Capital Financing: Debenture Issuance and Credit Ratings
This Note is part of a series of Notes on key City issues to update City Council at the start of its 2018 – 2022 term.
The City’s capital projects are financed by a variety of sources including contributions from the operating budget (“capital from current”), reserves and reserve funds and grants from other levels of government, as well as the issuance of debt.
At the beginning of a term, City Council must consider a bylaw that provides the Mayor or the Mayor’s alternate (Deputy Mayor or Budget Chair), and the Chief Financial Officer with the delegated authority to negotiate a debenture issue up to an annual dollar limit determined by Council.
Authority to issue debt
The City is governed by the City of Toronto Act (COTA) which has specific debt regulations that apply to the City. As required by COTA, City Council adopted a Financing of Capital Works Policy to ensure compliance with the debt issuance and management provisions contained in the COTA while providing Council with the flexibility to meet the City’s annual capital needs during its term-of-office.
At the beginning of a term of City Council, a bylaw is adopted that provides the Mayor or the Mayor’s alternate (Deputy Mayor or Budget Chair), and the Chief Financial Officer with the delegated authority to negotiate a debenture issue up to an annual dollar limit approved by Council.
Since the financial markets require the City to be able to act quickly when issuing debt which often cannot be accommodated by the City Council meeting schedule, authority to adopt debenture bylaws has been delegated to the Debenture Committee under City of Toronto Municipal Code Chapter 30.
An Ontario municipality may issue long-term debt only for capital purposes and cannot borrow for operations. The only exception is issuing promissory notes that must be repaid with the current year’s tax levy. It is the City’s practice to temporarily finance its capital expenditures from working capital until such expenditures are permanently financed by issuing long-term debentures. The City is also allowed to temporarily borrow to finance capital projects before replacing with permanent financing.
Amount of debt approved by City Council 2015 – 2018:
- For entering into agreements for issuance of debentures or bank loans the Council approved limit was up to $900 million for each of 2015, 2016 and 2017, and $950 million for 2018.
- For operating purposes, Council approved limit to temporary borrow (promissory notes) was $300 million at any time per year for 2015-18.
- For capital purposes, the Council approved limit to temporary borrow for capital works was $300 million per year for 2015-2018.
Term of debt approved
The City, as well as other Ontario municipalities, may issue long-term debt only for capital purposes to a maximum term-to-maturity of 40 years or the useful economic life of the asset, whichever is less. The City has only issued debt with maturities up to 30 years. The City is only allowed to borrow for current operations through the issuance of promissory notes which must be repaid when the current year’s tax levy is received.
Unlike other levels of government, municipalities are required to amortize the principal borrowed over the term of the debenture. The federal and provincial governments are allowed to refinance their debt when it matures. The City must pay both principal and interest while the other levels of government can pay only the interest on their debt.
The City’s annual contributions to the sinking funds are held in an investment fund for repayment of the original amount of the debt at maturity. These annual contributions, plus investment income, are calculated and adjusted if necessary to be sufficient to repay the investors who hold City debt when it matures.
The City auditor certifies the sinking fund balance annually. If the balance certified is less than the amount required in the year for the repayment of the sinking fund, the City will pay an amount sufficient to make up the deficiency into the sinking fund.
The table below provides a summary of the City’s gross and net debt positions for 2016 and 2017. The table excludes Toronto Community Housing Company (TCHC) mortgages which amount to an additional $1.3 billion. Net debt is defined as the City’s gross debt less the amount in the Sinking Fund that has been accumulated for the future repayment of debt when it matures.
|City of Toronto Long-Term Debt ($ billion)||2017||2016|
Debentures Issued By the City (Total Outstanding)
Less: Sinking fund deposits – City
Net Long Term Debt (Unconsolidated)
Less: Solid Waste (a rate-supported program) (net of sinking fund)
|Net Tax Supported Long Term Debt||$4.3||$3.8|
Debt Service Limits
The average Debt Service Ratio (tax-supported debt charges, consisting of principal and interest and funded from the operating budget as a percentage of City’s property tax levy) cannot exceed 15 percent over a 10-year period.
The budgeted tax-supported debt charges for 2018 is $569 million. The forecasted Debt Service Ratio is 13.5 percent for 2018.
The Debt Service Ratio in the City Council approved 2018 budget, and 2018-2027 capital plan is below 15 percent over 10-year rolling average.
Currently, the City of Toronto’s credit ratings are:
- AA (stable outlook) from the Dominion Bond Rating Service (2 levels below AAA)
- AA (stable outlook) from Standard and Poor’s Canada (2 levels below AAA)
- Aa1 (stable outlook) from Moody’s Investor Service (1 level below Aaa)
The credit rating agencies generally consider the following strengths as credit positive for the City:
- City’s debt is low in comparison with other Canadian and international municipalities.
- Progress in eliminating the use of one-time revenues to balance the operating budget.
- High levels of liquidity to provide flexibility in the event of having the ability to survive and operate within volatile financial markets.
- A very strong and diversified local economy.
The City’s credit ratings are reviewed annually by the respective credit rating agencies and more frequently if warranted by external economic and political events.
The City issued an inaugural green debenture offering of $300 million in 2018. Toronto is the largest municipal Green Bond Issuer in Canada. Net proceeds of the Green Bond Program are directed to finance capital projects that mitigate, and adapt to, the effects of climate change. This $300 million issue, with a 30-year maturity and a coupon interest rate of 3.2 percent, represented the lowest borrowing cost the City has been able to achieve for a 30-year term.