METHODS OF BORROWING-SINKING-FUND v. SERIAL BONDS. WITH SPECIAL REFERENCE TO MASSACHUSETTS PRACTICE. I. DEFINITIONS. When a State or a municipality borrows money by the issue of bonds it may do so in one of two ways. It may sell a designated number of bonds all of which mature on the same date, twenty, thirty or fifty years hence, as the case may be. In this case the repayment of the principal is ordinarily secured by making annual contributions to a sinking fund which, with the accumulations from its investment, will be sufficient to amortize the principal when it falls due for repayment. Bonds thus secured are commonly called Sinking Fund Bonds. Or it may, on the other hand, issue a series of bonds in such a way as to make one or more of the bonds become payable in each successive year, the last bond in the series maturing twenty, thirty or fifty years hence, as the case may be. No sinking fund is required in this event; each year a sufficient sum of money is raised from revenues to pay off the bonds which fall due in that year. Bonds of this sort are commonly called Serial Bonds. It is not necessary that a uniform amount of serial bonds be made to fall due each year. The serials may be so arranged that more will mature in later years than in earlier or even so that none at all mature in the years immediately following the issue of the bonds. II. POLICY OF THE NATIONAL GOVERNMENT. The National Government has not hitherto pursued the policy of issuing bonds on the serial payment plan, nor has it, except in rare instances, made any provision for the creation of sinking funds. Where such provision has been made, moreover, it has not been scrupulously followed. A recent pronouncement from the Secretary of the Treasury indicates, however, that the serial payment plan may soon receive recognition in the borrowing policy of the nation. "I do not hesitate to say," wrote Secretary McAdoo on June 5, 1917, "that I have never regarded with favor the sinking fund idea with respect to public loans. The serial method I regard as far superior. Of course, the question of serial issues must depend upon the situations that have to be met. . . "In the future financial operations of the Government, issues of serial bonds as far as it is practicable to adjust them to the necessities of the case, and as far as it seems wise to adopt them as a matter of policy, will be made." 1 III. METHODS OF STATE BORROWING IN THE UNITED STATES. A few States of the Union pursue the policy of borrowing by the issue of bonds which mature together at a distant date without making any provision for the repayment of the principal by means of sinking funds. These States expect to refund their indebtedness as it matures by new issues of bonds. Examples are Alabama, Louisiana, Mississippi and North Carolina. Most of the remaining States protect their bond issues, either in whole or in part, by sinking funds. In the total outstanding direct and contingent indebtedness of Massachusetts, there is only one loan for the repayment of which no definite provision has been made. This is the indebtedness incurred under the provisions of Chapter 121 of the Acts of 1907, amounting to $219,000. This loan is repayable in any year at the option of the Treasurer and Receiver-General, but no sinking fund has been established to amortize it at any future time. The requirement that only serial bonds shall be issued by a public authority appears in the constitution of only one State of the Union, namely, Arkansas, where the provision applies only to municipal bonds.2 1 Boston Daily Advertiser, June 8, 1917. ? This provision was proposed by initiative petition and adopted by the voters of Arkansas in 1913 as an amendment to Article xvi, Section 1. IV. THE NEW YORK PROPOSALS. The New York Constitutional Convention of 1915 unanimously adopted a proposal for a constitutional amendment requiring the use of the serial plan in the case of all future bond issues by the State.1 The text of this proposed amendment is as follows: Except the debts specified in sections two and three of this article, all debts contracted by the State after the second day of November, one thousand nine hundred and fifteen, pursuant to an authorization therefor heretofore or hereafter made and each portion of any such debt from time to time so contracted irrespective of the terms of such authorization, shall be paid in equal annual instalments, the first of which shall be payable not more than one year, and the last of which shall be payable not more than fifty years, after such debt or portion thereof shall have been contracted. No such debt hereafter authorized shall be contracted for a period longer than that of the probable life of the work or object for which the debt is to be contracted, to be determined by general laws, which determination shall be conclusive. (Proposed New York Constitution, 1915, Article IX, Sect. 4.). An amendment was also proposed by the New York Convention requiring the serial plan of borrowing for municipalities which reads as follows: The Legislature shall provide for the method and limitations under which debts may be contracted by the cities, counties, towns, villages and other civil divisions of the State to the end that such debts shall be payable in annual instalments the last of which shall fall due and be paid within fifty years after such debt shall have been contracted and that no such debt shall be contracted for a period longer than the probable life of the work or object for which the debt is to be contracted. (Proposed New York Constitution, 1915, Article XI, Sect. 12.) The arguments set forth in the Convention in favor of this action may be found in Publication No. 5 of the Committee for the Adoption of the Constitution of the New York Constitutional Convention entitled "Saving the State's Money," by H. L. Stimson, Chairman of the Committee on Finance in that Convention. 1 The Convention also adopted a proposal of amendment permitting the Legislature to provide by general law for the conversion of outstanding sinking-fund bonds into serial bonds. See p. 168. V. MASSACHUSETTS LEGISLATION AND PRACTICE. As a matter of actual practice the issue of serial bonds, whether by States or municipalities, is a relatively recent development in public finance. The plan has, however, spread with considerable rapidity, and Massachusetts more than any other State has led the way. This Commonwealth is, so far as can be ascertained, the only one which by statute makes the use of the serial plan mandatory for all municipal and State borrowing whatsoever. A brief sketch of the development in Massachusetts may accordingly be of interest. Fourteen years ago, by Chapter 226 of the Acts of 1903, the Treasurer and Receiver-General was empowered, with the approval of the Governor and Council, to issue bonds on the serial plan "whenever he shall deem it to be for the advantage of the Commonwealth so to do." This act, however, made a special exception in the case of loans on account of the metropolitan districts (Section 3). Two years later, by Chapter 169 of the Acts of 1905, this exception was eliminated, and the Treasurer of the Commonwealth was given thereby the same option both as regards "direct" State loans and metropolitan district or "contingent" loans. In 1912 another statute dealing with the subject was enacted (Chapter 3 of the Acts of 1912), the essential provisions of which were as follows: SECTION 1. The Treasurer and Receiver General shall issue all bonds or scrip of the Commonwealth, now or hereafter authorized, upon the serial payment plan. The said plan shall provide for the issue of bonds or scrip to be paid serially in such amounts and at such times as shall be determined by the Treasurer and Receiver General, with the approval of the Governor and Council, to be for the best interests of the Commonwealth; the bond last payable in any such issue to become due at a date not later than the time named in the act. SECTION 2. The Treasurer and Receiver General shall annually certify to the Auditor of the Commonwealth the amount necessary to be included in the State tax to provide for such serial payments on account of any bonds or scrip of the Commonwealth, which amount shall be included in the State tax ordered to be assessed for the year in which such payments are to be made. SECTION 3. On all bonds or scrip that have been or may hereafter be issued for the benefit of any of the metropolitan districts, so-called, the Treasurer and Receiver General shall assess upon the said metropolitan districts annually amounts necessary for the payment of the serial bonds falling due, and shall collect the same in the same manner as assessments for sinking fund purposes are collected. . . . By the provisions of this statute the issue of bonds on the serial payment plan ceased to be within the discretion of the Treasurer and became mandatory. Prior to the passage of the act, however, the issue of such bonds had become a settled policy. No sinking fund bonds either directly on the account of the State or on account of the metropolitan districts have been issued since 1910. The total of the bonds issued upon the serial payment plan at the end of the fiscal year 1915-16 (November 30, 1916) was as follows: Direct debt, Contingent debt, Total, $18,021,868 73 3,867,131 27 $21,889,000 00 VI. THE USE OF THE SERIAL PLAN BY MASSACHUSETTS MUNICIPALITIES. (a) In General. By Chapter 27 of the Revised Laws (Section 13) as amended by Chapter 341 of the Acts of 1908 (Section 1)1 and Chapter 350 of the Acts of 1911 (Section 13), the municipalities of the Commonwealth have since 1882 been permitted to issue serial bonds. (See Chapter 133, Acts of 1882.) But many of them did not avail themselves of this permissive authority. The situation in 1910 as respects the municipalities of the Commonwealth was thus stated in the "Report of a Special Investigation Relative to the Sinking Funds and Serial Loans of the Cities and Towns of the Commonwealth" made by the Director of the Bureau of Statistics (House Document No. 2162, 1913): The total gross funded or fixed debt of the cities and towns of the Commonwealth at the close of the fiscal year corresponding most nearly to the calendar year 1910 was $238,592,264.82, of which $179,648,636.72 was of a 1 This section is in part repealed by the provisions of section 199 of chapter 742, Acts of 1914. |