Which of the following proposed transactions require that the local government or public authority first seek approval from the State’s Local Government Commission (LGC)?
1. The Town of Blowing Rocks borrows $1 million from a local credit union to make repairs to several of its administrative buildings that were damaged in a recent storm. The town grants a security interest in the buildings to the credit union and agrees to repay the loan, with interest, over 59 months. The town is not on the Department of State Treasurer’s Unit Assistance List.
2. A developer borrows funds from a bank to construct a large office building in Growing Village’s downtown. The village enters into a 20-year lease with the developer to use a large portion of the building to house its police department. The lease payments roughly correlate to the debt service paid by the developer on the borrowed funds. Growing Village is in no way obligated to guarantee or repay the developer’s loan. The lease does not include an option to purchase or renew at the end of the lease term. The estimated total payments over the term of the lease are $4.9 million, and will be paid with general fund monies. The village is not on the Department of State Treasurer’s Unit Assistance List.
3. The City of Broke Springs owns and operates a water system. The city enters into an interlocal agreement with Flush County (the county in which the city is located), whereby the county agrees to loan the city $14.5 million to fund an expansion of the city’s water lines into several unincorporated areas in the county. The city grants the county a security interest in the water lines and agrees to repay the loan, with interest, over a period of 15 years. The city is not on the Department of State Treasurer’s Unit Assistance List.
4. Shadow City’s governing board establishes a non-profit (501(c)(3)) organization in order to qualify for certain private grants that the city is not eligible to receive. The city’s governing board appoints the non-profit’s board and approves the non-profit’s budget each year. The non-profit uses the grant proceeds to jointly run a recreation program with the city targeted to at-risk youths in the city. The non-profit leverages a private building that was donated to it by a wealthy citizen by pledging the building as security for a $500,000 loan from a local bank to fund an outdoor adventure course, which will serve as the core infrastructure for the new recreation programs. The loan will be repaid by the non-profit over a 10-year period, with interest. The city’s governing board approves the loan as part of its budget approval authority over the non-profit, but the city is in no way obligated to guarantee or repay the loan. The non-profit will donate the adventure course to the city as soon as the loan is repaid. The city is not on the Department of State Treasurer’s Unit Assistance List.
5. Nonfiction Village is on the Department of State Treasurer’s Unit Assistance List. Nonfiction Village rents a private building in its downtown for temporary use as a library. The village will use general fund monies to make the lease payments. The lease period is 3 years, with a total payment of $150,000.
The answer is that ALL the proposed transactions are subject to LGC approval.
Established in 1931, the LGC is a state entity that monitors the fiscal health of, and provides assistance to, counties, municipalities, and public authorities in North Carolina (collectively, local governments). See G.S. 159-3. The LGC adopts regulations related to local government fiscal management. G.S. 159-25. It approves local government audit contracts. G.S. 159-34. It reviews all local government audited financials and identifies financial and compliance deficiencies that must be addressed. See North Carolina Department of State Treasurer Memo on Responding to Financial Performance Indicators of Concern. Under certain circumstances, the LGC may assume all the financial duties of a local government and even dissolve an unsustainable municipality’s charter. See G.S. 159-181; G.S. 160A, Art. 32.
Additionally, the LGC must approve all local government bond issuances. And it must approve certain other local government borrowings, leases, and other contracts/agreements involving capital assets. (Capital assets generally encompass assets that are of significant value, with a useful life of more than a single fiscal period. Examples include purchasing land, making improvements to that land (grading, paving, installing utility infrastructure, etc.), leasing, constructing, purchasing, maintaining, repairing, expanding, or renovating buildings and other structures, and purchasing, maintaining, or repairing vehicles and equipment.) This post details when LGC approval is required before a local government may borrow money or enter into a lease, contract, or other agreement involving a capital asset. It includes recent statutory changes related to local governments on the North Carolina Department of State Treasurer’s Unit Assistance List. And it links to a series of quick-reference flowcharts to help local governments determine whether LGC approval is required in practice.
Quick Reference Flowcharts
Before fleshing out the types of transactions subject to LGC approval, it may be helpful for public officials to consult the following quick reference guides. They distill the various statutory provisions cited below to provide clear guidance on whether or not a particular agreement is subject to LGC approval. Always start with the Master Flowchart. It leads to the proper sub-flowchart (A, B, C, or D). Those flowcharts flesh out the approval-triggering criteria that is required by the applicable statutory provisions. It is important to ask and answer the flowchart questions in the order in which they are presented.
Step 1: Consult Master Flowchart
Step 2: Master Flowchart will direct local government to the appropriate sub-flowchart
A local government should document its determination of whether or not LGC approval is required for each lease, contract, or other agreement involving a capital asset. If an agreement requires LGC approval and that approval is not obtained the agreement is void.
LGC Approval of Bond Issuances
The LGC must approve a local government bond issuance, and it actually sells the bonds on behalf of the local government. There are four types of bonds authorized under North Carolina law–general obligation bonds (G.S. 159, Art. 4); revenue bonds (G.S. 159, Art. 5); project development financings, aka TIFs, (G.S. 159, Art. 6); and special obligations bonds (G.S. 159, Art. 7A). The LGC must approve all these borrowings. If a local government intends to issue debt to fund a project, it should contact the North Carolina Department of State Treasurer (DST) staff very early in the process. They will work with the local government to prepare the formal application for approval and identify any financial or compliance deficiencies that must be addressed before the LGC considers the application. (The DST provides general guidance on issuing debt here.)
The Master Flowchart makes clear that LGC approval is ALWAYS required for all of these bond issuances.
LGC Approval of Installment Financing Agreements, Leases, and Other Contracts / Agreements Involving Capital Assets
LGC approval is also sometimes required before a local government may enter into an installment financing agreement, lease, or other contract/agreement involving a capital asset. Whether or not LGC approval is required depends on certain features of these contracts/agreements. And effective October 1, 2022, the criteria for triggering LGC approval vary based on whether or not a local government is on the DST’s Unit Assistance List (UAL).
Specifically, LGC approval may be required for the following transactions:
Installment Finance Agreements
An installment finance agreement is a type of debt financing whereby a local unit finances or refinances the purchase, construction, or repair of a capital asset. The unit takes title to the capital asset(s) being financed and grants a security interest to the lender in all or a portion of the capital asset(s) being financed until the full amount due under the contract is paid. The authority for most installment finance agreements is G.S. 160A-20. This statute provides the legal authority both for simple installment financing contracts and for more complicated financing arrangements, such as when a unit issues certificates of participation (COPs) or limited obligation bonds (LOBs). (For more information on installment financing agreements, click here.)
The statute requires that installment financing agreements be approved by the LGC only if the transactions meet certain criteria set forth in G.S. 160A-20(e) and G.S. 159-148(a)(1), (a)(2), and (a)(3), and only if the transactions are not exempted by G.S. 159-148(b)(1), (b)(2), or (b)(3). Note that the threshold contract amounts and length for triggering LGC approval are lower for local governments on the DST’s UAL.
Flowchart A provides an easy reference guide to the criteria and exemptions. Be sure to ask and answer the questions in the order in which they are presented in the flowchart.
Proposed transactions (1.), (3.), and (5.) above are examples of installment financing contracts. As you can verify by working your way through the flowchart, all three of these proposed transactions satisfy the additional criteria and are not exempted from LGC approval. As illustrated by (3.), note that there is no exemption for transactions between local government entities. As discussed in a previous post, local governments are sometimes authorized to loan and borrow money from each other through interlocal agreements. Such agreements must follow all the same statutory provisions as if the funds were being borrowed from the private sector. And example (5.) highlights the lower threshold amount and repayment period to trigger LGC approval if a local government is on the DST’s UAL.
Contract(s), Agreement(s), or Memorandum of Understanding(s) Involving the Lease, Acquisition, or Construction of a Capital Asset
This category of transactions is the most overlooked by local governments. Any time a unit enters into a lease of a capital asset (such as leasing equipment or leasing space in a building) or any other contract or agreement involving the acquisition or construction of a capital asset, it must first determine if LGC approval is required pursuant to G.S. 159-148. Specifically, the transaction must meet all the criteria set forth in G.S. 159-148(a)(1), (a)(2), (a)(3), and (a)(4), and the transaction must not be exempted by the provisions in G.S. 159-148(b)(1), (b)(2), or (b)(3).
Flowchart B provides an easy reference guide to the criteria and exemptions. Be sure to ask and answer the questions in the order in which they are presented in the flowchart. Note that the threshold contract amounts and length for triggering LGC approval are lower for local governments on the DST’s UAL.
Questions often arise about how to interpret G.S. 159-148(a)(4) (the fourth criterion in the flowchart). It requires that the lease, contract, agreement, or MOU “obligate[] the unit, expressly or by implication, to exercise its power to levy taxes either to make payments falling due under the contract, or to pay any judgment entered against the unit as a result of the unit’s breach of the contract.” This provision should be read in conjunction with G.S. 159-13, which requires a local government to appropriate monies each year to pay obligations arising under continuing contracts unless the governing board expressly reserves the right not to make the appropriations. The criterion will be satisfied unless (1) the unit’s governing board reserves the right not to make any payments under the lease, contract, agreement, or MOU and the unit has no financial liability for breach; or (2) the unit’s financial liability under the contract and for breach is limited to specific existing cash reserves or to specific non-tax revenue sources.
Proposed transaction (2.) is an example of a lease involving a capital asset that satisfies the criteria for LGC approval under G.S. 159-148.
Another Entity Borrows Money or Enters into Similar Financing Arrangement on behalf of the Unit or on behalf of a Public Body, Agency, or Similar Entity Created by the Unit
In 1998 the General Assembly made an additional category of transactions subject to LGC approval. It enacted G.S. 159-153 which, among other things, requires LGC approval of certain transactions whereby a local government entity approves or otherwise participates in the incurrence of indebtedness (or a similar financing arrangement) by another entity on the local government entity’s behalf.
A primary purpose of the statute was to require LGC approval of what are commonly referred to as 63-20 financings. Under this form of financing (which gets its name from IRS Revenue Ruling 63-20), a nonprofit corporation borrows money to construct a facility. If the corporation agrees to convey the facility, at no cost, to a government once the debt is repaid, and if that government formally approves the financing, then the interest on the debt may be exempt from federal income tax. Under the Internal Revenue Code, the debt is considered to have been incurred on behalf of the local government.
Even if the transaction does not constitute a 63-20 financing, if another entity borrows funds on behalf of a local government or on behalf of a public entity created by a local government and the local government approves or otherwise participates in the borrowing, the transaction may need to be approved by the LGC. There are certain additional criteria for LGC approval—namely the transaction must satisfy G.S. 159-148(a)(1) and (a)(3), and the transaction must not be exempted by G.S. 159-148(b)(1), (b)(2), or (b)(3).
Flowchart C provides an easy reference guide to the criteria and exemptions. Be sure to ask and answer the questions in the order in which they are presented in the flowchart. Note that the threshold contract amounts and length for triggering LGC approval are lower for local governments on the DST’s UAL.
Proposed transaction (4.) is an example of a transaction that likely satisfies the criteria for LGC approval under G.S. 159-153.
Financing Arrangement that is “Similar” to Borrowing Money
When the General Assembly enacted G.S. 159-153 it also included a catch-all provision to cover any future types of transactions that might be akin to a local unit borrowing money but might not technically fall into any of the other listed categories. Specifically, the statute requires LGC approval before a local government (or local government-created entity) “[e]nter[s] into any similar type of financing arrangement” to incurring indebtedness, if certain other criteria are met. The transaction must satisfy G.S. 159-148(a)(1) and (a)(3), and the transaction must not be exempted by G.S. 159-148(b)(1), (b)(2), or (b)(3).
It is important to remember that 159-148 and 159-153 do not grant authority to undertake transactions. They simply indicate when LGC approval is required of certain transactions. A local government must always identify separate statutory authority for the underlying transaction. It will be rare
Flowchart D provides an easy reference guide to the criteria and exemptions. Be sure to ask and answer the questions in the order in which they are presented in the flowchart. Note that the threshold contract amounts and length for triggering LGC approval are lower for local governments on the DST’s UAL.
New Approval Triggers for Local Governments on Department of State Treasurer’s Unit Assistance List
As indicated above, the flowcharts incorporate recent adjustments the General Assembly made to LGC approval triggers for local governments on DST’s UAL. According to DST,
[t]he Unit Assistance List (UAL) is developed by LGC staff to assist in prioritizing the allocation of staff resources, developing guidance and resources for units, and engaging in enhanced fiscal monitoring. The list is published periodically throughout the year based on audited financial statements and associated data submitted to the LGC as required under N.C.G.S. 159-34(a) and identifies units with concerns related to units’ general fund, water/sewer quick ratio, income, and cash flow, and internal controls, or that have not yet submitted their audited financial statements (due four months following fiscal year end).
Here is a link to the July 2022 UAL list.
As of October 1, 2022, lower dollar amount thresholds and contract period terms will trigger LGC approval of installment financings and leases and other contracts involving capital assets for local governments on the UAL. Specifically, local governments on the most recently published UAL must obtain LGC approval of installment financings and other contracts relating to the lease, acquisition, or construction of capital assets, with terms that exceed 3 years and $50,000 (and meet the other criteria), and must obtain LGC approval of contracts for the purchase, lease, or lease with option to purchase motor vehicles where the contract amount equals or exceeds $50,000. See S.L. 2022-53.
