09/29/2015 09:29 am ET Updated Sep 30, 2016

Congress: Please Fix Your "Water Fix"

Hemera Technologies via Getty Images

In 2014, Congress actually passed a law to help fix the $2 trillion water infrastructure gap; but as it made its way through both Houses some well-intentioned amendments crippled it. The "fix" needs fixing in the next session.

The law in question is the Water Infrastructure Finance and Innovation Act, or WIFIA, for short. This law was intended to help fix the gap in water infrastructure -- both drinking water and wastewater -- over the next 30 years, which the American Water Works Association estimates at $2 trillion! WIFIA was intended to supplement the wildly successful Clean Water State Revolving Fund (CWSRF) and the Drinking Water State Revolving Fund (DWSRF). Since its passage in 1987, the CWSRF has provided over $100 billion of financial assistance to over 33,000 projects. This means, however, that the average CWSRF project size is about $3 million. For drinking water, the average is even lower: $2.4 million. That is one of the issues that WIFIA addresses. WIFIA is for large projects: $20+ million (except for some small communities).

WIFIA was to provide U.S. Government loans or loan guaranties for water and wastewater projects at U.S. Treasury rates. It would do so both through EPA and the U.S. Army Corps of Engineers. So, is this just another big-government, federal give-away program that will cost U.S. taxpayers a fortune? Absolutely not. WIFIA could be one of the most cost-effective programs ever.

As you know, water and wastewater utilities are funded by water rates and charges that every business, household, church, hospital, not-for-profit -- everyone -- pays. That's the point. Everybody pays. And they do so regularly and religiously. The default rate on loans to water/wastewater utilities is 0.04%. That is 4 in every 10,000! If you invested $100, you'd lose 4¢. That's almost unbelievable! Now, you don't have to believe your humble author, here, about this. Instead, trust the pros, the three international credit rating agencies: Standard & Poor's, Moody's Investor Services, and Fitch Ratings. They will tell you that water and wastewater loans are the single most secure form of lending. (Congress uses default factors such as the 0.04% for water/wastewater projects as reserves to budget for possible losses to the Treasury.) Congress needs to call the rating agencies to testify about the size of the reserves needed. And, speaking of Congress, that is why WIFIA badly needs a fix.

WIFIA's original architects wanted a 100% government loan or loan guaranty program for projects over $20 million. Simple enough. But everyone knows that sometimes - even with water/wastewater loans with a 0.04% default rate - they don't get paid. So, forces in Congress began worrying about how to further minimize losses to the U.S. Treasury. So, they inserted three provisions. First, they lowered the funding amount from 100% to 49%. Next, they said that tax-exempt municipal bonds couldn't be used to fund the other 51%. Finally, they said that the 49% WIFIA share couldn't be subordinated to the 51% of other money. Unfortunately, these three - otherwise well-intended - provisions crippled WIFIA. Although WIFIA was signed into law by the President on 10 June 2014, neither EPA nor the Corps have organized WIFIA programs through September 2015. True, Congress did not fund WIFIA, only gave EPA $2.2 million to organize its program, and gave the Corps nothing; still neither agency has any projects to take to the Hill to request funding for in 2016! The problem is WIFIA's broken structure.

Congress needs to fix WIFIA in 2016. WIFIA is a very good idea; but it is just badly in need of a fix. There will be a major transportation bill in 2016, just the type of legislation that WIFIA amendments can be attached to. Here's at least one way amendments can fix WIFIA.

Let's begin by seeing just how much money the Government actually saves with these three crippling provisions that were inserted at the last minute.

Take a medium-sized city in California that needs to spend $100 million on a desalination plant to help with their drought. Thirty-year Treasury rates are about 3% in today's world. So, WIFIA can furnish the city $49 million at 3% for 30 years. Now, where do they get the other $51 million? They can't use tax-exempt bonds. And they can't subordinate. So, they get the $51 million from some pension funds or other mutual funds that want a "green" component to their portfolio - but they aren't going to invest on the cheap. These funds want 5-7% for their investors/pensioners. Call it 6%. That means that for the $100 million project, the city is going to have to pay $6.2 million a year. Meanwhile, since we said the default rate on these loans is 0.04%, this means that there should be a $40,000 loss reserve on this $100 million desalination project. The Treasury's share of this reserve is 49%, about $20,000. That's what they've got to budget.

Ok, so with WIFIA the city pays $6.2 million and the Treasury notionally loses $20,000.

What's the alternative?

The alternative is that the city issues $100 million of tax-exempt bonds on its own, without WIFIA. Now, let us say that the best - AAA - tax-exempt bonds sell at 3.5%. But let's say that our California city is not only out of water, but they are debt-strapped as well - just the kind of city that needs a well-fixed WIFIA! So, let's say that our city can only sell 30-year tax-exempt bonds for 4.25%. In this case the city will have annual payments of just under $6,000,000. So, the city would save $200,000 a year for 30 years by not using the broken WIFIA program.

Good for the city. What about the Treasury?

Well, in the first year, there is $4,250,000 of interest income on the city's bonds; but it is tax-exempt. So, the Treasury misses out on the tax from this $4.25 million. Let's say that, if they weren't exempt, the Treasury would normally get about 25% of these funds in taxes. Twenty-five percent of $4.25 million is $1,062,500.

So, here's the situation: If our city uses WIFIA, it costs them $200,000 more a year for 30 years and it costs the Treasury a notional $20,000.

If our city doesn't use WIFIA, it saves them $200,000 a year and it costs the Treasury $1,062,500 in the first year alone - and much more over the next 29 years! Hello? Does anyone need to be a rocket scientist to figure this one out?

Now, here's some icing for this cake.

If Congress permitted tax-exempt funding for the other 51% AND they permitted subordination, the 51% would sell much more cheaply at, say, 3.5%. In this case there would be only $1,785,000 of income that was exempt, which, with the Treasury's normal 25% take, would mean they were losing just under $450,000 in taxes. They would, of course, also have the $40,000 reserve, for a total of $490,000.

So, Congressmen, which would you rather have our Treasury lose $1,062,500 if you don't fix WIFIA, or $490,000, if you do? Here's your WIFIA agenda for 2016: permit funding of the non-WIFIA 51% with tax-exempt municipal bonds; and permit subordination!