SCHOOL. #112 SPECIAL CONSTRUCTION ISSUE School construction finance for school units

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1 DRUMMOND WOODSUM & MACMAHON 245 Comm ercial Street Post Office Box 9781 Portland, Maine (207) FAX (207) SCHOOL Special Construction Issue LAW ADVISORY #112 SPECIAL CONSTRUCTION ISSUE School construction finance for school units By Richard A. Spencer, Esq. Although more and more school units are involved in building or renovating schools, the school construction process remains complex and, at times, confusing. Any such project is likely to involve a variety of legal issues relating to the purchase of real estate, contracts with architects and contractors, voter approval by referendum and the issuance of bonds, as well as an understanding of how the various phases of the acquisition, construction and financing process fit together. The following is a very brief summary of some of the issues that will arise in m ost state subsidized school construction projects in Maine. Preliminary Concerns for Project Proposals School administrators planning for construction must first be aware of the state statutory debt limits applicable to their school units. Municipalities, S.A.D.*s and C.S.D.*s cannot have outstanding bonds or notes issued for school construction purposes in an aggregate amount exceeding ten percent (10%) of the amount of the state valuation of the municipality or, in the case of S.A.D.*s and C.S.D.*s the municipalities within the district. S.A.D.*s can borrow an additional four percent (4%) of that valuation if approved by the State Board of Education at the time of the initial approval of a project. There is no similar four percent (4%) allowance available to C.S.D.*s or municipalities. Finally, towns also must be aware that their overall indebtedness is limited to fifteen percent (15%) of the latest valuation. 1 If a school administrative unit*s proposed project is within the applicable debt limitations, the unit must apply to the State Board for rating consideration on application forms provided by the State Board. The State Board*s staff will then review the application, visit the site of the project, and assign a point rating of the project after considering the unit*s buildings and grounds, school population and population trends in the geographic area and its school programs. The proposed projects state-wide are then ranked and the State Board will approve and subsidize as many projects as it can in the order of their ratings up to the State Board*s statutory debt service cap. When real estate must be acquired Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 1

2 If new construction is contemplated, a school unit must often acquire an acceptable site for the new school. Such an acquisition will involve the negotiation and execution of a real estate purchase and sale agreement or an option to purchase the site. The purchase and sale agreement or option should provide an out for the school unit in the event that the unit does not receive the necessary state and local approvals. Negotiators for the school unit also should be aware that the unit cannot actually borrow funds to acquire the site until receipt of final funding approval from the State Board of Education. Consequently, the agreement should contemplate a closing date (transfer of title) at least eight months from the date of receipt of concept approval for the project from the State Board of Education and, again, ordinarily should permit the unit to terminate the agreement if either the concept of final funding applications are denied. Finally, any state-subsidized project must secure site approval from the Board of Education at least one month prior to the meeting at which the Board will consider concept approval of the project. The regulations require that two certified appraisals of the site accompany the application to the State Board and the average of the two appraisals will be considered the project budget for purposes of state subsidy of that project. If the appraisals are more than twenty-five percent (25%) apart, a third appraisal is required. State Board must approve A school unit with a proposed school project ordinarily will want to secure a state subsidy of construction costs. Under Maine law, the State Board can approve (and subsidize) projects only so long as the debt service costs following approval of all those projects do not exceed a specified statutory cap or ceiling. Schools, then, effectively compete for limited state funds. The school unit must secure concept approval of the project from the State Board. The school unit must budget for and pay an architect to prepare preliminary plans and specifications for the project. The plans are then submitted to the State Board for initial concept approval which involves consideration of local need, the preliminary design and the estimated costs of the project. Receipt of concept approval from the State Board is the critical first step in securing a state school construction subsidy because concept approval also evidences the Board*s intention to issue its final authorization upon voter approval of the project and approval of final cost estimates. With concept approval in hand, the school unit must turn to the voters for approval of the project at referendum. 2 Going to referendum The voters of the municipality, or the towns within a school district, must approve the project at referendum within five months of concept approval. The referendum process varies for municipalities, S.A.D.*s and C.S.D.*s and the procedures will vary further depending upon whether the referendum on the project is held in conjunction with a state election. In any event, in view of the need to secure voter approval within five months of receipt of concept approval, the school unit should immediately contact counsel to summarize the applicable referendum process and to assist in the preparation of the requisite warrant and ballots. Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 2

3 Advance planning for a referendum is necessary because of statutory time requirements with which school units must comply. For example, absentee ballots must be prepared and delivered to the town clerks at least 30 days before the vote. In S.A.D.*s and C.S.D.*s the referendum process is initiated by the execution and delivery of a warrant by the school directors or school committee, as the case may be. The warrant must be signed at least 30 days prior to the date of the referendum vote. The warrant requires the municipal officers to call a referendum on the date established by the school board. The warrant also contains the articles (relating to the project and the borrowing of money) to be voted upon. Within three days of execution of the warrant by the school board, the warrant must be delivered to the town clerks of the municipalities within the district. The town clerk will then notify municipal officers of receipt of the warrant those officers will sign and post the warrant in a conspicuous public place at least seven days before the vote. For municipalities which are not included in S.A.D.*s or C.S.D.*s, the Board of Selectmen must sign and post a warrant at least seven days before the vote. In towns, S.A.D.*s and C.S.D.*s public hearings on the referendum must be held at least 10 days before the referendum vote. The notice of the hearings must be posted at least seven days in advance of the hearings. Additional rules relating to the preparation of ballots, and the conduct and certification of the election also are mandated by state statutes. 3 This brief summary of the referendum process is intended to highlight the more important procedures and alert school units to the fact that the referendum process is quite complex. It is, however, a critical link in the construction process and failure to comply with these rules jeopardizes the validity of the authorization or approval of the project. In this respect, it is prudent for school units, after receiving concept approval, to secure a roadmap of the referendum process from bond counsel and follow it with care. Final approval by the State Once the project has been approved by the voters, the school unit must return to the State Board for final funding approval. The updated plans for the project must adequately provide for the safety and welfare of the persons who will use the project, and the estimated cost of the project must be satisfactory. The plans and specifications also must be approved by the Bureau of General Services, the Department of Human Services and the State Fire Marshall. If approved, the State Board will issue a certificate of approval specifying the amount of state aid and any further stipulations or conditions. 4 The period between referendum approval and final funding appoval can present school units with a practical problem - paying the architect. As noted above, the architect will perform certain preliminary work in getting the project to the concept approval phase and the expenses for this work will be paid from the unit*s operating budget. There is, however, a significant amount of design work that must be developed to get the plans in shape for final funding approval and for the bidding on the project by contractors. During the period in which this work Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 3

4 will be performed (namely, after the referendum approval), school units have no authority to borrow money to pay the architect. School units should anticipate this problem and directly address it in the architect*s contract. The contract should provide that the school unit will pay for services rendered only after receipt of final funding approval from the State Board or, in the event that final approval is not forthcoming (an unlikely event after a favorable ruling on concept approval), from funds made available in the school unit*s next operating budget. Obtaining bond anticipation financing With state funding secured and a complete set of plans for the project, and because the voters have previously approved borrowing funds for the project, the school unit is finally in a position to sign the construction contract and commence construction. There is, of course, an immediate need for cash flow to fund the construction costs and most school units satisfy that need by issuing and selling bond anticipation notes ( BANs ) to a financial institution. A BAN is a temporary or interim funding mechanism issued in anticipation of a sale of bonds at a later date through which the school unit will provide longer-term permanent financing. Although BANs may be as long as three years, most are for a term of under one year. BANs, of course, are legal obligations of the school unit. Unless another method of sale is approved in advance by the Commissioner of the Department of Education, BANs are awarded to the low bidder in a competitive bidding process. School units should determine their cash flow needs during the interim period (namely, following receipt of final funding approval and prior to receipt of permanent financing) and send an invitation to bid for a BAN in that amount to at least three financial institutions. Financial institutions ordinarily require 10 days to put together their bids, which will include a commitment to purchase the notes, state the interest rate to be paid by the school unit for the loan and provide such terms or conditions that the institution may require. The bids should then be opened and, at a meeting of the school board, the BAN should be awarded to the lowest bidder. Counsel should then be advised of the low bidder and at the next school board meeting the school board should vote to issue the BAN and to authorize specified officials to sign the BAN and related documentation. Bond counsel will prepare the bond anticipation note and the necessary closing documents for signature by the authorized officials. The sale of the BAN (the funding of the loan) will ordinarily be scheduled within two weeks after the award of the bid. Bond counsel will review the signed documents and deliver them to the bank, together with a legal opinion approving the borrowing and ordinarily an opinion as to the tax-exempt nature of interest income on the BAN. 5 Permanent financing of the construction project School units, of course, must obtain permanent (longer than the term of a BAN) financing for the project. Most school construction projects in Maine have obtained their permanent financing through the Maine Municipal Bond Bank or a commercial bank. The Maine Municipal Bond Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 4

5 Bank is a public agency created to assist Maine municipalities, school units and other local governmental entities in bringing their debt instruments to public market. Under the Bond Bank*s current procedures, local units are able to sell their bonds to the Bond Bank twice each year, in the spring and in the late fall. The Bond Bank will issue its own bonds in an amount equal to the cumulative total of the local issues it purchases. The Bond Bank sells its bonds in the national bond markets and passes the proceeds to the local units. If the local unit has issued a BAN to maintain cash flow on the project, the BAN*s are discharged from the proceeds of the Bond Bank loan and the balance of the money is used to complete the project. Alternative to the Bond Bank In the past few years, commercial banks have shown an increased interest in underwriting municipal school bond issues in Maine, including financing school construction projects. Superintendents involved in school construction projects should be aware that there are alternatives to the Bond Bank. The commercial banks suggest that one advantage of these alternate approaches is additional flexibility in the time an issue is brought to market. That is, units are not tied to the spring or fall issuances for establishing their permanent financing. If a local unit decides that issuing its bonds through a municipal securities underwriter rather than the Bond Bank is the preferred course of conduct, the unit must work closely with counsel to the underwriter to prepare the necessary disclosure documents. ENDNOTES A M.R.S.A. 1311(6) and 1702; 30-A M.R.S.A A M.R.S.A and A M.R.S.A ; 20-A M.R.S.A (S.A.D. s); 30-A M.R.S.A (municipalities and C.S.D. s) A M.R.S.A A M.R.S.A and 1702; 30-A M.R.S.A Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. INDEX ENTRIES: Construction bond anticipation financing real estate state board approval referendum referendum school construction bond anticipation notes school construction Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 5

6 bonds school construction Copyright Drummond Woodsum & MacMahon. All rights are expressly reserved. Page 6