of the recession, there’s going to be much more demand for public bond issues, and the caps will become more and more constraining,” Public Securities Assn. analyst Andy Nybo said.

Nybo said that for large states especially, just one major project such as a solid waste treatment facility can use up a half or even two-thirds of a state’s total bond limit.

For many smaller states that have the minimum $150 million caps, limits are often unmet and credits can be pushed forward to future years.

A growing point of contention is over bonds to clean up polluting factories to meet increasingly strict nationwide environmental standards.

“The Clean Air Act must be reauthorized next year, and it will focus a lot of attention on how bond volume caps hold back many states from meeting environmental goals,” said Cathy Spain of the Government Finance Officers Assn.

Congress is considering several bills that would raise the caps for certain types of bond issues, but most analysts believe that these bills won’t be taken up seriously until Congress’ next term.

While some state treasurers, such as California’s Kathleen Brown, have vigorously pressed for raising caps, others such as New York Controller Edward Regan disagree.

“States funded lots of junk before caps were enforced. They’d do it again,” Regan said.