HB 304-CLEAN WATER FUND/DRINKING WATER FUND MR. DAN EASTON, Director of Facility Construction and Operations for the Department of Environmental Conservation (DEC), gave the following overview of HB 304. He noted Mike Burns of DEC, Deven Mitchell of the Department of Revenue, and Craig Tillery, Assistant Attorney General, were also available to answer questions. HB 304 pertains to DEC's two low interest loan programs to construct drinking water and wastewater projects in communities. HB 304 provides DEC with the same bonding authority for both funds; it currently has bonding authority for the clean water fund only. Second, HB 304 provides DEC with a long term method to pay program operating costs from the loan fund so that DEC does not have to rely on general funds. Third, the Senate Finance Committee substitute added a provision to expand eligibility for the loan programs to include certain types of privately owned water and sewer utilities. MR. EASTON explained that every year DEC is eligible for a federal grant that must be matched with State money in a ratio of 5 to 1. Each loan program gets about $7.5 to $8 million of federal money and $1.5 million from the general fund. That money is loaned to communities on a reimbursement basis and communities repay the loans with interest. The balance of the funds also earn investment interest. MR. EASTON stated that HB 304 is a cost-saving measure. DEC is requesting bonding authority so that in the future, if the EPA grants cease, it will have the authority to sell bonds and put the money in the loan programs. In the short term, bonding authority will give DEC the option of using bond proceeds as the State match portion and to retire the bond indebtedness with interest earned on the $1.5 million general fund amount. DEC has bonding authority for the clean water fund so it will use that method for the FY 2001 capital budget. If HB 304 is enacted, DEC could do the same for the drinking water fund beginning in FY 2002. CHAIRMAN HALFORD asked if DEC's investments are in the tax exempt market or the taxable market. MR. MIKE BURNS replied that he believes they are all tax exempt. CHAIRMAN HALFORD asked if DEC can earn enough in that differential to cover the operating costs of the programs. MR. DEVON MITCHELL replied that the loans that are made within the fund are loaned at a subsidized rate to municipalities. CHAIRMAN HALFORD clarified that DEC is going to sell tax exempt bonds so it will get the benefit of the tax exemption and the rate on the bonds to come up with the State's share. Also, DEC will have money in that account that it will invest in the market. He asked if that investment can be invested to get the highest possible rate or whether there are vigorous rules governing how that tax exempt money can be invested. MR. MITCHELL answered the arbitrage rules would apply so DEC could not exceed the yield it was paying on the bonds. He explained that DEC is contemplating paying off the money obtained through bonding immediately. That would allow interest earnings within the fund to be used as the State match for the federal receipts. CHAIRMAN HALFORD asked if DEC will be going to the bond market to get the match for the federal funds but as soon as the federal funds are received, DEC will use existing money to pay off the bond. MR. MITCHELL said that is correct. MR. EASTON added that the rules about these loan funds are prescribed in federal law and are designed to keep the states from using the funds for anything other than drinking water and waste water projects. Once money is put in the fund, it must stay in the fund or be recirculated as loans to communities. One exception to that rule is a provision that allows the use of interest earned on the fund to retire bond debt. The federal government included that provision so that the states could use bonding mechanisms to capitalize their loan funds. Number 550 CHAIRMAN HALFORD said these funds have grown by the amount the State has appropriated annually. He asked if the State will no longer be appropriating money once DEC goes to a bonding mechanism. MR. EASTON said that is correct. CHAIRMAN HALFORD surmised that the growth rate of the funds will stop. MR. EASTON said that DEC has projected the growth rate will slow down by about two percent. MR. BURNS explained the rate will be a little higher because the funds will continue to grow with federal grants that DEC will receive each year plus the interest received from loans. MR. EASTON added DEC has projected that over the next ten years, this mechanism will take about two percent of the growth out of the fund. CHAIRMAN HALFORD indicated the growth based on the State's share of the match will be lost but not the growth from the federal share in the overall capitalization. SENATOR PETE KELLY asked if the current rules of the loan fund require the State match to be from general fund dollars. MR. EASTON said that is correct. SENATOR TAYLOR asked if an additional benefit of HB 304 will be that personnel costs for the program will be shifted out of DEC's budget and funded with proceeds from that account. MR. EASTON replied that actually, personnel are currently funded out of a portion of the federal grant, so as long as DEC continues to get the federal grant, it can continue to fund its personnel. The problem is that the federal grant for the wastewater program will stop in 2003 and for the drinking water program in 2008. The second purpose of this legislation is to give DEC a contingency plan to use when the federal grant stops. HB 304 will allow DEC to split the repayment string. HB 304 sets up an administrative fund for each loan fund. A small portion of the community repayment funds will be deposited into an income account in the administrative account. DEC will continue to request that capital funds be appropriated to an operating account every year and then it would ask that those funds be transferred to DEC's operating budget to be used for personnel costs. SENATOR MACKIE asked if the source of the money will be from the loan program. MR. EASTON said basically, yes. He explained if a portion of the repayment was not split off, it could not be used for program operating costs. No general funds will be used to support the program. CHAIRMAN HALFORD asked Mr. Easton to elaborate on the new entities that will be eligible to participate. MR. EASTON explained that the House Finance Committee substitute made eligible, for both loan programs, privately owned utilities that are certified and economically regulated by the Regulatory Commission of Alaska (RCA). By state law, privately owned utilities would be eligible for both drinking water and waste water loans. Under federal law however, they will not be eligible for waste water loans. The bill contains a delayed effective date of two years to generate revenues to deal with the additional costs and to develop regulations. Beginning FY 2002, DEC will be able to make loans to privately owned, certified and economically regulated drinking water utilities. Number 870 MR. MITCHELL noted that one concern he heard about participation by private utilities relates to the tax exempt status of any bond issuance that might occur with the long term borrowing concept. If private participation within the pool exceeds ten percent, a tax question would arise and tax exempt bonds could no longer be issued. He indicated that problem is "down the road." CHAIRMAN HALFORD asked if there is a distinction between private for-profit and private non-profit entities. MR. EASTON said that no distinction is made in HB 304 but he is not aware of whether RCA makes that distinction. CHAIRMAN HALFORD asked if DEC uses all of the money made available each year. MR. EASTON said it does. CHAIRMAN HALFORD expressed concern about private for-profit utilities competing in a government-run system. He wondered about adding a non-profit requirement to the private utilities provision to provide some level of protection. CHAIRMAN HALFORD took public testimony. MR. DAVE SOULAK, the City Manager of the City of Wrangell, stated support for HB 304 because it provides more economical loans for communities. Both the clean water and the drinking water funds will be self supporting by the year 2002 and will save the general fund over $3 million per year. These programs allow communities to save time and money. DEC's programs offer communities loans at two percent less than conventional funding sources and, with passage of HB 304, three percent. Communities can easily explain to DEC personnel their operational costs and maintenance systems which are difficult to explain to personnel at conventional financing institutions. HB 304 will create a win-win situation: the State will save $3 million for the next two years and lower interest rates will provide savings to communities. MR. BRUCE JONES, the Public Works Director for the City of Petersburg, stated that Petersburg is very interested in seeing HB 304 pass. Petersburg has two loan agreements with DEC. If HB 304 passes, the lower interest rate will save Petersburg approximately $35,000 per year. He agrees that HB 304 will create a win-win situation. CHAIRMAN HALFORD asked if the small communities have expressed concern about allowing private for-profit entities to compete in this program. Number 1267 MR. JONES replied he supports giving private utilities access to the loan funds because the purpose of the program is to preserve public health. His only concern is that the private for-profit entities be required to be regulated by the RCA and that they compete on a level playing field. MR. SOULAK commented that all funds have been granted this year. He feels it is incumbent upon the State to help municipalities which are not for-profit. For-profit utilities provide dividends to their shareholders. CHAIRMAN HALFORD asked what level of subsidy flows through these programs. Number 1353 MR. EASTON said the interest rate on the loans is currently 4.1 percent, which is 75 percent of the municipal bond index, so it is three-quarters of what a city would pay if it sold bonds. In addition, cities do not have to pay the assorted bonding costs. CHAIRMAN HALFORD said, in that case, he suspects private utilities will use this program. MR. EASTON said Alaska currently regulates about 22 economically regulated and certified private utilities. DEC does not expect a huge run on the loan funds and, in fact, the loan funds have done well and are getting bigger. Some communities are leery of sharing the pie, but DEC thinks that economic regulation and certification will force for-profit entities to pass on any savings realized through the low-interest programs to the customers through the rate structure. DEC also discussed the fact that some privately owned utilities may pose a higher risk than municipalities, and they may take more time and energy, so the bill contains a provision that allows DEC to apportion costs so that municipalities pay a lower interest rate than the privately owned utilities. CHAIRMAN HALFORD asked if DEC could provide a State cost-of-funds analysis. If HB 304 can pass on a benefit at no cost to the State, some concerns will be alleviated. He said he was thinking the bill could contain a provision that prohibits the interest rate to private entities from being lower than the overall cost of funds to the State. He questioned whether the State should privatize the subsidy for for-profit corporations if private utilities are in competition with municipalities and local governments. Number 1594 MR. EASTON pointed out that DEC sees a real benefit to improving drinking water quality and a fairly sizeable number of Alaska's population is served by private drinking water utilities. DEC feels that expanding the eligibility will result in improved drinking water. SENATOR TAYLOR suggested adding a provision that limits the subsidy to private utilities so that, although the competition is for the same pot of funds, the private utilities will have to pay more to play. He thought the lower interest rate will provide a huge incentive for private utilities to participate. He suggested specifying in the bill that a different interest rate will apply to private for-profit utilities, possibly 100 percent of whatever amount the municipal bond bank sells at. CHAIRMAN HALFORD added that a higher interest rate will also make the fund grow faster. He asked Mr. Easton to prepare language for a possible amendment and announced he would hold the bill.