The municipal market is rattled by legislation pending before the Senate that would require governments to standardize their financial reports, with opponents warning it would be onerous and costly and ultimately could shrink tax-exempt supply.
Supporters counter that the move would benefit investors and regulators and the cost of compliance is exaggerated.
Though introduced months ago, the Financial Data Transparency Act of 2022 has grabbed the market’s recent attention because it appears likely to be included in the National Defense Authorization Act for 2023, which the Senate needs to vote on by the end of the year.
The House in July easily passed the NDAA, with the FDTA attached, by a vote of 320 to 101.
The House tends to treat the NDAA like a “Christmas tree,” by hanging a lot of provisions onto it, which the Senate doesn’t always keep, said Emily Brock, chief lobbyist for the Government Finance Officers Association, which is opposed to the FDTA.
The GFOA published a Sept. 8 member alert on the topic, urging issuers to contact their senators and ask them to oppose including the bill in the NDAA.
“If it’s going to be attached, we fear that will get play in the Senate” because the NDAA is a must-pass bill by December, Brock said. “It’s absolutely going to be a part of what we’re doing next month.”
The FDTA, S. 4295, would require the Municipal Securities Rulemaking Board and other regulators to develop data standards and an implementation plan standard over the next four years that moves municipal issuers and other financial entities toward a financial reporting standard like eXtensible Business Reporting Language, or XBRL. The bill does not name a specific standard.
Muni issuers have always been free of direct regulatory requirements on the presentation and delivery of their financial disclosure, though the SEC since 2009 has required private companies to use XBRL on their financial statements.
In practice, the SEC regulates continuing disclosure in the muni market by means of regulations imposed on underwriters in rule 15c2-12. That rule requires that underwriters ensure that issuers have entered into contractual agreements to provide certain information to investors on an ongoing basis.
In their member alert, the GFOA called the bill an unfunded mandate that “would require extensive staff time along with the need for consulting resources and potentially risky updates to government financial systems.” The mandate for a specific technology poses a problem given “the wide variety of governments our market represents,” the group said.
Municipal Market Analytics, in a Sept. 12 brief, warned Congress may “seize control over state & local disclosure,” and that the law could spell the end of the Tower Amendment, which ensures that the Securities and Exchange Commission and MSRB cannot require municipal issuers to file information with them prior to the sale of securities.
If enacted, the bill could also ultimately mean less tax-exempt paper coming to market, particularly from smaller issuers that may be inclined to turn instead to bank loans or private placements to avoid burdensome financial reporting requirements, MMA said.
“It is important to note that there is currently not a single accounting system used by all municipal governments nor is there anything resembling consistency in the functions, terminology, or practices among the approximately 90,000 state and local governments,” MMA said.
“Were this bill to become law in its current form, large numbers of municipal borrowers will eschew the capital markets altogether,” the brief said, predicting that the 35,000-issuer strong market may shrink by 10,000 or more issuers, “erasing a material supply of smaller, tax-exempt issuance.”
If the Tower Amendment remains intact, responsibility for enforcing the new regulation would likely fall to underwriters under Rule 15c2-12, MMA said.
Not all market participants oppose the bill.
“Why is it that municipal bond investors can’t have ready access to standardized information about the revenues, expenditures, assets and liabilities of state and local governments?” asked Marc Joffe, senior policy analyst at the right-leaning Reason Foundation, who has long been an advocate of financial standards like XBRL. “Or should there be no progress in financial disclosure and we don’t want regulators to get a better handle on what’s happening in the financial markets?”
Joffe dismissed concerns about compliance costs, saying the average annual reporting cost for a small public company to report four times a year was $5,500 in 2018.
Joffe also noted that the MSRB, which would be crafting the implementation plan, could include carve outs for smaller issuers.
The bill has pros and cons, said Tom Kozlik, head of municipal research and analytics at Hilltop Securities.
Though it would likely “pose a financial and managerial burden,” the bill, if passed, would also “provide a modern upgrade on the data side where public finance disclosure is concerned,” Kozlik said in a Sept. 14 commentary.
“We believe improving and especially modernizing data involved in public finance related disclosure is a step in the right direction, even if it is long overdue,” Kozlik wrote.
The move towards data standards has gained a bit of traction among the states, which have imposed various degrees of standards on their local governments.
Michigan has launched a pilot program to explore the feasibility of using XBRL instead of the current PDF format. Florida passed financial reporting legislation in 2018 and standards took effect on Sept. 1, but it’s limited to Florida-specific required reports. California lawmakers passed legislation in 2019 to set up a commission to study the subject but Gov. Gavin Newsom vetoed it.