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• Overview
• The State's Current Debt Situation
• Effects of Bond Proposition 81 on this Ballot

What Is Bond Financing? Bond financing is a type of long-term borrowing that the state uses to raise money for specific purposes. The state gets money by selling bonds to investors. The state repays this money plus interest.

The money raised from bonds primarily pays for the purchase of property and construction of facilities--such as parks, prisons, schools, and colleges. The state uses bond financing mainly because these facilities are used for many years and their large dollar costs are difficult to pay for all at once.

General Fund Bond Debt. Most of the bonds the state sells are general obligation bonds. The state's debt payments on about 85 percent of these bonds are made from the state General Fund. The money in the General Fund comes primarily from state personal and corporate income taxes and sales taxes. The remaining general obligation bonds (such as housing bonds) are self-supporting and, therefore, do not require General Fund support. All general obligation bonds must be approved by a majority of voters and are placed on the ballot by legislative action or by initiative.

The state also issues bonds known as lease-payment bonds. These bonds do not require voter approval and require the state to pay a higher interest rate and selling costs than for general obligation bonds. The state has used these bonds to build higher education facilities, prisons, veterans' homes, and state offices. The General Fund is also used to make debt payments on these bonds.

What Are the Direct Costs of Bond Financing? The state's cost for using bonds depends primarily on the interest rate that is paid on the bonds and the number of years payments are made. Once bonds are sold, the state makes regular debt service payments to investors, usually over a 30-year period. According to estimates by the Legislative Analyst's Office (LAO), each $1 billion of bonds sold costs the state approximately $65 million per year to repay the amount borrowed along with interest. Over a 30-year period, at a 5 percent interest rate, the state will pay about $2 for each $1 it borrows. Adjusting for the fact that a dollar will be worth less in the future than it is today, each dollar borrowed represents a cost to the state of about $1.30.

THE STATE'S CURRENT DEBT SITUATION

(Reprinted from the Legislative Analyst's Office)

Amount of General Fund Debt. As of January 1, 2006, the state had about $44 billion of infrastructure-related General Fund bond debt outstanding on which it is making principal and interest payments. This consists of about $36 billion of general obligation bonds and $8 billion of lease-revenue bonds. In addition, the state has not yet sold about $32 billion of authorized general obligation and lease-revenue infrastructure bonds. This is either because the projects involved have not yet been started or those in progress have not yet reached their major construction phase. The above totals do not include the deficit-financing bonds identified above.

General Fund Debt Payments. We estimate that General Fund debt payments for infrastructure-related general obligation and lease-revenue bonds will be about $3.8 billion in 2005-06. If previously authorized but currently unsold bonds are marketed, outstanding bond debt costs would rise to approximately $5.8 billion in 2010-11, and slowly decline thereafter if no new bonds are authorized. If, in addition, the annual costs of the deficit-financing bonds are included, total debt-service costs will be $5.1 billion in 2005-06, rising to a peak of $7.6 billion in 2010-11 before declining. These amounts would be higher if repayment of the deficit-financing bonds is accelerated using transfers from the Budget Stabilization Account that was established by Proposition 58 (approved in March 2004).

Debt-Service Ratio. The level of General Fund debt service stated as a percentage of state revenues is referred to as the state's debt-service ratio (DSR). This ratio is used by many policymakers and members of the investment community as one indicator of the state's debt burden. The DSR increased in the early 1990s and peaked at 5.4 percent before falling back to below 3 percent in 2002-03, partly due to some deficit-refinancing activities. The DSR then rebounded beginning in 2003-04 and currently stands at 4.3 percent. It is expected to increase to a peak of 4.9 percent in 2009-10 as currently authorized bonds are sold off. If the annual debt service on the deficit-financing bonds is included, the ratio is currently at 5.7 percent and will increase to a peak of 6.5 percent in 2009-10 before declining in subsequent years.

EFFECTS OF BOND PROPOSITION 81 ON THIS BALLOT

There is one bond measure on this ballot, Proposition 81, which would authorize the state to issue $600 million of general obligation bonds to finance library construction.

Impacts on Debt Payments. If the $600 million in bonds on this ballot are approved and eventually sold at an interest rate of 5 percent, they would require total debt-service payments of $1.2 billion over their 30-year life, including $600 million for principal and $570 million for interest. The average annual payment would be about $40 million.

Impact on the Debt-Service Ratio. Because of the state's large revenue base, the annual debt service on these bonds would only slightly increase the DSR.